Revised Form 5500 and ERISA 404(c) Compliance By Fred Reish, Bruce Ashton and Gail Reich The new Form 5500 requires that the preparer know whether a participant-directed plan intends to comply with ERISA §404(c). The inquiry regarding 404(c) compliance raises material, substantive issues. Since the initial wave of filings on the new 5500 Form are due on October 16 (for calendar 1999 plan years), the issue of intent with respect to 404(c) compliance requires prompt attention. As a matter of background, 404(c) provides specified defenses -- or liability protections -- to the fiduciaries of a participant-directed plan (typically, a 401(k) plan) if the plan satisfies the conditions in the 404(c) regulations. The best known of the defenses is protection from the participants' asset allocation decisions (for example, a 64-year old who invests 100% of his account in a volatile sector fund or a 25-year old who invests 100% of her money in a money market account). The 404(c) inquiry is found in Item 8a of Form 5500. It requires that the applicable "Plan Characteristic Codes" be identified. Three of the listed codes for defined contribution plans make specific reference to participant-directed accounts and ERISA 404(c) plans. To quote from the instructions: 2F ERISA section 404(c) Plan - This plan, or any part of it is intended to meet the conditions of 29 CFR 2550.404c-1. 2G Total participant-directed account plan - Participants have the opportunity to direct the investment of all the assets allocated to their individual accounts, regardless of whether 29 CFR 2550.404c-I is intended to be met. 2H Partial participant-directed account plan - Participants have the opportunity to direct the investment of a portion of the assets allocated to their individual accounts, regardless of whether 29 CFR 2550.404c-1 is intended to be met. The person preparing the Form 5500 will likely know whether the plan is a totally or partially participant-directed and can, therefore, determine whether "2G" or "2H" is applicable. However, this generally will not be the case with respect to "2F." Typically, whether a plan intends to be 404(c) compliant cannot be garnered from the information readily available to the third party administrator "TPA" or other preparer of the form. For this reason, a TPA filling out the form will need to obtain information from, and perhaps consult with, the plan sponsor. Some preparers may opt to use a "default" response of including Code "2F" on the 5500. However, senior officials at the Pension & Welfare Benefits Administration "PWBA" have indicated that a misrepresentation about 404(c) compliance would raise issues under ERISA. At last year's ASPPA Annual Conference, two senior PWBA officials, in response to a question about 404(c), responded: There may be an issue if a fiduciary is representing to plan participants that the plan is a 404(c) plan, but the fiduciary is clearly not complying with the 404(c) regulations. In general, enforcement by the Department is focused on the mandatory requirements imposed by ERISA, but not on the voluntary aspects, unless it rises to the level of misrepresentation to plan participants. That statement must be viewed in the context of ERISA section 104(b)(2) which requires the plan administrator to furnish the Form 5500 to any participant who requests it. A "disclosure" on the form that the plan intends to be 404(c) compliant might result, as suggested above, in a fiduciary breach if the Plan sponsor has not made an effort to comply with 404(c). The problem is compounded by the high incidence of misunderstanding of the 404(c) requirements and the failure of plan sponsors to take reasonable steps to obtain its protections. In the 404(c) audits that we have conducted, virtually none of the plans met all the requirements in the regulations. On the other hand, industry surveys typically show that over two-thirds of the plan sponsors believe they are in compliance. This is due to the widely held belief that 404(c) compliance requires little more than offering three or more diversified investment choices. In fact, the 404(c) regulations have 20 requirements (more, if employer securities are involved). While automatically including "2F" among the Plan Characteristic Codes on the 5500 could be problematic, failure to include "2F" could also haunt the plan sponsor. For instance, in a lawsuit for fiduciary breach, a fiduciary may assert 404(c) protection. Opposing counsel could seize upon the absence of "2F"' on Form 5500 as a self-admission of noncompliance with the 404(c) requirements. The person completing a Form 5500 and the plan fiduciary signing the Form need to be, at the very least, aware of the consequences of including or not including "2F" among the Plan Characteristic Codes in Item 8a. The TPA's data collection materials should request the needed information from plan sponsors, and its staff should be alerted to the sensitive nature of the question. In addition, TPAs should be prepared to consult with plans sponsors on 404(c) protection and its requirements or refer them to someone who can. © 2000 American Society of Pension Actuaries. Article originally appeared in ASPA ASAP, No. 2000-29, August 1, 2000. Reprinted with permission.