Are Educator Retirement Plans Getting Hijacked by Compliance Administrators?
Some Compliance Administrators of 403(b) and 457(b) plans might be up to more than compliance
There is a critical gatekeeper in public K-12 403(b) and 457(b) retirement plans, the compliance administrator. Compliance administrators assist school employers in keeping the 403(b) and 457(b) aligned with federal and state laws, rules, and regulations. These companies exercise significant control over public K-12 retirement plans. While some very good compliance administrators serve school districts, there is also a lot of abuse.
We’ll highlight examples of this abuse in a new series, Hijacked.
Compliance Administrators for multi-vendor 403(b) and 457(b) plans should be independent of the vendors they oversee. The reason for this independence is to ensure there is no favoritism or special relationships that can cloud the administrator's judgment. In reality, very few compliance administrators are independent. Most compliance administrators receive significant portions of their revenue from vendors. This revenue may cloud the decisions the administrators make.
A compliance administrator can provide competent services when receiving revenue from vendors, but proper safeguards and oversight must be in place. These safeguards are rare.
A compliance administrator might receive revenue from a vendor from various sources. Some sources are less conflicted than others, but receiving revenue from a vendor is a conflict of interest that should be managed and disclosed.
Author’s Note: In my professional opinion, public school districts should insist on paying for compliance services to eliminate the conflicts of interest inherent in running a multiple vendor 403(b) plan (keep in mind that I don’t believe K-12 403(b) plans should be multi-vendor). If they don’t want to pay for these services (which is understandable given budget restraints), they can take the plan single vendor (either on their own or by joining a quality consortium) and structure the plan in a way in which the conflicts are eliminated or significantly reduced. Short of taking control of the plan, the school district could charge a payroll fee to the employee to recoup the cost of compliance (not my favorite option as it leads to some participants paying more than they should).
As a compliance administrator, there are many ways to extract revenue from 403(b) and 457(b) plans.
Administrators may charge fees to vendors and participants, receive interest on the float, share revenue generated from financial product sales, sell financial products directly to participants, or even sell the data they acquire (a big no-no). In this piece, I will focus on just one method: extracting revenue from the employer’s defined contribution plans by controlling who the vendors and vendor representatives are for the 457(b). This is one method of hijacking a retirement plan.
Hijacking a defined contribution plan in the public K-12 space is not new; it was the business model of several California compliance administrators for decades before the IRS issued new regulations in 2007 (which went into effect in 2009). Compliance administrators performed common-remitting functions for a school district (acting as a single payroll slot to send money to multiple vendors on behalf of the school district). They used that position of power to control what vendors were available and to sell products from those vendors for commissions and fees.
Hijacking might start when a compliance administrator offers services to a school district for “no cost.”
The services the compliance administrator provides are not cheap, so there needs to be a method to recoup the costs and also turn a profit. This is generally done by charging fees to the vendors of the 403(b) plan ($3 per contributing employee during the month, for example) and, more importantly, taking control of the employer’s 457(b) plan and using it to generate revenue. In the situation presented, the income is generated in two ways:
1. Splitting commissions and fees from the sale of financial products within the 457(b) sold by representatives selected by the compliance administrator.
2. Mining the relationships developed using the first method to sell 403(b) and ancillary financial products for a commission or fee to employees by the representatives the compliance administrator selects.
A compliance administrator tells a school district they are providing free compliance services in exchange for exclusivity on the 457(b) plan. The administrator does not take on a fiduciary responsibility and usually disclaims it in their contracts. The compliance administrator then chooses the 457(b) vendors but makes it appear the school districts made these choices.
This system will look different depending on the compliance administrator; we’ll focus on one administrator for whom we have a contract and who services dozens of California school districts. We found the contract via a simple Google search. You can find a sample of that contract here (unless they’ve removed it, in which case you can find it here).
This compliance administrator claims that the employer has complete control over their 457(b) plan as the plan sponsor in Article II Section 2.a.:
“All rights, privileges and responsibilities for establishing the terms and conditions of the Plans, implementation of the Plans and managing the Plans will be at the sole discretion and direction of Employer as Plan Sponsor.”
While this clause seems to allow the employer to choose its vendors for the 457(b), additional clauses seem to restrict this right.
“WHEREAS, “compliance administrator name redacted” provides General Compliance and Plan Education services to Employer and Employees, and in the case of 457 Plan only, “compliance administrator name redacted” serves as the exclusive designator of the investment provider representative(s) who are authorized to offer investment products under the 457 Plan;”
And,
““compliance administrator name redacted” will provide Plan education services to Employer and Employees and, in the case of 457 Plan only, “compliance administrator name redacted” shall serve as the exclusive designator of the investment provider representative(s) who are authorized to offer investment products under the 457 Plan.”
You will notice in these two different contract provisions that the compliance administrator does not say they serve “as the exclusive designator” of the vendors for the 457(b) plan; it says “investment provider representatives.”
This is a crucial distinction.
Make no mistake: The compliance administrator is deciding which 457(b) vendors will be allowed in the plan.
The contract doesn’t state this, and they’re careful to say they are not fiduciaries (though choosing vendors and vendor representatives is a fiduciary act). The compliance administrator seems to be concerned about being viewed as a fiduciary in their contract and adds a provision to rid themselves of the responsibility they might have with the following provisions:
““compliance administrator name redacted” are neither investment advisors nor Fiduciaries and have no responsibility to furnish Employer or Employees with investment material, advice, or information or to make any investment recommendations. “compliance administrator name redacted” have no investment discretion over Plan assets. Further, “compliance administrator name redacted” shall have no liability to any person as a result of any investments or use of Plan assets made pursuant to the direction or instructions of any Plan participant, Employer or investment advisor to the Plan. “compliance administrator name redacted” shall have no liability for the accuracy or completeness of any of the books or records of the Plan for any period preceding the effective date of this Agreement.”
What is actually going on here?
We won’t get into the fact that the term “investment provider representative,” isn’t defined, and it isn’t clear if it refers to someone acting as a fiduciary at all times or simply a broker who sells products for commission (or an insurance agent).
The compliance administrator seems to perform a fiduciary function (“designator of the investment provider representative”) while disclaiming any fiduciary responsibilities.
They want the revenue from the sale of products in the 457(b), but not the legal responsibility that comes with it.
The contract doesn’t require the school district to offer only vendors the compliance administrator chooses; instead, it requires them to offer representatives that the compliance administrator appoints as “exclusive designator of the investment provider representative(s) who are authorized to offer investment products under the 457 Plan.” In other words, the compliance administrator appoints and controls the reps for the 457(b) plan and can use those relationships to generate revenue, though there does not appear to be any disclosure of revenue sharing in the agreement.
If the compliance administrator is supposed to be independent of the vendors, how independent can they be if they limit the available vendors to ones that promise to work with the representatives appointed by the compliance administrator? This is a significant conflict of interest.
The compliance administrator may not technically choose the 457(b) vendors, but in practice, since they choose the representatives, only those vendors who work with those representatives will be allowed. They push the school district to allow the vendors that work with the administrator’s chosen representatives. At the end of the day, it’s the administrator, not the school district, controlling the 457(b) vendors. Yet, the compliance administrator claims they are not “investment advisors nor Fiduciaries.” To be clear, the school districts can select other 457(b) vendors, but if those vendors don’t have representatives “exclusively designated” by the compliance administrator, there could be an issue.
When compliance administrators generate revenue through financial product sales and steer the districts to use vendors that will share revenue with representatives they’ve appointed, who in turn share that revenue with the administrator, they’ve, in my opinion, effectively hijacked the 457(b) plan. The school district no longer has the ability to choose their vendor(s) for the 457(b) and may be violating their fiduciary duty to their employees.
If the employer is prevented from selecting the vendor(s) they desire for their 457(b) because the compliance administrator retains such rights, the employer is no longer in control. The employer has effectively delegated this duty. The compliance administrator has seized control but disclaimed any liability, all while using the plan and its participants to generate revenue.
This is not how a fiduciary retirement plan is run.
This is not a “no cost” plan.
“We provide 403b/457b Plan Administration (TPA) and Common Remitting services at NO Cost to Plan Sponsors.”
Notice how it doesn’t say “no cost” to the participant. Employers can hire compliance administrators at no cost because they allow them free reign to create arrangements with financial salespeople to sell financial products to employees while splitting the revenue generated from those sales.
I’m not saying the employer knows this is happening or even understands it.
Is the compliance administrator a financial product sales organization in disguise?
If you dig just a little deeper, you’ll find that this particular compliance administrator is affiliated with one of the 403(b) and 457(b) vendors.
Not all compliance administrators generate revenue from selling financial products within a multiple-vendor environment. It’s also not always the wrong decision to hire a vendor or a compliance administrator associated with a vendor as your compliance administrator. The key is understanding who is in control of the plans and profiting off your plans. A school district that takes its plan from many vendors to a single vendor and uses that single vendor to provide compliance is not nearly as problematic as the above example. It’s often the best option (as long as you’ve created safeguards for your employees when selling ancillary financial products).
Has a compliance administrator hijacked your school district’s multi-vendor retirement plan(s)?
Here are five questions to ask your compliance administrator; their answers will tell you everything you need to know:
1. Does your firm or its affiliates receive any revenue from the vendors in the 403(b) or 457(b) that is not a flat fee for compliance? If yes, please describe the arrangement and disclose all revenue earned from each vendor over the past 12 months by you and your affiliates (in California, compliance administrators are required by law to provide this data).
2. Is the school district free to appoint any vendor or even a single vendor for our 457(b), even if it means the only revenue your firm receives is from a flat compliance fee?
3. Please describe in detail all possible conflicts of interest your firm has concerning the vendors in our plan.
4. Is your firm or its employees or affiliates registered as an insurance agent, registered representative, or investment advisor rep? If yes, please list those affiliations and registrations and the companies involved.
5. Is your firm affiliated with a Broker/Dealer? If so, please describe.
If you are a public school district in California, there is a law that requires disclosure of the above. 403bwise.org has created a resource to help you obtain this information.