Fee Transparency and Best Practices for Plan Sponsors Presented by Marcia S. Wagner, Esq. Sponsored by: All investments involve risk, including possible loss of principal.

2 Overview Underlying reasons for complexity of 401(k) fees Potential steering to higher cost services How an incomplete understanding of 401(k) fees can trigger fiduciary violations DOL’s fee-related requirements for plan fiduciaries Best practices for plan sponsors

3 The Call for Fee Transparency U.S. government is calling for greater transparency in 401(k) plan fees U.S. Senate Special Committee on Aging Obama Administration U.S. Department of Labor (DOL) Courts and class action lawsuit attorneys Plan sponsors need to understand their fee-related duties General responsibility to manage plan as “Named Fiduciary” Specific duty to evaluate reasonableness of plan fees Lack of fee transparency is not a defense

4 Why are 401(k) Fees So Complex? Complexity of underlying service arrangements Multiple providers may service a single plan Vendors provide increasingly specialized services Fees are intertwined Plan fiduciaries should bear in mind: Use of subcontractors by service providers Indirect compensation from plan investments and investment providers

5 Utilization of Subcontractors Nature of plan services Costly, technical and increasingly specialized Requires both bundled providers and TPAs to rely on subcontractors For example, TPA may subcontract with a recordkeeping platform Utilization of subcontractors adds complexity to fee arrangement Difficult to distinguish provider’s services from subcontractor’s services Plan sponsor may be unaware of fees paid to subcontractor, or identity of subcontractor

6 Indirect Compensation from Plan Investments and Investment Providers Indirect compensation adds complexity to fee arrangement Indirect compensation is a prevalent practice Payments typically flow from investments or investment providers to plan’s administrative service providers Compensation practices have roots in “dual” ownership structure of 401(k) plans

7 Tracking Ownership of Funds: Individuals vs. Plan Participants Individual A Fund XFund Y Plan #1Plan #2 Individual A Individual C Individual E Individual B Individual D Participant A Participant C Participant E Participant B Participant D Fund’s TA tracks individuals. Fund’s TA tracks each plan. Each plan’s RK tracks participants.

8 Potential Steering to Higher Cost Services Plan sponsor may be unaware of indirect compensation flowing to a provider If so, sponsor is unaware of true cost for provider’s services U.S. Government Accountability Office (GAO) has investigated this problem “Free” services can be based on hidden fees, resulting in higher investment costs Service providers may have incentive to steer sponsors to certain arrangements Arrangements with hidden fees can result in higher overall compensation Services with low “hard dollar” fees may appear to be cheaper Plan sponsor may purchase costly services, while believing in good faith that they are inexpensive

9 Incomplete Understanding of 401(k) Fees Can Trigger Fiduciary Violations 401(k) fiduciaries are subject to various duties under ERISA Duty to ensure each investment option in plan’s menu is prudent, which means ensuring fees are not excessive Duty to ensure fees paid by plan to providers are reasonable Penalties for breaching duties can be substantial Payment of indirect compensation is permitted under ERISA But gaps in fiduciary oversight can occur if plan fiduciary is unaware of indirect compensation Gaps in oversight can hurt plan participants Gaps can also result in potential liability for plan sponsor

10 DOL’s Fee-Related Requirements for Plan Fiduciaries Plan sponsor must identify and review all plan fees DOL is in process of finalizing its fee-related rulemaking Enhanced reporting of indirect compensation on Form 5500 begins with 2009 plan year Service providers must provide fee disclosures to plan sponsors, effective July 16, (k) plan sponsors must provide participant-level fee disclosures beginning with plan years on or after Nov. 1, 2011

11 DOL’s Fee-Related Requirements for Plan Fiduciaries (cont’d) Plan sponsor must engage in “objective process” that is “designed to elicit” necessary information to assess: Qualifications of provider Quality of services offered Reasonableness of fees charged Sponsor should seek advice of expert if it lacks necessary experience or skill

12 Best Practices for Plan Sponsors DOL guidance and case law continue to evolve… Effectively raises bar that fiduciaries must meet regarding plan fees Plan sponsors are adopting “best practices” as defense against potential liability

13 Establish a Prudent Review Process Five basic principles for establishing prudent review process to evaluate plan fees 1. Gather information regarding provider, services and fees. Review of fees necessitates review of provider and services. 2. Consider indirect compensation when evaluating investments and services. Identify both direct and indirect compensation. Separately evaluate investment and administrative components of plan’s arrangement.

14 Establish a Prudent Review Process (cont’d) 3. Gather all relevant information. When selecting new provider, solicit bids from multiple providers. When reviewing existing provider, (a) request update on qualifications, (b) review performance, and (c) gather pricing information. 4. Evaluate fee information in relation to services provided. Never select provider based on price alone. Must consider scope and quality of services and qualifications of provider. 5. Conduct fiduciary reviews regularly with supporting documentation. Conduct reviews at reasonable intervals. Meetings can be documented with minutes. Plan’s advisor can assist.

15 Independently Decide Fee Split Between Sponsor and Participants Indirect compensation vs. hard dollar fees Indirect compensation - participants automatically bear embedded costs Hard dollar fee - plan sponsor has choice of paying fee or charging to participants Fees may be charged to participants if (a) plan document permits it, (b) service is in interest of participants, and (c) fee is reasonable Recordkeepers can convert annual fee into allocable expense for participants Sponsors should never favor a provider that will receive indirect compensation in order to shift fees to participants Decision to shift fees to the plan should be made independently of decision to select a provider

16 Provide Meaningful Fee Disclosure to Participants DOL recently finalized its participant fee disclosure regulations Delayed application date - effective for plan years on or after Nov. 1, 2011 Sponsors should confirm plan’s administrative provider will be prepared to administer new communication requirements Sponsors should also inform participants of pending change and consider providing meaningful fee disclosures currently Routine discussion of fees may be integrated into investment education meetings Plan sponsors should confirm delivery of ERISA 404(c) investment disclosures Should also confirm 404(c) disclosures will be adjusted to comply with pending changes from DOL’s participant fee disclosure regulations

17 Evaluate Your Financial Advisor’s Value Proposition Plan’s financial advisor may be one of its most critical service providers Advisor may receive various types of direct/indirect compensation Plan sponsor has fiduciary duty to evaluate reasonableness of advisor’s compensation Plan sponsors should focus on advisor’s total compensation Plan sponsors should seek advisors with the best value proposition Never select an advisor based on fees alone Advisors can provide varying types and levels of services Plan sponsors should ask about advisor’s service offering

18 Conclusion 401(k) plan sponsors must evaluate plan’s fees in relation to services provided Plan sponsors can increase awareness of plan’s fees by: Establishing prudent investigative review process for services and fees Independently deciding fee split between sponsor and participants Providing meaningful fee disclosures to participants Evaluating value proposition of plan’s financial advisor

19 This presentation is intended for general informational purposes only, and it does not constitute legal, tax or investment advice on the part of The Wagner Law Group or Legg Mason and its affiliates. Plan sponsors and other fiduciaries should consult with their own legal counsel to understand the nature and scope of their responsibilities under the Employee Retirement Income Security Act of 1974 (ERISA) and other applicable law. This presentation highlights certain factors which may be considered by plan sponsors and other fiduciaries in evaluating the services provided to plans and the related fees for such services. Future legislative or regulatory developments may significantly impact such fiduciary reviews and modify the existing guidance as to how plan services and the related fees are to be evaluated. Please be sure to consult with your own legal counsel concerning such future developments.

20 Fee Transparency and Best Practices for Plan Sponsors Marcia S. Wagner, Esq. 99 Summer Street, 13 th Floor Boston, MA Tel: (617) Fax: (617) Website: Sponsored by Legg Mason A The Wagner Law Group is not a Legg Mason, Inc. affiliated company. © 2010 Legg Mason Investor Services, LLC, member FINRA, SIPC. Legg Mason Investor Services, LLC, is a subsidiary of Legg Mason, Inc. FN /10