Articles | September 26, 2022
Retirement plans face risk every day from many sources. One of the most overlooked is operational risk, often due to inconsistent employee performance and turnover. Employee turnover among a plan sponsor’s benefit staff — from switching jobs, termination or retirement — can lead to a loss of valuable knowledge and experience, as well as operational failures and possible litigation.
Unfortunately, plan sponsors often learn this the hard way. The Great Resignation was a wake-up call to many employers. They realized that the knowledge employees took with them will take years to replace.
Today, employees are still on the move. Employers can’t afford to be left without a contingency plan. It’s important for all retirement plan sponsors (including public sector and other plans not subject to ERISA) to thoroughly document their plan procedures. That will ensure the plan can continue to operate smoothly as the operations team changes.
Since 2020, more than 200 new class-action lawsuits have been brought under ERISA, according to a March 2022 article by the Society for Human Resource Management. The law firm Seyfarth Shaw LLP reports that the monetary value of the top 10 private plaintiff settlements in ERISA class-action lawsuits totaled $411.05 million in 2021. In fact, in one ERISA class-action case filed by retirees accusing the company of using out-of-date pension data to calculate benefits — Cruz, et al. v. Raytheon Co. — preliminary approval was granted for a $60 million settlement. (For more information, see the firm’s 18th Annual Workplace Class Action Litigation Report — 2022 Edition.)
As your organization or jurisdiction hires new employees, ask yourself:
Even for organizations and jurisdictions that have long-tenured employees who are not leaving in great numbers, consider the following questions:
Each employee is likely following all the rules they learned from the training they received throughout their career and are operating based on a set of instructions. However, it’s common for those instructions to be unwritten or unformalized, leading to inconsistent practices among employees.
That’s why operational risk is so prevalent.
Fortunately, plan sponsors can mitigate operational risk in a way that’s affordable to implement and maintain: Effective documentation in the form of written procedures and processes can significantly reduce operational risk.
When employees follow the plan’s documented processes, they save time — and the organization doesn’t incur additional costs.
Best practices for DB and DC plan administration include documentation in each of the following categories:
Let’s examine the different categories to see how documentation can effectively mitigate operational risk.
The most thorough documentation covers a wide range of information about the functions associated with the plans in the retirement program.
An administration procedures manual for DB and/or DC plans is a document that describes the step-by-step process for how a plan sponsor can complete each of the tasks needed to effectively (and consistently) run the plan operations. While this document may not cover the detailed steps of every process, it should at least cover the most critical processes. Participant hires, terminations, retirements and deaths are the baseline processes that every procedure manual should capture, along with less common participant events, such as employee leaves of absence, disability, loans and qualified domestic relations order processing.
To supplement the day-to-day processing, the manual should also include monthly and annual procedures to monitor participants who reach their required beginning date and actions needed to find missing participants and their beneficiaries.
Finally, the manual should include information about:
This information should be organized and written clearly and concisely so it is easy for all new administrative employees to understand and follow.
While a procedures manual covers the “how to” of each task, functionality gaps may still exist. These gaps are most frequent among plan sponsors that outsource responsibilities to a third-party administrator (TPA) or recordkeeper. Although it’s common for a TPA or recordkeeper to maintain plan records, take full ownership of participant transactions and handle communications, the plan sponsor and TPA/recordkeeper may each assume the other party is handling a particular task. When that happens, the task gets overlooked. It is important for plan sponsors to remember that even though certain tasks are delegated to a TPA or recordkeeper, plan sponsors are still considered the fiduciaries that are responsible for proper plan oversight.
A document of roles and responsibilities is a vital tool for retirement plans. Proper documentation of responsibilities should include who performs each task in the process and why each task is critical to the success of the plan.
Documenting this information can uncover shortcomings, which allows the plan to make appropriate corrections before they become an issue. Keeping a well-defined list of roles and responsibilities ensures that each party stays aware of its role in the process and how they relate to the employees and stakeholders outside of the organization.
Every retirement plan has its own set of forms and disclosures that it is required to complete to comply with the rules set by the IRS and DOL. This list of requirements changes as new legislation becomes law and new regulations are issued. (For an overview of this year’s requirements for plans subject to ERISA, see Segal’s 2022 Reporting and Disclosure Guide for Benefit Plans.)
Plan sponsors can better manage these requirements by documenting:
Having this information in a well-organized list or plan-specific calendar can avoid the headaches associated with attempting to file at the last minute — or, worse, having to pay late filing fees.
It’s critical that plan sponsors establish and maintain a governance structure of risk-management roles because it is their fiduciary responsibility to comply with plan provisions and applicable laws. Having written procedures and abiding by them is proof that a fiduciary has exercised prudence in their decisions. Best practices for written processes include a plan amendment process, claims and appeals process, all decisions and actions taken by the board of trustees (including the investment committee, the administrative committee and other fiduciaries) and a code of ethics and conduct.
Documentation should also take the form of charters, policies, contracts, job descriptions, detailed investment committee meeting minutes and investment policy statements.
The consequences of a lack of documentation can be severe.
Consider the events that unfolded for one organization that failed to recognize the importance of documentation: In a DC plan that permitted for loans and hardship withdrawals, during a period of almost four years, the employee authorizing hardship withdrawals allowed multiple such distributions per individual for several individuals with whom the employee was personally acquainted. The employee did so without exhausting loan options, or even following the rules for when such a distribution was allowable, as clearly defined in the plan. This resulted in the reopening of tax documentation for the organization and several participants as well as significant fines, public embarrassment, costs to get the necessary assistance to remedy the situation, and, for a time, the threat of plan disqualification.
Proper procedures for co-signing authority within the organization, or proper procedures for processing hardship withdrawals on the part of the service provider or recordkeeper would have rendered this impossible.
Operational failures can easily arise due to the seemingly endless number of daily tasks that plan sponsors must perform (regardless of whether they are internal or outsourced). After accounting for the additional responsibilities related to vendor management and data security, it’s easy to see how plan sponsors are so exposed to operational risk.
Establishing procedures limits much of this exposure. It sets a framework for how plan sponsors should operate, leading to consistency in processing, fewer mistakes and therefore fewer corrections. The time and effort required to correct operational mistakes is far greater than the time needed to set procedures in advance. When mistakes do inevitably occur, the penalties are often less severe with proof of established procedures, as documentation of protocols that must be followed usually outweighs poor outcomes.
Establishing and updating documentation (along with a strong governance framework) is a plan sponsor’s best line of defense for operational risk. Written properly, documented procedures and responsibilities create a sustainable suite of information, which can be leveraged for operational audits and risk assessments as well. Once established, it takes little effort to update documentation each year.
To minimize and prevent adverse events, it is critical for plan sponsors to review the state of their plan’s documentation and make upgrades, if necessary. The time you invest today will be minimal compared to the time and costs you save later.
Learn more about operational risk.
This page is for informational purposes only and does not constitute legal, tax or investment advice. You are encouraged to discuss the issues raised here with your legal, tax and other advisors before determining how the issues apply to your specific situations.
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