Employers are facing greater scrutiny over investment choices offered to 401(k) plan participants. Under the Pension Protection Act of 2006 and recent regulations, protection is afforded for providing “qualified default investment alternatives” (QDIAs).
Typically, problems may occur if the employer uses a qualified automatic contribution arrangement (QACA) to encourage greater plan participation. This feature generally treats employees as participants unless they "opt out" of the plan. The default investment options are triggered if participants don’t take any action.
The regulations say that plan fiduciaries are relieved from liability for losses resulting from default investments if six requirements are met.
1. Investments are made in a QDIA managed by an appropriate financial professional, trustee or fiduciary. The QDIA can’t invest in the employer’s securities and must be limited to these investment strategies.
- A “target maturity fund” geared to the age, normal retirement date, or life expectancy of the participant
- A balanced fund using an asset mix based on the ages of the participants
- Investment management services in which an investment manager allocates assets based on varying degrees of long-term appreciation and capital preservation
2. The participant must have the ability to direct investment of assets, but failed to do so.
3. Generally, participants must be notified of the default rules at least 30 days before initial eligibility. Exception: For plans with automatic enrollment allowing contribution withdrawals without a tax penalty, notice may be provided as late as the date of plan eligibility.
4. Any materials relating to the QDIA must be provided to the plan participant. This includes prospectuses, account statements, proxy voting materials, and the like.
5. Participants must be able to transfer QDIA assets as often as other investments. In any event, they must be afforded this opportunity at least once within every three months. During the first 90 days of the initial default investment, no additional restrictions, fees, or expenses may be imposed on transfers out of the QDIA or permissible withdrawals under the automatic enrollment rules.
6. The plan must provide a “broad range” of investment alternatives to participants and beneficiaries. This mirrors existing rules for 401(k) plans which generally require using at least three funds with varying risk and return profiles.
These regulations can give greater comfort to employers and fiduciaries as well as providing guidance for plan design.