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Employee Benefits Security Administration

EBSA Proposed Rule

Reasonable Contract or Arrangement Under Section 408(b)(2)--Fee [12/13/2007]

[PDF Version]

Volume 72, Number 239, Page 70987-71005

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Part III





Department of Labor





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Employee Benefits Security Administration



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29 CFR Part 2550



Reasonable Contract or Arrangement Under Section 408(b)(2)--Fee 
Disclosure; Proposed Rule


[[Page 70988]]


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DEPARTMENT OF LABOR

Employee Benefits Security Administration

29 CFR Part 2550

RIN 1210-AB08

 
Reasonable Contract or Arrangement Under Section 408(b)(2)--Fee 
Disclosure

AGENCY: Employee Benefits Security Administration, DOL.

ACTION: Proposed regulation.

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SUMMARY: This document contains a proposed regulation under the 
Employee Retirement Income Security Act of 1974 (ERISA) that, upon 
adoption, would require that contracts and arrangements between 
employee benefit plans and certain providers of services to such plans 
include provisions that will ensure the disclosure of information to 
assist plan fiduciaries in assessing the reasonableness of the 
compensation or fees paid for services that are rendered to the plan 
and the potential for conflicts of interest that may affect a service 
provider's performance of services. The proposed regulation will 
redefine what constitutes a ``reasonable contract or arrangement'' for 
purposes of the statutory exemption from certain prohibited transaction 
provisions of ERISA. The regulation, upon adoption, will affect 
employee benefit plan sponsors and fiduciaries and the service 
providers to such plans.

DATES: Written comments on the proposed regulation should be received 
by the Department of Labor on or before February 11, 2008.

ADDRESSES: To facilitate the receipt and processing of comment letters, 
the Employee Benefits Security Administration (EBSA) encourages 

http://www.regulations.gov. Persons submitting comments electronically are 

encouraged not to submit paper copies. Persons interested in submitting 
paper copies should send or deliver their comments (preferably at least 
three copies) to the Office of Regulations and Interpretations, 
Employee Benefits Security Administration, Attn: 408(b)(2) Amendment, 
Room N-5655, U.S. Department of Labor, 200 Constitution Avenue, NW., 
Washington, DC 20210. All comments will be available to the public, 
without charge, online at http://www.regulations.gov and http://www.dol.gov/ebsa
 and at the Public Disclosure Room, N-1513, Employee 
Benefits Security Administration, U.S. Department of Labor, 200 
Constitution Avenue, NW., Washington, DC 20210.

FOR FURTHER INFORMATION CONTACT: Kristen L. Zarenko, Office of 
Regulations and Interpretations, Employee Benefits Security 
Administration, (202) 693-8510. This is not a toll-free number.

SUPPLEMENTARY INFORMATION:

A. Background

(1) General

    In recent years, there have been a number of changes in the way 
services are provided to employee benefit plans and in the way service 
providers are compensated. Many of these changes may have improved 
efficiency and reduced the costs of administrative services and 
benefits for plans and their participants. However, the complexity of 
these changes also has made it more difficult for plan sponsors and 
fiduciaries to understand what the plan actually pays for the specific 
services rendered and the extent to which compensation arrangements 
among service providers present potential conflicts of interest that 
may affect not only administrative costs, but the quality of services 
provided.
    Despite these complexities, section 404(a)(1) of ERISA requires 
plan fiduciaries, when selecting or monitoring service providers, to 
act prudently and solely in the interest of the plan's participants and 
beneficiaries and for the exclusive purposes of providing benefits and 
defraying reasonable expenses of administering the plan. Fundamental to 
a fiduciary's ability to discharge these obligations is the 
availability of information sufficient to enable the fiduciary to make 
informed decisions about the services, the costs, and the service 
provider. In this regard, the Department of Labor (Department) has 
published interpretive guidance concerning the disclosure and other 
obligations of plan fiduciaries and service providers under ERISA.\1\
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    \1\ See, e.g., Field Assistance Bulletin 2002-3 (November 5, 
2002) and Advisory Opinions 97-16A (May 22, 1997) and 97-15A (May 
22, 1997).
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    In addition to technical guidance, the Department makes available 
on its Web site various materials intended to assist plan fiduciaries 
and others in understanding their obligations, the importance of fees, 
and the assessment of service provider relationships.\2\ The 
Department's Web site also provides a Model Plan Fee Disclosure Form to 
assist fiduciaries of individual account pension plans when analyzing 
and comparing the costs associated with selecting service providers and 
investment products.\3\
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    \2\ See http://www.dol.gov/ebsa/publications/undrstndgrtrmnt.html and http://www.dol.gov/ebsa/newsroom/

>

    \3\ http://www.dol.gov/ebsa/pdf/401kfefm.pdf. This model form 

was developed jointly by the American Bankers Association, the 
Investment Company Institute, and the American Council of Life 
Insurers.
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    Although the Department has issued technical guidance and 
compliance assistance materials relating to the selection and 
monitoring of service providers, the Department nevertheless believes 
that, given plan fiduciaries' need for complete and accurate 
information about compensation and revenue sharing, both plan 
fiduciaries and service providers would benefit from regulatory 
guidance in this area. For this reason, the Department proposes the 
amendment described below relating to the conditions for a ``reasonable 
contract or arrangement'' under section 408(b)(2) of ERISA, as set 
forth in 29 CFR Sec.  2550.408b-2.\4\
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    \4\ The Department also implemented changes to the information 
required to be reported concerning service provider compensation and 
compensation arrangements as part of the Form 5500 Annual Report. 
These changes to Schedule C of the Form 5500 complement the 
amendment proposed in this Notice in assuring that plan fiduciaries 
have the information they need to monitor their service providers 
consistent with their duties under section 404(a)(1) of ERISA. See 
72 FR 64731.
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(2) The Statutory Exemption for Services

    Section 406(a)(1)(C) of ERISA generally prohibits the furnishing of 
goods, services, or facilities between a plan and a party in interest 
to the plan. As a result, absent relief, a service relationship between 
a plan and a service provider would constitute a prohibited 
transaction, because any person providing services to the plan is 
defined by ERISA to be a ``party in interest'' to the plan.\5\ However, 
section 408(b)(2) of ERISA exempts certain arrangements between plans 
and service providers that otherwise would be prohibited transactions 
under section 406 of ERISA. Specifically, section 408(b)(2) provides 
relief from ERISA's prohibited transaction rules for service contracts 
or arrangements between a plan and a party in interest if the contract 
or arrangement is reasonable, the services are necessary for the 
establishment or operation of the plan, and no more than reasonable 
compensation is paid for the services.\6\ Regulations issued by the 
Department clarify each of these conditions to the exemption.\7\
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    \5\ See ERISA Sec.  3(14)(B).
    \6\ See ERISA Sec.  408(b)(2).
    \7\ See 29 CFR Sec.  2550.408b-2.

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[[Page 70989]]

    In this Notice, the Department proposes to amend the regulations 
under ERISA section 408(b)(2) to clarify the meaning of a 
``reasonable'' contract or arrangement. Currently, the regulation at 29 
CFR Sec.  2550.408b-2(c) states only that a contract or arrangement is 
not reasonable unless it permits the plan to terminate without penalty 
on reasonably short notice.\8\ In the amendment described below, the 
Department proposes to add that, in order for a contract or arrangement 
for services to be reasonable, it must require that certain information 
be disclosed by the service provider to the responsible plan fiduciary. 
The Department believes that in order to satisfy their ERISA 
obligations, plan fiduciaries need information concerning all 
compensation to be received by the service provider and any conflicts 
of interest that may adversely affect the service provider's 
performance under the contract or arrangement. Accordingly, under the 
proposal, an arrangement would not be reasonable unless the service 
provider agrees to furnish, and in fact does furnish, the required 
information to the responsible plan fiduciary. The ``responsible plan 
fiduciary'' is the fiduciary with authority to cause the plan to enter 
into, or extend or renew, a contract or arrangement for the provision 
of services to the plan.
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    \8\ See 29 CFR Sec.  2550.408b-2(c).
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B. Proposed Amendment to Regulations Under ERISA Section 408(b)(2)

(1) Overview of Proposed Regulation

    In general, the proposal amends paragraph (c) of Sec.  2550.408b-2 
by moving, without change, the current provisions of paragraph (c) to a 
newly designated paragraph (c)(2) and adding a new paragraph (c)(1) to 
address the disclosure requirements applicable to a ``reasonable 
contract or arrangement.'' The new paragraph (c)(1) of Sec.  2550.408b-
2 generally requires that, in order to be reasonable, any contract or 
arrangement between an employee benefit plan and certain service 
providers must require the service provider to disclose the 
compensation it will receive, directly or indirectly, and any conflicts 
of interest that may arise in connection with its services to the plan.
(a) Scope of the Proposal
    Paragraph (c)(1)(i) of the proposal describes the scope of the 
regulation's disclosure requirements. The Department recognizes that 
responsible plan fiduciaries may not always need all of the required 
disclosures from every type of service provider in order to evaluate 
the reasonableness of the service provider's compensation. Thus, this 
paragraph limits the proposal's application to contracts or 
arrangements to provide services by service providers that fall within 
one or more of three categories. The first category, described in 
paragraph (c)(1)(i)(A), includes within the scope of the regulation 
service providers who provide services as a fiduciary under ERISA or 
under the Investment Advisers Act of 1940. Paragraph (c)(1)(i)(B) 
includes service providers who provide banking, consulting, custodial, 
insurance, investment advisory (plan or participants), investment 
management, recordkeeping, securities or other investment brokerage, or 
third party administration services, regardless of the type of 
compensation or fees that they receive. Finally, paragraph (c)(1)(i)(C) 
includes service providers who receive any indirect compensation in 
connection with accounting, actuarial, appraisal, auditing, legal, or 
valuation services.
    The Department believes that the compensation arrangements for 
services provided by the service providers enumerated in paragraphs 
(c)(1)(i)(A) and (B) are most likely to give rise to conflicts of 
interest. As to the service providers enumerated in paragraph 
(c)(1)(i)(C), the Department believes that requiring every service 
contract or arrangement with these providers to satisfy the 
requirements of the proposed regulation may not be appropriate or yield 
helpful information to plan fiduciaries. However, the Department 
believes that these providers perform some of the most important and 
potentially influential services to plans and, to the extent these 
service providers receive indirect compensation in connection with 
their services, similar conflict of interest concerns would be raised, 
as with other enumerated service providers.
    If a contract or arrangement meets the threshold scope requirement 
in paragraph (c)(1)(i), then the terms of such contract or arrangement 
must satisfy the proposal's disclosure requirements in order to be 
reasonable for purposes of paragraph (c)(1), regardless of the nature 
of any other services provided or whether the plan is a pension plan, 
group health plan, or other type of welfare benefit plan. Nevertheless, 
the proposal's application to contracts or arrangements between plans 
and the listed categories of service providers should not be construed 
to imply that responsible plan fiduciaries do not need to obtain and 
consider appropriate disclosures before contracting with service 
providers who do not fall within these categories. Responsible plan 
fiduciaries must continue to satisfy their general fiduciary 
obligations under ERISA with respect to the selection and monitoring of 
all service providers. Further, contracts or arrangements with these 
service providers must be ``reasonable'' and otherwise satisfy the 
requirements of section 408(b)(2) of ERISA.
    The proposal also applies only to contracts or arrangements for 
services to employee benefit plans. The proposed regulation, if 
adopted, would not apply to contracts or arrangements with entities 
that are merely providing plan benefits to participants and 
beneficiaries, rather than providing services to the plan itself. For 
example, a pharmacy benefit manager that contracts with an employee 
benefit plan to manage the plan's prescription drug program would be 
covered as a service provider to the plan providing third party 
administration or recordkeeping, and possibly consulting, services. 
However, if a fiduciary contracts on behalf of a welfare plan with a 
medical provider network, for example an HMO, a doctor that is part of 
the network and that has no separate agreement or arrangement with the 
plan would not be a service provider to the plan; the doctor merely 
provides medical benefits to the plan's participants and beneficiaries.
(b) Disclosure Concerning Compensation and Services
    If a contract or arrangement for services falls within the scope of 
the proposed regulation, the contract or arrangement must comply with 
paragraphs (c)(1)(ii) through (vi) of the proposal. Paragraph 
(c)(1)(ii) requires that the contract or arrangement be in writing. The 
proposal requires specific disclosures and representations from the 
service provider, and the Department believes they must be made in 
writing to ensure a meeting of the minds between the service provider 
and the responsible plan fiduciary.
    The proposed regulation next provides in paragraph (c)(1)(iii) that 
the terms of the contract or arrangement must specifically require the 
service provider to disclose in writing, to the best of its knowledge, 
the information set forth in the proposal. The Department believes it 
is important for the responsible plan fiduciary to obtain assurance 
from the service provider that it has disclosed complete and accurate 
information. To ensure that the responsible plan fiduciary has the 
opportunity to consider all required disclosures before entering into a

[[Page 70990]]

contract or arrangement with a service provider to the plan, the 
proposal requires that the contract or arrangement include a 
representation by the service provider that, before the contract or 
arrangement was entered into, all required information was provided to 
the responsible plan fiduciary.
    The proposal does not prescribe the manner in which such 
disclosures should be presented to the plan fiduciary, other than 
requiring a statement by the service provider that the disclosures have 
been made. All of the required disclosures need not be contained in the 
same document, as long as all of the required information is presented 
to the responsible plan fiduciary in writing before such fiduciary 
enters into the contract or arrangement. Written disclosures may be 
provided in separate documents from separate sources and may be 
provided in electronic format, as long as these documents, 
collectively, contain all of the elements of disclosure required by the 
regulation. For example, a prospectus required by Federal securities 
laws, or a Form ADV required to be filed by a registered investment 
adviser, may include some of the indirect fee or conflict of interest 
information that a service provider would be required to disclose under 
this proposal. In these circumstances, the contracting parties are free 
to incorporate such materials by reference. The Department expects that 
the service provider will clearly describe these additional materials 
and explain to the responsible plan fiduciary the information they 
contain. The Department invites comments on whether, and the extent to 
which, duplicate disclosures can be avoided, while at the same time 
ensuring that responsible plan fiduciaries receive comprehensive, 
straightforward, and helpful information concerning the service 
provider's compensation and possible conflicts of interest.
    The proposal also does not designate any specific time period prior 
to entering into the contract or arrangement for receipt of the 
required disclosures, other than requiring a representation by the 
service provider that all information was provided in writing before 
the parties entered into the contract. The Department believes it would 
be incumbent on the service provider to furnish current and accurate 
information to the plan fiduciary. Further, the responsible plan 
fiduciary, consistent with its general fiduciary obligations under 
ERISA, must ensure in its negotiations with a service provider that he 
or she obtains current and accurate information from the service 
provider sufficiently in advance of entering into the contract or 
arrangement to allow the fiduciary to prudently consider the 
information.
    To facilitate the responsible plan fiduciary's determination that 
the service provider will receive no more than reasonable compensation, 
paragraph (c)(1)(iii)(A) of the proposal provides that the contract or 
arrangement must require the service provider to disclose the services 
to be provided to the plan and all compensation it will receive in 
connection with the services. A service provider must describe all 
services that it will provide, regardless of whether such services are 
described in the proposal's applicable scope provision. For example, if 
a plan consultant will provide appraisal, legal, and administrative 
services to the employee benefit plan in addition to its consulting 
services, then all of these services must be described. The subsections 
that follow in paragraph (c)(1)(iii)(A)(1) through (4) of the proposal 
clarify the requirement that the service provider disclose all 
compensation or fees that it will receive for its services.
    Paragraph (c)(1)(iii)(A)(1) broadly defines compensation or fees to 
include money and any other thing of monetary value received by the 
service provider or its affiliate in connection with the services 
provided to the plan or the financial products in which plan assets are 
invested. Examples of compensation or fees that are covered by this 
definition include, but are not limited to: gifts, awards, and trips 
for employees, research, finder's fees, placement fees, commissions or 
other fees related to investment products, sub-transfer agency fees, 
shareholder servicing fees, Rule 12b-1 fees, soft dollar payments, 
float income, fees deducted from investment returns, fees based on a 
share of gains or appreciation of plan assets, and fees based upon a 
percentage of the plan's assets. The Department believes that an 
investment of plan assets or the purchase of insurance is not, in and 
of itself, compensation to a service provider for purposes of this 
regulation. However, persons or entities that provide investment 
management, recordkeeping, participant communication and other services 
to the plan as a result of an investment of plan assets will be treated 
as providing services to the plan.
    Consistent with recommendations of the ERISA Advisory Council 
Working Group, the Department concludes that plan fiduciaries must 
receive more comprehensive information about the compensation or fees 
involved in plan administration and investments, including indirect 
compensation.\9\ Indirect compensation includes fees that service 
providers receive from parties other than the plan, the plan sponsor, 
or the service provider.
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    \9\ See ERISA Advisory Council Working Group report at http://www.dol.gov/ebsa/publications
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    Service providers also must disclose compensation or fees received 
by their affiliates from third parties. For purposes of the proposal, 
an ``affiliate'' of a service provider is defined in paragraph 
(c)(1)(iii)(A)(1) to be any person directly or indirectly (through one 
or more intermediaries), controlling, controlled by, or under common 
control with the service provider, or any officer, director, agent, or 
employee of, or partner in, the service provider. The Department does 
not intend this requirement to result in any ``double counting'' of 
compensation. For instance, an employee's salary or a bonus that is 
paid to an employee from the general assets of his or her employer 
(i.e., the service provider) would not need to be separately disclosed, 
even if the employee is paid in connection with services to an employee 
benefit plan. The proposal merely clarifies that disclosure of any 
direct or indirect compensation that otherwise is required under the 
proposal cannot be avoided merely because such compensation is paid to 
an employee or agent of the service provider or an affiliate, rather 
than directly to such service provider or affiliate.
    The proposal next provides in paragraph (c)(1)(iii)(A)(2) that if a 
service provider cannot disclose compensation or fees in terms of a 
specific monetary amount, then the service provider may disclose 
compensation or fees by using a formula, a percentage of the plan's 
assets, or a per capita charge for each participant or beneficiary. The 
Department understands that it is not always possible at the time the 
parties enter into a service contract or arrangement to know the exact 
amount of compensation, whether direct or indirect, that the service 
provider will receive for its services. However, the service provider 
must describe its compensation or fees in such a way that the 
responsible plan fiduciary can evaluate its reasonableness. For 
instance, the service provider must clearly explain any assumptions 
that would be used in determining the compensation or fees according to 
any such formula or other charge.
    Paragraph (c)(1)(iii)(A)(3) of the proposed regulation clarifies 
the nature of disclosures that must be provided

[[Page 70991]]

concerning bundled arrangements. In many cases, administrative and 
investment services are provided to employee benefit plans in 
``bundled'' arrangements, whereby a package or ``bundle'' of services 
is provided, either directly or through affiliates or subcontractors of 
a service provider. These bundles are priced to the plan by a single 
service provider as a package, rather than on a service-by-service 
basis. For example, rather than hiring separate service providers for 
investment management, recordkeeping, Form 5500 annual report 
preparation, participant communications and statement preparation, 
payroll processing, and other functions, a plan fiduciary may arrange 
for one service provider to have all of these services performed as a 
bundle. The provider of the bundle may in turn use other affiliated 
service providers, or unaffiliated subcontractors, to provide some of 
the services in the bundle. However, the responsible plan fiduciary 
obtains a ``package deal'' and will negotiate only with the provider of 
the bundle.
    Under paragraph (c)(1)(iii)(A)(3) of the proposed regulation, if a 
service provider offers a bundle of services, then a contract or 
arrangement must require only that the provider of the bundle make the 
prescribed disclosures. This bundled service provider must disclose 
information concerning all services to be provided in the bundle, 
regardless of who provides them. Further, the bundled service provider 
must disclose the aggregate direct compensation or fees that will be 
paid for the bundle, as well as all indirect compensation that will be 
received by the service provider, or its affiliates or subcontractors 
within the bundle, from third parties. Generally, the bundled provider 
is not required to break down this aggregate compensation or fees among 
the individual services comprising the bundle. For instance, the 
service provider would not have to break down the aggregate fee into 
the amount that will be charged for preparing the Form 5500 annual 
report and the amount that will be charged for preparing participant 
statements. Also, the bundled provider generally is not required to 
disclose the allocation of revenue sharing or other payments among 
affiliates or subcontractors within the bundle.
    There are, however, exceptions to these rules. Specifically, 
paragraph (c)(1)(iii)(A)(3) requires the bundled provider to disclose 
separately the compensation or fees of any party providing services 
under the bundle that receives a separate fee charged directly against 
the plan's investment reflected in the net value of the investment, 
such as management fees paid by mutual funds to their investment 
advisers, float revenue, and other asset-based fees such as 12b-1 
distribution fees, wrap fees, and shareholder servicing fees if charged 
in addition to the investment management fee. Also, paragraph 
(c)(1)(iii)(A)(3) requires the separate disclosure of compensation or 
fees of any service provider under the bundle that are set on a 
transaction basis, such as finder's fees, brokerage commissions, or 
soft dollars. Soft dollars include research or other products or 
services, other than execution, received from a broker-dealer or other 
third party in connection with securities transactions. Compensation or 
fees that are charged on a transaction basis must be separately 
disclosed even if paid from mutual fund management fees or other 
similar fees. The Department does not believe that disclosure of these 
fees would require bundled providers to disclose any revenue sharing 
arrangements or bookkeeping practices among affiliates that could 
legitimately be classified as proprietary or confidential. Further, the 
Department believes that investment-based charges, commissions, and 
other transaction-based fees paid to affiliates are just as likely to 
be relevant to the responsible plan fiduciary's evaluation of potential 
conflicts of interest, whether or not they are part of a bundled 
service arrangement.
    Paragraph (c)(1)(iii)(A)(4) requires that the service provider also 
explain the manner of receipt of compensation, for example whether the 
service provider will bill the plan, deduct fees directly from plan 
accounts, or reflect a charge against the plan investment. The 
description also must explain how any pre-paid fees will be calculated 
and refunded when the contract or arrangement terminates.
(c) Disclosure Concerning Conflicts of Interest
    The subsections that follow in (B) through (F) of paragraph 
(c)(1)(iii) are intended to inform the responsible plan fiduciary of 
the service provider's relationships or interests that may raise 
conflicts of interest for the service provider in its performance of 
services for the plan. As service arrangements have become more 
complex, so have the ways that service providers are compensated, as 
well as the relationships among different players in the plan service 
provider industry. Plan fiduciaries must know of these relationships 
and indirect sources of compensation because they may impact the manner 
in which the provider performs services for the plan. There may be 
other, oftentimes subtle, influences on the service provider or its 
affiliates that may be relevant to a plan fiduciary's assessment of the 
objectivity of a service provider's decisions or recommendations.
    The Department's attention to service providers' potential 
conflicts of interest is not new. For example, in 2005 the Department 
issued guidance with the Securities and Exchange Commission concerning 
potential conflicts of interest involved in pension consultant 
relationships.\10\ This guidance provides a list of tips and related 
explanations to help plan fiduciaries obtain the information necessary 
to ensure that engagement of the pension consultant serves the best 
interest of the plan's participants and beneficiaries. The Department 
believes that the engagement of many plan service providers presents 
similar issues for the plan fiduciary. Accordingly, under the proposal, 
a contract or arrangement must require that the service provider 
disclose specific information that will help the responsible plan 
fiduciary assess any real or potential conflicts of interest.
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    \10\ See ``Selecting and Monitoring Pension Consultants--Tips 
for Plan Fiduciaries'' at http://www.dol.gov/ebsa/newsroom/fs053105.html
.

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    Subsection (B) of paragraph (c)(1)(iii) requires that the service 
provider identify whether it will provide services to the plan as a 
fiduciary, either as an ERISA fiduciary under section 3(21) of ERISA or 
as a fiduciary under the Investment Advisers Act of 1940. The 
Department believes it is important for the responsible plan fiduciary 
and the service provider to understand at the outset of their 
relationship whether or not the service provider considers itself a 
fiduciary and how this status affects the nature of the services to be 
provided.\11\
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    \11\ The Department notes that persons who perform one or more 
of the functions described in section 3(21)(A) of ERISA with respect 
to a plan are fiduciaries. See 29 CFR Sec.  2509.75-8. Thus, 
fiduciary status depends on a factual analysis of a person's 
activities with respect to a plan. Formal agreements stating whether 
a person is a fiduciary are not dispositive of whether the person 
actually is a fiduciary under ERISA by virtue of the functions 
performed.
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    Subsection (C) requires that the service provider disclose any 
financial or other interest in transactions in which the plan will 
partake in connection with the contract or arrangement. For example, if 
a service provider will be buying (or advising on the purchase of) a 
parcel of real estate for the plan, and an affiliate of the service 
provider owns an interest in the real estate, the service provider will

[[Page 70992]]

have to state that it has an interest in the transaction and describe 
its affiliate's ownership of the real estate. The responsible plan 
fiduciary can then weigh the nature and extent of the conflict in 
analyzing the objectivity of the service provider when making the 
recommendations.
    The proposal also provides that a reasonable contract or 
arrangement must require the service provider to disclose its 
relationships with other parties that may give rise to conflicts of 
interest. Specifically, subsection (D) obligates the service provider 
to describe any material financial, referral, or other relationship it 
has with various parties (such as investment professionals, other 
service providers, or clients) that creates or may create a conflict of 
interest for the service provider in performing services pursuant to 
the contract or arrangement. If the relationship between the service 
provider and this third party is one that a reasonable plan fiduciary 
would consider to be significant in its evaluation of whether an actual 
or potential conflict of interest exists, then the service provider 
must disclose the relationship.
    Conflicts also may arise when a service provider can affect its own 
compensation in connection with its services. Under subsection (E) of 
the proposal, a contract or arrangement must require the service 
provider to identify whether it can affect its own compensation without 
the prior approval of an independent plan fiduciary and to describe the 
nature of this compensation. A common example of this potential 
conflict of interest is the receipt of ``float'' compensation.\12\ If 
the amount a service provider receives in float compensation will not 
be approved by an independent plan fiduciary, then the service provider 
must state that it will receive float compensation and explain the 
nature of this compensation.\13\
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    \12\ Many financial service providers, such as banks and trust 
companies, maintain omnibus accounts to facilitate the transactions 
of employee benefit plan clients. The service provider may retain 
earnings (``float'') that result from the anticipated short-term 
investment of funds held in these accounts. These accounts generally 
hold contributions and other assets pending investment. Plan 
fiduciaries also may transfer funds to an omnibus account in 
connection with issuance of a check to make a plan distribution or 
other disbursement.
    \13\ For more information concerning ``float'' compensation and 
the information concerning such compensation that plan fiduciaries 
should obtain from service providers, see the Department's Field 
Assistance Bulletin 2002-3 (Nov. 5, 2002) at http://www.dol.gov/ebsa/regs/fab_2002-3.html
.

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    Finally, the Department recognizes that service providers may have 
policies or procedures to manage these real or potential conflicts of 
interest. For example, a fiduciary service provider may have procedures 
for offsetting fees received from third parties (through revenue 
sharing or other indirect payment arrangements) against the amount that 
it otherwise would charge a plan client. Accordingly, subsection (F) of 
paragraph (c)(1)(iii) of the proposal provides that a reasonable 
contract or arrangement must require service providers to state whether 
or not any such policies or procedures exist and, if so, to provide an 
explanation of these policies or procedures and how they address 
conflicts of interest. The Department views this requirement as an 
opportunity for service providers to educate plan fiduciaries about how 
they address potential conflicts of interest.
(d) Material Changes to Disclosed Information
    Paragraph (c)(1)(iv) of the proposal provides that a reasonable 
contract or arrangement must require that, during the term of the 
contract or arrangement, service providers must disclose to responsible 
plan fiduciaries any material changes to the information that is 
required by paragraph (c)(1)(iii), subsections (A) through (F). Changes 
on the part of a service provider or its employee benefit plan business 
may occasionally occur and may alter the information previously 
disclosed by the service provider. If any resulting change to the 
information previously disclosed to a plan fiduciary would be viewed by 
a reasonable plan fiduciary as significantly altering the ``total mix'' 
of information made available to the fiduciary, or as significantly 
affecting a reasonable plan fiduciary's decision to hire or retain the 
service provider, then the change is material. To ensure that plan 
fiduciaries continue to be well-informed concerning the compensation 
and conflict of interest issues affecting their service provider 
relationships, a contract or arrangement must require service providers 
to notify fiduciaries of material changes within 30 days of the service 
provider's knowledge of the change.
(e) Reporting and Disclosure Requirements
    The proposed regulation under paragraph (c)(1)(v) requires that a 
reasonable contract or arrangement obligate the service provider to 
furnish all information related to the contract or arrangement and the 
service provider's receipt of compensation or fees thereunder that is 
requested by the responsible plan fiduciary or plan administrator in 
order to comply with the reporting and disclosure requirements of Title 
I of ERISA and the regulations, forms, and schedules issued thereunder. 
For example, this provision would obligate the service provider to 
furnish information that is necessary for the plan administrator to 
complete the annual report on Form 5500, and information that is 
necessary for the responsible plan fiduciary to comply with disclosure 
obligations to plan participants and beneficiaries.
    Of course, detailed reporting concerning some service providers may 
not be required for annual reporting purposes, for example because the 
amount or nature of the compensation paid to the service provider does 
not fall within the threshold or other requirements of the annual 
report on Form 5500. Further, not all employee benefit plans are 
subject to the same annual reporting requirements, for example small 
plans and certain self-funded welfare plans. This does not mean that 
service providers to these plans would not be required to fully satisfy 
the disclosure requirements of this proposed regulation, assuming they 
otherwise fall within the scope of the proposal. The Department 
anticipates that this proposal would apply more broadly to 
relationships between service providers and employee benefit plans that 
are not necessarily covered by ERISA's reporting requirements. The 
primary goal of this proposal--to provide comprehensive and useful 
information to responsible plan fiduciaries when entering service 
contracts or arrangements--is different than that of ERISA's annual 
reporting and disclosure requirements, which provide more limited 
retrospective financial information on direct and indirect service 
provider compensation to facilitate and reinforce the broader fiduciary 
obligations imposed by this proposal.
(f) Compliance by Service Providers
    The proposal's final requirement is contained in paragraph 
(c)(1)(vi). This condition provides explicitly that a service provider 
must comply with its obligations under the contract or arrangement as 
described in the proposed regulation. Not only must a contract or 
arrangement require disclosure from the service provider, but the 
service provider must actually provide all of the required disclosures 
in order for the contract or arrangement to be reasonable. Similarly, 
it is not enough for a service provider to commit in the written 
contract to later notify the responsible plan fiduciary of material 
changes to the disclosures contained in the contract; subsection (vi) 
requires that the service provider in fact provide such notification.

[[Page 70993]]

    Subsection (vi) also refers to relief that may be available to a 
responsible plan fiduciary when a service provider fails to comply with 
this requirement. In addition to this proposed regulation, the 
Department is publishing a proposed Class Exemption in today's Federal 
Register. Subject to certain conditions, this Class Exemption will 
provide relief from ERISA's prohibited transaction rules for a 
responsible plan fiduciary when a contract or arrangement fails to be 
``reasonable,'' through no fault of the responsible plan fiduciary, but 
due to a service provider's failure to satisfy its disclosure 
obligations under this regulation. The proposed Class Exemption is 
discussed below in paragraph (2), ``Consequences of Failure to Satisfy 
the Proposed Regulation.''
(g) Relationship Between Disclosures and the Plan Fiduciary's ERISA 
Section 404(a) Duties
    The parties to a service contract or arrangement that falls within 
the scope of paragraph (c)(1)(i) of the proposal must, at a minimum, 
satisfy the requirements contained in this proposal and the other 
conditions to ERISA section 408(b)(2) in order for the provision of 
services under the contract or arrangement to be exempt from ERISA's 
prohibited transaction rules. However, the engagement of any particular 
service provider will not necessarily satisfy the fiduciary's 
obligations under section 404(a) of ERISA to act prudently and solely 
in the best interest of the plan's participants and beneficiaries 
merely because the service provider furnishes the information described 
in the proposed regulation.
    Section 404(a) of ERISA requires that the responsible plan 
fiduciary engage in an objective process designed to elicit information 
necessary to assess not only the reasonableness of the compensation or 
fees to be paid for services, but also the qualifications of the 
service provider and the quality of the services that will be 
provided.\14\ Although the steps taken by a responsible plan fiduciary 
may vary depending on the facts and circumstances, solicitation of bids 
among service providers is a means by which the responsible plan 
fiduciary can obtain information relevant to the decision-making 
process. A responsible plan fiduciary should not consider any one 
factor, including the fees or compensation to be paid to the service 
provider, to the exclusion of other factors. Further, a fiduciary need 
not necessarily select the lowest-cost service provider, so long as the 
compensation or fees paid to the service provider are determined to be 
reasonable in light of the particular facts and circumstances.
---------------------------------------------------------------------------

    \14\ See, e.g., Information Letters to D. Ceresi (Feb. 19, 1998) 
and to T. Konshak (Dec. 1, 1997).
---------------------------------------------------------------------------

    Further, plan fiduciaries are not limited by the disclosures 
required in this proposal. Plan fiduciaries may ask service providers 
for any additional information that they feel is necessary to their 
decision. For example, a responsible plan fiduciary may have questions 
for a service provider concerning the specific personnel that will be 
assigned to manage or perform services under the contract or 
arrangement.
    Finally, although this proposal looks to disclosures made at the 
time a service contract or arrangement is entered into or renewed, 
responsible plan fiduciaries must continue to monitor service 
arrangements and the performance of service providers. Receipt of the 
disclosures described in this proposed regulation at the onset of a 
service relationship will not relieve plan fiduciaries of this ongoing 
obligation.
(h) Existing Requirement Concerning Termination of Contract or 
Arrangement
    Paragraph (c)(2) of the regulation continues to require that 
service contracts or arrangements permit termination by the plan 
without penalty and on reasonably short notice. This requirement has 
not been changed, though the Department invites comments from the 
public as to any practical issues relating to the current regulation's 
requirements concerning contract termination. Specifically, the 
Department would like to know whether the current regulatory framework 
presents practical problems and whether further regulatory or 
interpretive guidance could address these problems.
(i) Other Statutory Exemptions Concerning Service Providers
    The Department understands that, in certain circumstances, plans 
and service providers to such plans must rely on statutory exemptions 
other than section 408(b)(2) of ERISA in order to conduct business 
without violating ERISA's prohibited transaction provisions. Therefore, 
the Department invites comment on the extent to which the application 
of the disclosure requirements contained in this proposed regulation 
will affect, or may be affected by, other ERISA statutory exemptions 
that may relate to plan service arrangements.

(2) Consequences of Failure To Satisfy the Proposed Regulation

    If the contract or arrangement fails to require disclosure of the 
information described in the proposed regulation, or if the service 
provider fails to disclose such information, then the contract or 
arrangement will not be ``reasonable.'' Therefore, the service 
arrangement will not qualify for the relief from ERISA's prohibited 
transaction rules provided by section 408(b)(2). The resulting 
prohibited transaction would have consequences for both the responsible 
plan fiduciary and the service provider. The responsible plan 
fiduciary, by participating in the prohibited transaction, will have 
violated section 406(a)(1)(C) of ERISA's prohibited transaction 
rules.\15\ The service provider, as a ``disqualified person'' under the 
Internal Revenue Code's (Code) prohibited transaction rules, will be 
subject to the excise taxes that result from the service provider's 
participation in a prohibited transaction under Code section 4975.\16\
---------------------------------------------------------------------------

    \15\ See ERISA Sec.  406(a)(1)(C).
    \16\ The Internal Revenue Code (Code) also provides statutory 
relief for transactions between a plan and a service provider that 
otherwise would be prohibited. Any excise taxes imposed by Code 
section 4975(a) and (b) for failure to satisfy the statutory 
exemption are paid by the disqualified person who participates in 
the prohibited transaction, in this case the service provider, not 
the plan fiduciary. See Code Sec.  4975(a), (b), (c)(1)(C), (d)(2), 
and (e)(2)(B).
---------------------------------------------------------------------------

    The Department believes that this significant result will provide 
incentives for all parties to service contracts or arrangements to 
cooperate in exchanging the disclosures required by the proposed 
regulation. However, the Department also believes that, in certain 
circumstances, a responsible plan fiduciary should not be held liable 
for a prohibited transaction that results when a service provider, 
unbeknownst to the plan fiduciary, fails to satisfy its disclosure 
obligations as required by the proposed regulation. Accordingly, the 
Department also published a proposed Class Exemption in today's Federal 
Register. The scope of the relief provided by the Class Exemption and 
the conditions that must be satisfied by a responsible plan fiduciary 
in order to obtain such relief are discussed in the preamble to the 
proposed Class Exemption. The Department notes that, in general, the 
parties seeking to avail themselves of either the statutory exemption 
provided by ERISA section 408(b)(2), or the administrative exemption 
provided in the Department's proposed Class Exemption, will bear the 
burden of establishing compliance with the conditions of these 
exemptions.

[[Page 70994]]

C. Effective Date

    The Department proposes that its amendments to regulation section 
2550.408b-2(c) be effective 90 days after publication of the final 
regulation in the Federal Register. The Department invites comments on 
whether the final regulation should be made effective on a different 
date.

D. Request for Comments

    The Department invites comments from interested persons on the 
proposed regulation and other issues discussed in this Notice. Comments 
should be submitted electronically by e-mail to e-ORI@dol.gov, or by 
using the Federal eRulemaking portal at http://www.regulations.gov. 

Persons wishing to submit paper copies should address them to the 
Office of Regulations and Interpretations, Employee Benefits Security 
Administration, Room N-5655, U.S. Department of Labor, 200 Constitution 
Avenue, NW., Washington, DC 20210, Attn: 408(b)(2) Amendment. All 
comments received will be available for public inspection, without 
charge, at http://www.regulations.gov or at http://www.dol.gov/ebsa and 
in the Public Disclosure Room, N-1513, Employee Benefits Security 
Administration, 200 Constitution Avenue, NW., Washington, DC 20210.
    The comment period for this proposed regulation will end 60 days 
after publication of the proposed rule in the Federal Register. The 
Department believes that this period of time will afford interested 
persons an adequate amount of time to analyze the proposal and submit 
comments.

E. Regulatory Impact Analysis

(1) Overview of the Proposal

    Under section 406(a)(1)(C) of ERISA's prohibited transaction rules, 
the furnishing of goods, services, or facilities between a plan and a 
party in interest to the plan is generally prohibited.\17\ A service 
relationship between a plan and a service provider would thus 
constitute a prohibited transaction in the absence of regulatory 
relief, because ERISA defines any person providing services to the plan 
as a ``party in interest'' to the plan.\18\ Section 408(b)(2) of ERISA, 
however, exempts certain arrangements between plans and service 
providers that otherwise would be prohibited transactions. To obtain 
relief under that section, the arrangement must be reasonable, the 
services must be necessary for the establishment or operation of the 
plan, and no more than reasonable compensation must be paid for the 
services.\19\ Regulations issued by the Department clarify each of 
these conditions to the exemption.\20\
---------------------------------------------------------------------------

    \17\ See ERISA Sec.  406(a)(1)(C).
    \18\ See ERISA Sec.  3(14)(B).
    \19\ See ERISA Sec.  408(b)(2).
    \20\ See 29 CFR 2550.408b-2.
---------------------------------------------------------------------------

    To further clarify the meaning of a ``reasonable'' contract or 
arrangement under section 408(b)(2), the Department proposes to amend 
the regulation at 29 CFR Sec.  2550.408b-2(c). Under the proposal, a 
contract or arrangement to provide covered services to a plan would not 
be reasonable unless it requires the service provider to disclose, in 
writing, certain information before the contract or arrangement is 
entered into, extended, or renewed. The Department believes that, in 
order to satisfy their ERISA obligations, plan fiduciaries need 
information concerning all compensation to be received by the service 
provider and any conflicts of interest that may adversely affect the 
service provider's performance of the contract or arrangement.
    The proposal requires that, in order to be considered a reasonable 
contract or arrangement, the contract must require the service provider 
to furnish the specified information to the responsible plan fiduciary. 
The rule also would require that the service provider comply with its 
contractual obligation and actually furnish the specified information. 
These disclosures are intended to enable the responsible plan fiduciary 
to ensure that no more than reasonable compensation is paid to the 
service provider for the services and to illustrate any actual or 
potential conflicts of interest that may affect the service provider's 
judgment.
    Once adopted, these requirements will apply to all contracts or 
arrangements between plans (including pension plans, group health 
plans, and other types of welfare benefit plans) and service providers 
who are fiduciaries; who provide banking, consulting, custodial, 
insurance, investment advisory, investment management, recordkeeping, 
securities or other investment brokerage, or third party administration 
services; or who receive indirect compensation for accounting, 
actuarial, appraisal, auditing, legal, or valuation services to the 
plan (collectively ``covered services'' or ``covered providers'').
    The Department's interest in this proposal stems from concerns 
about the fees paid for by employee benefit plans, and the ability of 
plan sponsors and fiduciaries to understand these fees which may be 
paid directly or indirectly by plans. The Department believes that 
greater understanding of these fees by the affected parties will 
increase efficiency and competition in the service provider market and 
generate benefits to plans and thus to plan participants. Although the 
Department believes this rule will have the greatest effect on service 
providers to pension plans, the Department identified other employee 
benefit plans, such as health and welfare plans, that would be affected 
by this regulation and could realize benefits from the proposal similar 
to the benefits realized by pension plans.
    In a separate regulatory effort, the Department has revised 
Schedule C of the annual Form 5500, which is filed by most large plans. 
Schedule C collects information about plan service providers that were 
compensated in excess of $5,000. These revisions are intended to 
improve the reported information on compensation and revenue sharing 
arrangements of service providers to employee benefit plans. Similar to 
the proposed revisions under section 408(b)(2) of ERISA, the revisions 
to Schedule C are intended to help plan sponsors and fiduciaries in 
determining the reasonableness of the fees they pay to service 
providers and to help assess any potential conflicts of interest. While 
the proposed regulation under section 408(b)(2) of ERISA concerns the 
disclosure of information during the decision-making process, the 
changes to Schedule C concern the provision of retrospective 
information as part of a plan's annual reporting obligations.
    The Department is also publishing, simultaneously with this 
regulatory initiative, a proposed class exemption for plan fiduciaries 
in certain circumstances when plan service arrangements fail to comply 
with ERISA section 408(b)(2). The exemption is published elsewhere in 
this issue of the Federal Register. In the preamble to the exemption, 
the Department describes how it has taken into account the availability 
of conditional relief under the exemption in assessing the economic 
costs and benefits of the regulation. The Department believes that the 
exemption is essential to achieve the purposes underlying the 
regulation.

(2) Executive Order 12866 Statement

    Under Executive Order 12866, the Department must determine whether 
a regulatory action is ``significant'' and therefore subject to the 
requirements of the Executive Order and subject to review by the Office 
of Management and Budget (OMB). Under section 3(f) of the Executive 
Order, a ``significant regulatory action'' is an action that is

[[Page 70995]]

likely to result in a rule (1) having an annual effect on the economy 
of $100 million or more, or adversely and materially affecting a sector 
of the economy, productivity, competition, jobs, the environment, 
public health or safety, or State, local or tribal governments or 
communities (also referred to as ``economically significant''); (2) 
creating serious inconsistency or otherwise interfering with an action 
taken or planned by another agency; (3) materially altering the 
budgetary impacts of entitlement grants, user fees, or loan programs or 
the rights and obligations of recipients thereof; or (4) raising novel 
legal or policy issues arising out of legal mandates, the President's 
priorities, or the principles set forth in the Executive Order. OMB has 
determined that this action is significant under section 3(f)(1) 
because it is likely to materially affect a sector of the economy. 
Accordingly, the Department has undertaken, as described below, an 
analysis of the costs and benefits of the proposed regulation in 
satisfaction of the requirements of the Executive Order. The Department 
believes that the proposed regulation's benefits justify its costs.

(3) Need for Regulatory Action

    Employee benefit plans have evolved over the past several years, 
resulting in changes to both the services provided to the plans and the 
compensation received by service providers. Fee structures for service 
providers have, in some cases, become more complex and less transparent 
for plan sponsors or fiduciaries determining what is actually paid for 
services. This increased complexity also makes it more difficult to 
discern the service provider's potential conflicts of interest. It has 
also become more difficult to determine the impacts of these potential 
conflicts of interest on the fees paid by, or the quality of the 
services provided to, the plan.
    Despite these complexities, when selecting or monitoring service 
providers, plan fiduciaries must act prudently and solely in the 
interest of the plan's participants and beneficiaries and for the 
exclusive purpose of providing benefits and defraying reasonable 
expenses of administering the plan. To meet these obligations, it is 
vital that fiduciaries have enough information to make informed 
assessments and decisions about the services, the costs and the 
providers. In this regard, the Department has published interpretive 
guidance concerning the disclosure and other obligations of plan 
fiduciaries and service providers under sections 404, 406(b) and 408(b) 
of ERISA.\21\
---------------------------------------------------------------------------

    \21\ See, e.g. Field Assistance Bulletin 2002-3 (Nov. 5, 2002) 
and Advisory Opinions 97-16A (May 22, 1997) and 97-15A (May 22, 
1997).
---------------------------------------------------------------------------

    To the extent that plan fiduciaries are unable to obtain this 
information, or unable to use it to choose among service providers in a 
manner that upholds their fiduciary duty, a failure exists in the 
market for services for employee benefit plans. This market failure 
results from information asymmetry between the providers of plan 
services who possess information about their fee structures and 
potential conflicts of interest and plan fiduciaries that lack this 
information but need it to act in the best interest of their plans. The 
Department believes that both responsible plan fiduciaries and service 
providers will benefit from this proposed regulation, which will 
promote the efficiency of plan fiduciaries finding and using the 
information they need to search for service providers. This action 
furthers important public policy goals of increased transparency and 
increased competition in the service provider market.

(4) Regulatory Alternatives

    Executive Order 12866 directs Federal Agencies promulgating 
regulations to evaluate regulatory alternatives. The Department 
considered the following alternatives: Remaining with the status quo, a 
general regulatory framework, broad applicability, and a specific 
framework with limited application. These alternatives are described 
further below:
     Remain with status quo
    The Department weighed the option of remaining with the status quo 
and relying on the current regulatory framework. ERISA's existing 
fiduciary duties imposed by sections 404 and 408(b)(2) already require 
plan fiduciaries to ensure that fees paid to service providers are 
reasonable. As part of this duty, fiduciaries must obtain information 
about fees and conflicts of interest. Absent a regulation, the status 
quo framework relies upon these more general fiduciary requirements to 
ensure that plans pay reasonable service fees.
    The status quo alternative was rejected. Although the Department 
has issued technical guidance concerning plan fiduciaries' obligations 
to assess all compensation received by service providers, issues remain 
concerning the adequacy of current disclosures made to plans. The 
Department believes that plan fiduciaries would benefit from a clear 
and uniform regulatory standard for disclosure. Additionally, under the 
``status quo'' alternative, it is unclear whether non-fiduciary service 
providers are obligated by law to provide the information the 
Department believes fiduciaries need in order to evaluate whether a 
provider's fees are reasonable.
     General regulatory framework
    Second, the Department considered establishing a general regulatory 
framework requiring service providers to furnish, and plan fiduciaries 
to obtain, information on fee structures and conflicts of interest. 
This alternative would not have specified in detail the exact 
information that must be exchanged, but would have left this up to the 
parties to the contract or arrangement. The Department rejected this 
alternative because it believes both responsible plan fiduciaries and 
service providers would benefit from additional guidance concerning the 
information that must be exchanged. The Department felt that, although 
this alternative would create an obligation on the part of the parties 
to exchange information that relates to the reasonableness of fees, 
parties may be left with ongoing ambiguity about exactly what 
information is necessary to fully evaluate a service provider contract 
or arrangement. The Department therefore believes that this alternative 
would fail to generate significant benefits in the form of greater 
efficiency with higher costs than the status quo.
     Broad applicability
    Third, the Department considered applying the proposed regulation 
broadly to all service arrangements that rely on the section 408(b)(2) 
service provider exemption for relief from ERISA's prohibited 
transaction rules. Upon further consideration, this alternative was 
rejected because the Department believed that the proposal's written 
disclosure requirements should be targeted to a more specifically 
defined group of service providers. The Department believes that 
certain service arrangements generally do not involve complex 
compensation arrangements or conflicts of interest, and therefore need 
not be separately regulated in order to ensure that compensation 
information is disclosed. Benefits from this alternative and the 
proposed rule would be similar and benefits would be accruing primarily 
to those plans with complex service provider arrangements. This 
alternative would be more costly than the proposed framework as more 
service providers would be affected.
     Specific framework with limited application
    Lastly, the Department considered, and ultimately has adopted as 
its

[[Page 70996]]

proposal, a rule requiring that, in order to be reasonable, a contract 
or arrangement for services must mandate that certain sets of service 
providers disclose specified information about their compensation and 
conflicts of interest. The proposal covers typical plan service 
providers that are most likely to have complex compensation 
arrangements or conflicts of interest. They include: fiduciary service 
providers; providers furnishing banking, consulting, custodial, 
insurance, investment advisory or management, recordkeeping, securities 
or other investment brokerage, or third party administration services; 
or providers who receive indirect compensation for accounting, 
actuarial, appraisal, auditing, legal or valuation services. The 
Department believes this framework will yield the information that plan 
fiduciaries need in order to assess the reasonableness of compensation 
paid for services from these service providers. Absent the regulation, 
such information may be difficult to obtain. The Department believes 
that the proposed rule provides the largest benefit among the four 
alternatives, while also limiting the costs.

(5) Characterization of Affected Entities

(a) Interaction of Affected Entities
    The Department considered the costs and benefits of the proposed 
regulation over a 10-year time frame beginning in 2008. The proposed 
regulation will apply to all contracts or arrangements between plan 
fiduciaries and service providers that fall within its scope. The 
Department believes that other entities also may be affected either 
directly or indirectly by the proposal, including plan participants and 
plan sponsors. Using data from plan year 2003 submissions of Form 5500 
and Schedule C, the Department developed a detailed industry profile to 
obtain information on these entities and their growth over the analysis 
period. The industry profile also describes the interactions among 
these entities and the influence of the proposed regulation on these 
interactions.\22\
---------------------------------------------------------------------------

    \22\ See Technical Appendix A to the 408(b)(2) Regulatory Impact 
Analysis, which is available as part of the public docket associated 
with this regulation, for details.
---------------------------------------------------------------------------

(b) Growth of Affected Entities Over Time
    To estimate the costs of the rule in future years, it is necessary 
to project the growth of the affected entities. To estimate this 
growth, the Department calculated a growth rate from past data on 
pension plans and participants. This growth rate was used to project 
the numbers of potentially affected entities in future years out to 
2020. In the absence of more specific information, the Department 
assumed a growth in pension plans and participants equal to that of the 
labor force and the economy. The estimated growth rate was thus based 
on industry-wide trends in pension plans and participants.
    The Department used data from 1985 to 2005 on numbers of defined 
benefit (DB) and defined contribution (DC) plans.\23\ Since 1985, there 
has been a dramatic increase in the number of 401(k) plans, while other 
DC and DB plans show a marked decrease. Overall, there are slight 
increases in the total number of plans and participants. These 
increases are driven by the growth of 401(k) plans.
---------------------------------------------------------------------------

    \23\ Investment Company Institute, 401(k) Plans: A 25-Year 
Retrospective (Dec. 2006) at 3.
---------------------------------------------------------------------------

    The Department estimated a growth rate model based on fitting an 
exponential curve function through the data points. This growth rate 
model was then used to predict future numbers of plans and 
participants. The results showed steady increases in the total number 
of plans (from about 800,000 in 2010 to 850,000 in 2020) and 
participants (from around 81,800,000 in 2010 to 90,800,000 in 2020) for 
the years 2010 through 2020.
(c) Quantitative Characterization of Affected Entities
    The Department undertook a quantitative characterization of the 
benefit plan industry to gain additional information on the entities 
the Department believes would be affected by the rule. This subset of 
employer-sponsored plans was used for this characterization due to the 
availability of data on these types of plans. Data from plan year 2003 
submissions of Form 5500, a yearly filing required for many benefit 
plans, were used for this analysis. The general approach of this 
characterization was to look at the two major plan types, pension 
(defined benefit and defined contribution) and welfare, and, where 
appropriate, subcategories within each plan type.
    For plan year 2003, there were around 762,000 benefit plans for 
which a Form 5500 was filed, 676,000 of which were pension plans and 
roughly 86,000 of which were welfare plans. This population of benefit 
plans can be divided into large plans ([gteqt]100 participants) and 
small plans (< 100 participants), according to the filing instructions 
for Form 5500. For plan year 2003, there were nearly 153,000 large 
plans and nearly 610,000 small plans. Thus, most employee benefit plans 
have fewer than 100 participants.
    The Department made a rough characterization of the plan sponsor 
population using data collected via Form 5500. For all plans filed that 
year, there were over 622,000 plan sponsors, with about 86 percent of 
sponsors having only one benefit plan. Among plans filed for 2003, 
there were nearly 79,000 sponsors of large plans and over 555,000 
sponsors of small plans. The Department believes, however, that these 
numbers might be slightly overestimated due to some plan sponsors 
filing under more than one employer identification number.
    The Department characterized data for service providers to benefit 
plans from Schedule C submissions for plan year 2003. Compared to plan 
sponsor data, the data on service providers was very limited, as only a 
subset of plans must file Schedule C. For example, data for services 
and service providers to small plans, which account for over 80 percent 
of all plans, are not represented in the Schedule C filings. In terms 
of the number of service providers per plan, almost three quarters (72 
percent) of the plans listed using one or two service providers, and 95 
percent of the plans used 10 or less service providers. Only 14 plans 
used 40 or more unique service providers.
    The Department also characterized the number of affected services 
provided by plan type and size (based on the number of participants) 
for all plans that filed Schedule C for plan year 2003, or the number 
of plan-provider arrangements. There were nearly 55,000 affected plan-
provider arrangements for pension plans, and nearly 31,000 affected 
plan-provider arrangements for welfare plans. This analysis resulted in 
an estimate of the number of affected service providers to pension 
plans as nearly 9,878, and to welfare plans as 7,519, for a total 
number of about 15,600 affected service providers (providers that 
service both markets are counted only once). Although this analysis 
only covered a subset of the service provider market, the Department 
believes that this analysis included most of the affected service 
providers. Additional characterizations of service providers in terms 
of the services provided and compensation received are presented in 
Technical Appendix A to the 408(b)(2) Regulatory Impact Analysis.
    The Department characterized benefit plan participants from Form 
5500 submissions for plan year 2003. This analysis showed roughly 151.8 
million pension plan participants and 162.7 million welfare plan 
participants. The totals for pension plans and welfare

[[Page 70997]]

plans may overlap, as individuals may participate in more than one type 
of plan.
(6) Benefits
    As an example of the kind of benefits that could arise from this 
rule, the Department considered the possible benefits to defined 
contribution pension plans. The Department considered these benefits of 
the proposal from a qualitative perspective due to the ambiguous nature 
of the benefits arising from the proposal and the difficulty of 
quantifying them. Primary benefits of the proposal were thought to 
result from the potential for reduced unit costs incurred by plans for 
fiduciaries to search for service providers. This potential reduced 
unit cost of searching would encourage plan fiduciaries to obtain 
information from a larger set of service providers when they were 
making decisions about which provider to engage. Additionally, 
fiduciaries would have fewer barriers to changing service providers if 
they were not happy with their current fees or the returns they were 
receiving.
    The social benefits arising from the proposal would be the sum of 
three different possible categories of primary benefits: possible lower 
fees paid by plans, possible increased efficiency due to reduced 
conflicts of interest, and possible higher returns due to reduced unit 
search costs incurred by plans. The magnitude of these benefits would 
depend in part on the degree to which the proposal actually resulted in 
lower search costs, and the degree to which different kinds of 
inefficiency currently exist in the market for service providers. A 
graphical analysis of these primary benefits is provided in Technical 
Appendix A to the 408(b)(2) Regulatory Impact Analysis which shows how 
the proposal lowers the marginal search costs for plans and how this 
cost reduction results in a greater amount of searching effort 
performed at a lower cost. The graphical analysis also shows the total 
net benefits to plans from the increased search effort by fiduciaries 
and the total societal net benefits of the reduction in unit search 
costs for service providers.
    In addition to the potential primary benefits of the proposal, the 
Department identified potential secondary benefits due to possible 
higher rates of investment by participants in defined contribution 
pension plans. These secondary benefits could potentially arise from 
increased plan efficiencies and better investment choices by plan 
fiduciaries, and possibly from increases in plan participants' 
confidence in their plans as well. With greater transparency of fee 
structures, plan participants may have increased levels of confidence 
in their plans and may feel that their investment opportunities are 
more attractive. This increased confidence and attractiveness of 
investments could in turn result in a higher rate of investment in 
plans by plan participants. The existence and magnitude of these 
secondary benefits would depend on the preferences of employees in 
trading current for future consumption. Possible increases in rates of 
investment would be a benefit to society if the rate of return on 
capital investment were greater than the social rate of time preference 
between current and future consumption. Both of these issues are 
covered in Technical Appendix B to the 408(b)(2) Regulatory Impact 
Analysis.
(7) Costs
    The Department estimated costs for the proposal over the 10-year 
time frame for the analysis. The primary costs of the rule are seen to 
accrue to service providers. \24\ The Department used information from 
the quantitative characterization of the service provider market 
presented above as a basis for these cost estimates. This 
characterization did not account for all service providers, but did 
provide information on the segments of the service provider industry 
that are likely to be most affected by the proposal (i.e., those who 
service pension plans). In addition to the costs to service providers, 
the Department also considered other potential costs and savings from 
the proposal, including savings to plan participants and costs to the 
plan due to its fiduciaries' review of any additional material they 
receive as part of the required disclosures.
---------------------------------------------------------------------------

    \24\ Costs to service providers might be ultimately borne by 
plans and their participants.
---------------------------------------------------------------------------

(a) Costs to Service Providers
    (i) Initial costs. When the Department publishes the proposal, 
affected service providers will need to evaluate whether their current 
disclosure practices comply with the proposal and, if not, how their 
practices must be changed to be compliant. The Department projected 
this as a cost incurred in the year in which the rule takes effect.
    The Department assumed that all affected service providers will 
incur a cost for rule familiarization, and estimated this cost to be 
one hour per service provider. The Department assumed that the rule 
familiarization would be performed by an in-house professional-level 
employee at a cost of $56 per hour. \25\ Using the number of unique 
service providers identified in the quantitative analysis presented 
earlier (15,600), this cost was estimated to be about $870,000 (15,600 
x 1 x $56).
---------------------------------------------------------------------------

    \25\ The hourly wage estimates used in this analysis are 
estimates for 2007 and are based on data from the Bureau of Labor 
Statistics National Occupational Employment Survey (May 2005) and 
the Bureau of Labor Statistics Employment Cost Index (Sept. 2006).
---------------------------------------------------------------------------

    Although all affected service providers are assumed to incur these 
initial costs, it is more likely that only service providers with 
complex fee arrangements and conflicts of interest would find a formal 
review process to be necessary. The Department assumed that the number 
of service providers undertaking this kind of formal review is similar 
to the number of unique service providers who are reported on the 
Schedule C as having received $1 million or more in compensation 
(2,100). Assuming that 24 working hours would be required to read the 
proposal, review a service provider's current disclosure practices, and 
describe needed changes, if any, the initial cost of legal review is 
around $5.4 million (2,100 service providers x 24 hours x $106 in-house 
lawyer rate).
    Affected service providers must also develop or update their 
current disclosure statements. This activity includes developing 
formulae and algorithms to estimate direct and indirect compensation 
that will be applied in a pro forma projection for each plan with which 
the provider will contract. The Department again assumed that the 
majority of this cost would be incurred by service providers in the 
first year of the analysis period. The existing amount of disclosure 
supplied by many service providers is likely to be adequate for 
compliance with the new rule. For example, a service provider offering 
unbundled trustee services or unbundled participant communications 
services is likely to stipulate a single direct payment that is already 
being adequately disclosed in the absence of the new rule. For this 
calculation, the Department assumed that the number of unique service 
providers reported on the Schedule C as having received $1 million or 
more in compensation (2,100) is a reasonable proxy for the number of 
service providers that will need to update their current disclosure 
statements. The Department assumed that 80 working hours would be 
required to implement changes to disclosure statements, producing a 
cost of about $9.4 million (2,100 service providers x 80 hours x $56 
in-house professional rate).

[[Page 70998]]

    (ii) Recurring costs.
    In addition to the initial costs identified above, the Department 
estimated the burden for two recurring costs that would accrue during 
each subsequent year of the analysis period. The first recurring cost 
was for service providers entering the market (either for the first 
time or by re-entry) to provide service to plans after the first year 
of applicability. These firms incur the initial cost of rule 
familiarization. The Department has assumed that one-twelfth (1,300 = 
15,600 x \1/12\) of all service providers are new in each year 
subsequent to the first.\26\ Familiarization costs then equal around 
$73,000 (1,300 service providers x 1 hour x $56 in-house professional 
rate).
---------------------------------------------------------------------------

    \26\ Industry growth, and therefore the growth in the number of 
service providers over time, has been addressed in Exhibit 7-4. For 
example, in 2009 the Department has assumed that there are 12% more 
service providers than in 2003.
---------------------------------------------------------------------------

    The second recurring cost arises from affected service providers 
needing to develop the written disclosure statement each time the 
``contracts and arrangements entered into,'' are ``extended, or 
renewed.'' Many contracts between plans and service providers have 
multi-year terms, automatic annual renewals, or no specific term 
(having instead a provision for either party to terminate at will).\27\ 
Despite these longer contract terms, though, even these contract types 
are likely to include, at least annually, material changes to elements 
such as unit costs. The Department thus estimated one disclosure per 
year per contract between a plan and service provider.\28\ Service 
providers may provide similar written disclosures as plan 
administrators ask for multiple bids for a single service or as plan 
administrators ask for costs for multiple investment or service options 
from a single provider. These additional written disclosures are not 
strictly subject to the proposal because they are not directly related 
to a transaction. For this reason, these additional disclosures were 
not included in the estimated costs of the rule.
---------------------------------------------------------------------------

    \27\ Please note that 29 CFR 2550.408b-2(c) provides, in part, 
that a contract or arrangement for services must be terminable, on 
reasonably short notice, by a plan.
    \28\ These recurring costs are assumed to accrue every year, 
starting with the first year.
---------------------------------------------------------------------------

    Exhibit 7-1 presents an estimate of the number of contracts using 
Form 5500 data from plan year 2003. The projection assumes that those 
who are not Schedule C filers have as many providers on average as 
Schedule C filers. Firms such as insurance companies that may be 
service providers for purposes of the proposal may have been reported 
on Schedule A. These firms are not included in this estimate.

                                                      Exhibit 7-1.--Number of Disclosures Per Year
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                                                        Affected service
                                                                   Schedule C         Affected          Affected          Affected          provider
      Type and number of  participants         Number of plans       filers          schedule C       provider-plan     providers per     arrangements
                                                                                       filers         arrangements          plan           (projected)
--------------------------------------------------------------------------------------------------------------------------------------------------------
Pension (DB, DC) < 100 participants..........           596,641               526               444               613              1.38           823,741
Pension (DB, DC) 100-499 participants.......            57,961            16,680            15,289            18,846              1.23            71,446
Pension (DB, DC) 500-1,000 participants.....             8,958             4,774             4,488             7,470              1.66            14,910
Pension (DB, DC) >1,000 participants........            12,427             8,478             8,077            28,255              3.50            43,472
All Pension (DB, DC)........................           675,987            30,458            28,298            55,227  ................           953,569
Welfare < 100 participants...................            13,095               801               738               913              1.24            16,200
Welfare 100-499 participants................            46,224             7,366             6,736             8,811              1.31            60,463
Welfare 500-1,000 participants..............            10,475             2,558             2,377             4,286              1.80            18,888
Welfare >1,000 participants.................            16,670             5,075             4,780            16,946              3.55            59,098
All Welfare.................................            86,464            15,800            14,631            31,025  ................           154,649
All Plans...................................           762,451            46,258            42,929            86,692  ................         1,108,218
--------------------------------------------------------------------------------------------------------------------------------------------------------

    The Department assumed that many written disclosure statements 
under the proposal could be made routine and automatic. In the absence 
of good data on the number of easily automated versus not easily 
automated disclosure statements, the Department estimated that 70 
percent are easy and would not require any significant time to produce, 
and 30 percent are complex, requiring 1 hour and 40 minutes to produce. 
The weighted average for the time needed is therefore 0.5 hours per 
written disclosure, yielding a recurring contracting disclosure cost of 
around $31 million (1,108,000 disclosures x 0.5 hours x $56 in-house 
professional rate). The Department invites the public to comment on 
these assumptions.
    A summary of the initial and recurring labor costs is shown below 
in Exhibit 7-2.

                           Exhibit 7-2.--Summary of Initial and Recurring Labor Costs
----------------------------------------------------------------------------------------------------------------
                                              Affected
                                           quantity  (2003        Hours          Labor rate      Total  (2007$s)
                                                data)                             (2007$s)
----------------------------------------------------------------------------------------------------------------
Initial Cost 1 (First Year).............            15,609                 1               $56          $874,104
Initial Cost 2 (First Year).............             2,101                24               106         5,344,944
Initial Cost 3 (First Year).............             2,101                80                56         9,412,480

[[Page 70999]]


Subtotal Initial Cost...................  ................  ................  ................        15,631,528
いいいいいいいいいいいいいいいいいいいい
Recurring Cost 1 (Subsequent Years).....            1, 300                 1                56            72,800
                                         -----------------------------------------------------------------------
Recurring Cost 2 (All Years)............         1,108,218               0.5                56        31,030,104
----------------------------------------------------------------------------------------------------------------

    Lastly, the Department estimated annual materials costs 
attributable to the disclosures required under the proposal. The 
Department's proposal does not provide detailed guidance on the format 
of the disclosure. However, the Department previously made available on 
its Web site (http://www.dol.gov/ebsa) a Model Fee Disclosure Form 

developed in cooperation with industry representatives that reflects 
similar types of information and runs to 11 pages. The disclosures are 
thus assumed to add 11 pages to existing written materials in each 
year. Paper and printing costs are estimated at $0.05 per page. The 
Department assumed that there would be no significant additional 
postage costs because the disclosures, in most cases, could be included 
with other written materials given to the plan before the contract is 
entered into. [Total material costs are therefore roughly $609,500 
($0.05 per page x 11 additional pages x 1,108,000 disclosures).]
    This materials cost was then added to the initial and recurring 
costs to estimate the total costs of the rule. These calculations are 
summarized below in Exhibit 7-3.

                       Exhibit 7-3.--Summary of Total Initial and Recurring Costs by Year
----------------------------------------------------------------------------------------------------------------
                                                               Labor costs     Materials costs     Total costs
----------------------------------------------------------------------------------------------------------------
First Year: Initial Costs.................................       $15,631,528  ................  ................
First Year: Recurring Costs 2.............................        31,030,104          $609,520  ................
                                                           -----------------------------------------------------
    First Year: Cost Total................................        46,661,632           609,520        47,271,152

Subsequent Years: Recurring Costs 1.......................            72,800  ................  ................
Subsequent Years: Recurring Costs 2.......................        31,030,104           609,520  ................
                                                           -----------------------------------------------------
    Subsequent Years: Cost Total..........................        31,102,904           609,520        31,712,424
----------------------------------------------------------------------------------------------------------------

    Exhibit 7-4 below shows the projection of costs over the 10-year 
time horizon for the proposal. The number of service providers is 
expected to grow above the number projected from plan year 2003 Form 
5500 data. In order to quantify the increase in affected service 
providers over time, the Department has used 1997 and 2002 Economic 
Census data from the U.S. Census Bureau. The growth in ``Portfolio 
Managers'' (NAICS 523920) between the 1997 and 2002 Economic Census 
represents a compound annual growth rate of 3.8 percent and was 
utilized for this analysis as an approximation of the growth rate for 
all affected service providers. The Department applied a conservative 
growth rate of half that historical value, 1.9 percent, to the plan 
year 2003 Form 5500 data. A real discount rate of 7 percent, as 
recommended in OMB Circulars A-94 and A-4, was applied to the ten-year 
stream of costs to obtain an estimate of the net present value of the 
costs. The 7 percent rate is an estimate of the average before-tax rate 
of return to private capital in the U.S. economy. The analysis is 
relatively insensitive to the value of the discount rate. Since the 
benefits of the proposal are not quantified, this net present value of 
the costs is also equal to the Department's estimate of the quantified 
net costs of the rule.

                                                     Exhibit 7-4.--Calculation of Net Present Value
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                      Growth in
                                                                    Real 2007          service          Real 2007                        Discounted 2007
                             Year                                    dollars       providers from   constant dollars   Discount factor       dollars
                                                                                        2003           with growth
--------------------------------------------------------------------------------------------------------------------------------------------------------
2008..........................................................       $47,271,152             1.099       $51,950,996             0.935       $48,574,181
2009..........................................................        31,712,424             1.120        35,517,915             0.873        31,007,140
2010..........................................................        31,712,424             1.141        36,183,876             0.816        29,526,043
2011..........................................................        31,712,424             1.163        36,881,549             0.763        28,140,622
2012..........................................................        31,712,424             1.185        37,579,222             0.713        26,793,986
2013..........................................................        31,712,424             1.207        38,276,896             0.666        25,492,413
2014..........................................................        31,712,424             1.230        39,006,282             0.623        24,300,913
2015..........................................................        31,712,424             1.253        39,735,667             0.582        23,126,158
2016..........................................................        31,712,424             1.277        40,496,765             0.544        22,030,240
2017..........................................................        31,712,424             1.301        41,257,864             0.508       20, 958,995
                                                               -----------------------------------------------------------------------------------------
    Total.....................................................  ................  ................  ................  ................       279,950,691
--------------------------------------------------------------------------------------------------------------------------------------------------------


[[Page 71000]]

(b) Cost Savings for Plan Participants
    The proposal may allow fiduciaries to make even better choices 
among offers from competing service providers and among options offered 
by any service provider. Since the fiduciary makes these choices in the 
best interest of the participants and beneficiaries, cost savings 
generally accrue to the plan and thus plan participants. The Department 
cannot directly quantify the amount of savings. The Department can, 
however, calculate a threshold value for the point at which the cost 
savings equal the costs identified above.
    Because the largest costs to plans generally are investment 
management costs, it is useful to express the threshold in terms of a 
percent against assets. Total assets held in private defined benefit 
and defined contribution plans in 2005 were $4.9 trillion.\29\ If more 
than 8 percent of plans realize expense reductions of 1 basis point 
(one one-hundredth of a percent), then cost savings will exceed costs. 
The Department assumes that at least 8 percent of plans will experience 
a reduction of at least 1 basis point. Therefore, cost savings are 
expected to exceed costs. These results are summarized below in Exhibit 
7-5. The Department invites the public to comment on these assumptions.
---------------------------------------------------------------------------

    \29\ Investment Company Institute, 401(k) Plans: A 25-Year 
Retrospective (Dec. 2006) at 3.

Exhibit 7-5.--Calculation of Threshold Value at Which Cost Savings Equal
                                  Costs
------------------------------------------------------------------------

------------------------------------------------------------------------
A....................  Annuity Equivalent to                 $39,858,680
                        $280.0 M.
B....................  Total Assets............       $4,861,000,000,000
C....................  Assets x 1 basis point..             $486,100,000
D = A/C..............  Threshold Percent of                           8%
                        Firms.
------------------------------------------------------------------------

(c) Costs to Plans
    Plan fiduciaries already have a fiduciary duty to evaluate the 
reasonableness of offers from service providers, and they already have 
access to tools like the Model Plan Fee Disclosure Form to assist them 
in asking service providers questions in order to encourage disclosure. 
The proposed changes to the Department's regulation under section 
408(b)(2) of the Act attempt to facilitate this duty by providing a 
framework as to what must be disclosed concerning service arrangements 
and by requiring service providers to provide such disclosures in order 
to benefit from the section 408(b)(2) statutory exemption.
    On the other hand, some plans may incur costs under the proposal. 
First, the new written disclosures are likely to become longer and more 
detailed than what fiduciaries are currently receiving. The prudent 
fiduciary may spend additional hours reviewing the longer written 
disclosure document, resulting in costs to their plan. In addition, 
some fiduciaries may be concerned that the availability of the detailed 
written disclosures exposes them to potential fiduciary liability. 
Fiduciaries could go so far as to hire outside consultants to review 
and evaluate the new written disclosures, which would again result in 
costs to their plans.
    On the whole, the Department projects that the amount of time saved 
by fiduciaries in gathering data is offset by the additional time spent 
by them in reviewing additional data. These potential costs to plans 
were thus not included in the estimates. The amount of time spent by 
fiduciaries is likely to be similar with or without the proposal, 
though: As was previously discussed in the benefits section, the time 
spent under the proposal evaluating and documenting fees as reasonable 
is likely to be more efficient than in the baseline.

(8) Initial Regulatory Flexibility Analysis

    The Regulatory Flexibility Act (5 U.S.C. 601, et seq.) (RFA) 
imposes certain requirements with respect to Federal rules that are 
subject to the notice and comment requirements of section 553(b) of the 
Administrative Procedure Act (5 U.S.C. 551, et seq.) and which are 
likely to have a significant economic impact on a substantial number of 
small entities. Unless an agency determines that a proposal is not 
likely to have a significant economic impact on a substantial number of 
small entities, section 603 of the RFA requires that the agency present 
an initial regulatory flexibility analysis (IRFA) at the time of the 
publication of the notice of proposed rulemaking describing the impact 
of the rule on small entities and seeking public comment on such 
impact. Small entities include small businesses, organizations and 
governmental jurisdictions.
    In response to this request, the Department prepared an IRFA of the 
proposal because, although the Department considers it unlikely that 
the rule will have a significant effect on a substantial number of 
small entities, the Department does not have enough information to 
certify to that effect.
(a) Reasons for and Objectives of the Proposal
    Employee benefit plans have evolved over the past several years, 
resulting in service providers having more complex compensation 
arrangements and conflicts of interest. Thus, plan fiduciaries face 
greater difficulty in assessing whether the compensation paid to their 
service providers is reasonable. This proposal is intended to help plan 
fiduciaries get the information they need to negotiate with and select 
service providers who offer high quality services at reasonable rates.
    The reasons for and objectives of this proposed regulation are 
discussed in detail in Section A of this preamble, ``Background,'' and 
in section 3 of the Regulatory Impact Analysis (RIA), ``Need for 
Regulatory Action.'' The legal basis for the proposal is set forth in 
the ``Authority'' section of this preamble, below.
(b) Estimating Compliance Requirements for Small Entities
    The Department estimated the number of small entities that would be 
required to make disclosures under the proposal by examining 2002 
Economic Census data for industries in North American Industry 
Classification System (NAICS) codes for activities affected by the 
proposal. Next, the Department used information on firms in the 
affected NAICS codes to estimate the population of affected firms. From 
this analysis, the Department estimated that about 14,600 small firms 
would incur costs under the proposal. Further detail on this estimation 
procedure is provided in Technical Appendix C to the 408(b)(2) 
Regulatory Impact Analysis.
    To determine the impact of the rule on small entities, the 
Department examined the initial and recurring costs that would be borne 
by small firms in further detail. As discussed in Section 7, the 
initial costs are estimated to amount to $56 for every small entity for 
rule

[[Page 71001]]

familiarization, and roughly $7,000 for more in-depth review and 
changes to disclosure practices for small entities at the larger end of 
the range, or those with over $1,000,000 in annual revenues. These 
costs, which are at most less than one percent of a single year's 
revenues, should be easily affordable for all small entities.
    The impact of recurring costs will depend on the number of plans 
served by each firm, and the fraction of plans requiring complex 
disclosures. In an attempt to determine the numbers of plans served by 
small service providers relative to large ones, the Department examined 
data from Form 5500 filings for plan year 2003. These data showed a 
strong tendency for smaller service providers (measured in terms of the 
total number of participants served) to serve plans of smaller average 
size. The Department found that, if all plans with 5 or fewer 
participants are served by the smallest of the service providers, it is 
possible that up around 5,150 small entities could face costs equal to 
one percent of revenues. Comparing this maximum to the total number of 
small entities bearing costs under this rule (about 14,600), or roughly 
one third of affected small entities could possibly bear ongoing costs 
equal to one percent of revenues as a result of the proposal. Because 
these magnitudes are above the thresholds commonly used to measure 
impacts on small entities, the Department considered it inappropriate 
to certify that the rule would not cause a ``significant impact on a 
substantial number of small entities.''
    In conclusion, the Department believes that the rule is very likely 
to result in costs that are insignificant in comparison to revenues for 
all but the smallest affected entities. This conclusion, however, is 
subject to considerable uncertainty, due largely to a lack of data on 
both small plans and small service providers. The Department believes 
that it is at least possible for a substantial number of small entities 
to bear costs that could be considered significant, and therefore, the 
Department examined the issue in detail. Additional detail on the 
Department's analysis of this issue can be found in Technical Appendix 
C to the 408(b)(2) Regulatory Impact Analysis.
(c) Considered Alternatives
    In accordance with the RFA, the Department considered whether 
several alternatives to the proposed regulation would minimize the 
economic impact on affected small entities. The Department also 
considered the anticipated benefits of the proposal for these entities. 
These alternatives are described further below, followed by a 
discussion of the Department's chosen alternative.
    (i) Exemption for Small Entities.
    The Department considered exempting from the requirements of the 
proposed regulation small service providers with a threshold of $6.5 
million in annual revenue. The threshold of $6.5 million follows from 
the Small Business Administration's definition of small firms.\30\ An 
exemption may lessen the burden on small service providers, to the 
extent such small service providers are not already providing written 
disclosures that would comply with the requirements of the proposed 
regulation. The Department believes, however, that such an exemption 
would not comport with the rule's objectives of providing plan 
fiduciaries with the information they need to assess the reasonableness 
of service fees. There is no indication that small service providers 
are any less likely to have complex fee arrangements or conflicts of 
interest. Instead, the Department has determined that the likely 
existence of complex fee structures and conflicts of interest depends 
more on the nature of the service provided than upon the size of the 
service provider. Accordingly, the Department has narrowed the 
proposal's scope to providers of a limited set of services, such as 
investment advice and management.
---------------------------------------------------------------------------

    \30\ U.S. Small Business Administration, ``Table of Small 
Business Size Standards Matched to North American Industry 
Classification System Codes.'' Available online at: http://www.sba.gov/idc/groups/public/documents/sba_homepage/serv_sstd_tablepdf.pdf.
 For further discussion please see the Technical 

Appendix Section C which can be accessed at the Department's Web 
site at http://www.dol.gov/ebsa.

---------------------------------------------------------------------------

    The Department believes that small providers and the plans they 
serve will benefit from the proposal, because it will clarify the 
information that must be disclosed to responsible plan fiduciaries.
    (ii) Delaying Implementation for Small Service Providers.
    The Department also considered delaying implementation of the 
proposal for small service providers and small plans. This delay would 
provide these parties with more time to become familiar with the 
disclosure requirements, over a period of up to two years beyond the 
rule's generally applicable effective date. However, similar to the 
Department's rationale for deciding not to provide an exemption for 
small entities, the Department believes that plans, large and small, 
contracting with small service providers need the information required 
by the proposal in order to determine the reasonableness of service 
provider fees. Further, the Department does not believe there is any 
benefit to delaying application of this proposal, because doing so 
would delay the benefits to all plans of the proposal's required 
disclosures. Failure to obtain such information could cause plans to 
pay too much for services.
    (iii) Benefits of the Proposal to Small Plans.
    The Department believes that small plans will benefit significantly 
from the proposal. Fiduciaries to small plans may sometimes have 
trouble obtaining complete disclosures from potential service 
providers. Because the proposal is conditioned on compliance by both 
responsible plan fiduciaries and service providers, the Department 
believes that it will assist small plan fiduciaries in obtaining the 
information they need to make informed decisions when selecting service 
providers. Additionally, responsible plan fiduciaries for plans, both 
large and small, will benefit from the clarity that the proposal 
provides concerning the specific information that the Department 
believes is relevant to these decisions.
(d) The Selected Alternative
    The Department considered and selected a disclosure framework that 
outlines what disclosures must be included in a ``reasonable'' contract 
or arrangement. As indicated above, small plans will benefit from this 
increased information at least as much as large plans will. Because 
there is no standard form for the disclosure, small service providers 
with relatively simple compensation arrangements and few, if any, 
conflicts of interest can provide a relatively simple, short written 
disclosure. The Department also limited the application of the rule to 
certain classes of services providers, as discussed above in the 
``Scope'' section of the preamble. By limiting the scope of the 
regulation to contracts or arrangements with service providers that are 
more likely to have complicated fee structures and conflicts of 
interest, the Department believes that the proposal will avoid 
unnecessary burdens on small service providers that will not be subject 
to its written disclosure requirements.
(e) Duplicative, Overlapping, and Conflicting Rules
    The Department identified two rules that potentially overlap or 
duplicate the proposal: Changes to the Form 5500,

[[Page 71002]]

Schedule C, and The Investment Advisers Act of 1940.
    (i) Changes to the Form 5500, Schedule C.
    Recent changes to the Form 5500, Schedule C, clarify the 
requirements for the reporting of direct and indirect compensation 
received by service providers. Also, Schedule C requires that the 
source and nature of compensation in excess of $1,000 received from 
parties other than the plan or the plan sponsor be disclosed for 
certain key service providers.
    Both the revised Schedule C requirements and the proposal aim to 
make indirect compensation received by service providers more 
transparent. The proposal, however, requires disclosure of compensation 
and fees in advance of contract performance so that the fiduciary can 
assess their reasonableness before they are paid. The Form 5500 
revisions, on the other hand, require disclosure of actual compensation 
and fees after contract performance.
    Small plans need not file the Schedule C, so the rule does not 
overlap for over 90 percent of plans. In addition, because small plans 
may tend to use small service providers, the existing relief for small 
plans from filing the Schedule C also minimizes the burden on small 
service providers.
    (ii) The Investment Advisers Act of 1940.
    The Investment Adviser's Act of 1940 authorizes the U.S. Securities 
Exchange Commission (SEC) to regulate investment advisors. The SEC 
requires SEC-registered investment advisers to disclose compensation 
and conflicts of interest to clients using the SEC Form ADV.
    Some of the information disclosed on Form ADV may be similar to 
disclosures required by this proposal, which also will elicit 
information about indirect compensation and conflicts of interest. 
However, the Department clarifies above in the preamble that parties 
may satisfy the proposal's disclosure requirements by incorporating 
other written materials. This flexibility is afforded to parties in 
order to avoid unnecessary duplication. Thus, the Form ADV may serve as 
part of the disclosure made by service providers to comply with the 
proposal. Further, many of the service providers covered by the 
proposal are not subject to the Investment Advisers Act.
(f) Congressional Review Act Statement
    This notice of proposed rulemaking is subject to the Congressional 
Review Act provisions of the Small Business Regulatory Enforcement 
Fairness Act of 1996 (5 U.S.C. 801 et seq.) and, if finalized, will be 
transmitted to the Congress and the Comptroller General for review.
(g) Unfunded Mandates Reform Act Statement
    For purposes of the Unfunded Mandates Reform Act of 1995 (Pub. L. 
104-4), as well as Executive Order 12875, the notice of proposed 
rulemaking does not include any federal mandate that will result in 
expenditures by state, local, or tribal governments in the aggregate of 
more than $100 million, adjusted for inflation, or increased 
expenditures by the private sector of more than $100 million, adjusted 
for inflation.

(9) Paperwork Reduction Act

    As part of its continuing effort to reduce paperwork and respondent 
burden, the Department of Labor conducts a preclearance consultation 
program to provide the general public and Federal agencies with an 
opportunity to comment on proposed and continuing collections of 
information in accordance with the Paperwork Reduction Act of 1995 (PRA 
95) (44 U.S.C. 3506(c)(2)(A)). This helps to ensure that the public 
understands the Department's collection instructions; respondents can 
provide the requested data in the desired format, the reporting burden 
(time and financial resources) is minimized, and the Department can 
properly assess the impact of collection requirements on respondents.
    Currently, the Department is soliciting comments concerning the 
information collection request (ICR) included in the Proposed Rule on 
Reasonable Contract or Arrangement Under Section 408(b)(2). A copy of 
the ICR may be obtained by contacting the person listed in the PRA 
Addressee section below. The Department has submitted a copy of the 
proposal to OMB in accordance with 44 U.S.C. 3507(d) for review of its 
information collections. The Department and OMB are particularly 
interested in comments that:
     Evaluate whether the proposed collection of information is 
necessary for the proper performance of the functions of the agency, 
including whether the information will have practical utility;
     Evaluate the accuracy of the agency's estimate of the 
burden of the collection of information, including the validity of the 
methodology and assumptions used;
     Enhance the quality, utility, and clarity of the 
information to be collected; and
     Minimize the burden of the collection of information on 
those who are to respond, including through the use of automated, 
electronic, mechanical, or other technological collection techniques, 
e.g., by permitting electronic submission of responses.
    Comments should be sent to the Office of Information and Regulatory 
Affairs, Office of Management and Budget, Room 10235, New Executive 
Office Building, Washington, DC 20503; Attention: Desk Officer for the 
Employee Benefits Security Administration. Although comments may be 
submitted through February 11, 2008, OMB requests that comments be 
received within 30 days of publication of the Notice of Proposed 
Rulemaking to ensure their consideration. Please note that comments 
submitted to OMB are a matter of the public record.
    PRA Addressee: Address requests for copies of the ICR to Gerald B. 
Lindrew, Office of Policy and Research, U.S. Department of Labor, 
Employee Benefits Security Administration, 200 Constitution Avenue, 
NW., Room N-5718, Washington, DC 20210. Telephone: (202) 693-8410; Fax: 
(202) 219-4745. These are not toll-free numbers. ICRs submitted to OMB 
are also available at reginfo.gov (http://www.reginfo.gov/public/do/PRAMain
).

(a) The Proposal
    The ICRs are contained in paragraph (c)(1)(iii) of the proposal and 
pertain to the written disclosure requirements that the service 
provider must make whenever a contract or arrangement is entered into, 
extended, or renewed as a condition to the relief provided by the 
proposal. The written disclosure must include a description of the 
specific services to be provided, the direct and indirect compensation 
or fees to be received by the service provider, and the manner of 
receipt of such compensation or fees. It must also include a statement 
concerning whether the service provider will provide any services to 
the plan as a fiduciary and statements about the potential for 
conflicts of interest.
    The Department estimates that about 15,600 affected service 
providers would need to review the rule and their current disclosure 
practices in the first year. The Department assumed that the rule 
familiarization would require one hour and be performed by an in-house 
professional-level employee at a cost of $56 per hour.
    In years subsequent to the first year of applicability, the 
Department estimates that providers newly entering the market for plan 
services will need to become familiar with the rule. One-twelfth 
(around 1,300) of all service

[[Page 71003]]

providers are assumed to be new to the market for plan services in each 
year subsequent to the first.\31\ The Department again assumed that the 
rule familiarization would take one hour and would be performed by an 
in-house professional-level employee at a cost of $56 per hour.
---------------------------------------------------------------------------

    \31\ Industry growth, and therefore the growth in the number of 
service providers over time, has been addressed in Exhibit 7-4. For 
example, in 2009 the Department has assumed that there are 12% more 
service providers than in 2003.
---------------------------------------------------------------------------

    The Department assumed that 2,100 affected service providers would 
have more complex fee arrangements and would therefore need to 
undertake a more formal review of their disclosure practices in the 
first year. The Department assumed that this formal review would 
require 24 working hours and be performed by an in-house lawyer at an 
estimated cost of $106 per hour. The Department assumed that the same 
affected providers (2,100) would also need to update templates and 
processes for disclosure in the first year. This update is assumed to 
require 80 working hours and be performed by a in-house profession-
level employee at a cost of $56 per hour, as described above.
    The Department estimates that 1,108,000 contracts or arrangements 
exist between service providers and plans and that each contract or 
arrangement will require a written disclosure. It is assumed that 
contracts or arrangements are either entered into or renewed once in 
each of the first three years after the regulation would become 
effective. Preparation and delivery of the required disclosure is 
assumed to add, on average, one half hour to the process of entering 
into a contract or arrangement. Preparation and delivery are assumed to 
be performed by an in-house professional-level employee at a cost of 
$56 per hour. The average annual burden hours across the first three 
years is therefore estimated as 633,000 hours. The equivalent cost for 
this burden hour estimate is about $36,290,000 per year.
    In addition to burden hours, the Department has estimated annual 
materials costs attributable to the disclosure. The Department's 
proposal does not provide detailed guidance on the content or format of 
the disclosure. However, the Department makes available a model 401(k) 
plan fee disclosure form that represents similar types of information 
and runs to 11 pages. The disclosures are assumed to add 11 pages to 
existing written contracts in each year. Paper and printing costs were 
estimated at $0.05 per page. It is assumed that there are no postage 
costs because, in most cases, the disclosures simply add content to 
what would generally be a written contract even absent the proposal. 
For each of the first three years, materials costs are therefore 
estimated to be roughly $609,500 (1,108,000 disclosures x 11 pages x 
$0.05 per page cost).
(b) The Proposed Class Exemption
    Not only does the proposal provide that the terms of the service 
contract must require the service provider to disclose its compensation 
and conflicts of interest, the service provider must also comply with 
the contract on an on-going basis and actually disclose this 
information in writing to the responsible plan fiduciary. If the 
service provider fails to disclose the data, then the provision of 
services will constitute a prohibited transaction under ERISA section 
406(a)(1)(C) because it will not be considered a ``reasonable contract 
or arrangement'' exempted by ERISA section 408(b)(2). Therefore, in 
such instances, the responsible plan fiduciary will have violated 
section 406(a)(1)(C) even if it made every effort to comply with the 
proposed regulation by entering into, or extending or renewing, a 
written contract that required such disclosures. The failure to make 
the required disclosures also would result in a prohibited transaction 
by the service provider under section 4975(c)(1)(C) of the Internal 
Revenue Code.
    Therefore, as an accompaniment to the proposed regulation, the 
Department also proposes a Class Exemption that will relieve such 
fiduciaries from liability for a prohibited transaction under ERISA 
section 406(a)(1)(C) in cases where the contract or arrangement 
requires the specified disclosures but the service provider fails to 
make them. This proposed Class Exemption is published in today's 
Federal Register.
    The ICR contained in the proposed exemption requires that the 
responsible plan fiduciary, upon discovering a service provider's 
failure to make the required disclosures, must submit a written request 
to the provider for all information that the provider should have 
disclosed. It also requires the responsible plan fiduciary to report a 
service provider's refusal or failure to comply with the request in 
certain situations. As discussed below, the Department has determined 
that this ICR imposes a small paperwork burden on responsible plan 
fiduciaries in addition to the ICR imposed by the proposal.
    To estimate this burden, the Department started with the number of 
disclosures made in the first year of the analysis (1,108,000) and 
assumed that 10 percent (111,000) of these disclosures would result in 
a concern by the responsible plan fiduciary after the contract or 
arrangement was solidified. According to the requirements of the 
exemption, the responsible plan fiduciary must, upon discovering a 
failure to disclose, submit a written request to the service provider 
for all information that it should have disclosed. The Department thus 
assumed that 111,000 written requests to service providers would be 
made for additional disclosure in the first year of the analysis. The 
Department assumed that the number of written requests would decrease 
in future years as service providers became more accustomed to the new 
disclosure requirements. Thus, in years two and three of the analysis, 
it was assumed that only five percent (about 55,500) of the total 
number of disclosures would be questioned. The Department averaged the 
number of exemption related requests over three years to obtain an 
average annual total of roughly 74,000 written disclosures.
    Upon receipt of the written request by the responsible plan 
fiduciary, the service provider then has 90 days to comply with the 
request. If the service provider fails or refuses to comply with the 
responsible plan fiduciary's request in this timeframe, the exemption 
requires the responsible fiduciary to notify the Department of the 
service provider's failure or refusal. The Department estimates the 
number of notifications they would expect to receive as ten percent of 
the total number of written requests received by service providers, or 
nearly 11,000 the first year and 5,500 in the two succeeding years. 
Averaging this number of notifications over the three years resulted in 
an annual number of notifications of around 7,400.
    The Department next estimated the total annual hour burden for the 
additional tasks required of plan fiduciaries under the exemption. The 
Department assumed that the written request to service providers would 
take a half hour of a fiduciary's time, resulting in a total annual 
hour burden of about 37,000 hours (74,000 requests x 0.5 hours). The 
Department next assumed that a notification to the Department of a 
service provider's failure or refusal to comply with a written request 
by the responsible fiduciary would take one hour of the responsible 
fiduciary's time, resulting in a total annual hour burden of 7,400 
(7,400 x 1 hour). Summing the burden of these two tasks resulted in a 
total annual hour burden estimate for plan fiduciaries of roughly 
44,000 hours. The

[[Page 71004]]

equivalent costs of these annual burden hours are about $2,070,000 ($56 
in-house professional labor rate x 37,000 hours) and $783,000 ($106 in-
house lawyer rate x 7,400 hours) for a total equivalent cost of around 
$2,850,000.
    In addition to burden hours, the Department has estimated annual 
materials costs for plan fiduciaries to comply with the requirements of 
the exemption. Paper and printing costs are estimated at $0.05 per 
page. The Department assumed that both requests to service providers 
and notifications to the Department would be two pages. Since 81,300 of 
these requests and notifications are expected annually, the annual 
material cost is about $8,100 (81,300 x $0.05 x 2), plus an annual 
postage cost of $33,300 (83,100 x $0.41), totaling around $41,400.
    These paperwork burden estimates are summarized as follows:
    Type of Review: New collection (Request for new OMB control 
number).
    Agency: Employee Benefits Security Administration, Department of 
Labor.
    Title: Reasonable Contract or Arrangement Under Section 408(b)(2)--
Fee Disclosure.
    OMB Control Number: 1210-New.
    Affected Public: Business or other for-profit; not-for-profit 
institutions.
    Estimated Number of Respondents: 79,500.
    Estimated Number of Responses: 1,189,000.
    Frequency of Response: Annually; occasionally.
    Estimated Average Annual Burden Hours: 677,000.
    Estimated Average Annual Burden Cost: $651,000.

F. Federalism Statement

    Executive Order 13132 (August 4, 1999) outlines fundamental 
principles of federalism and requires the adherence to specific 
criteria by Federal agencies in the process of their formulation and 
implementation of policies that have substantial direct effects on the 
States, the relationship between the national government and the 
States, or on the distribution of power and responsibilities among the 
various levels of government. The proposed regulation would not have 
federalism implications because it has no substantial direct effect on 
the States, on the relationship between the national government and the 
States, or on the distribution of power and responsibilities among the 
various levels of government. Section 514 of ERISA provides, with 
certain exceptions specifically enumerated that are not pertinent here, 
that the provisions of Titles I and IV of ERISA supersede State laws 
that relate to any employee benefit plan covered by ERISA. The 
requirements implemented in the proposed regulation do not alter the 
fundamental provisions of the statute with respect to employee benefit 
plans, and as such would have no implications for the States or the 
relationship or distribution of power between the national government 
and the States.

List of Subjects in 29 CFR Part 2550

    Employee benefit plans, Exemptions, Fiduciaries, Investments, 
Pensions, Prohibited transactions, Reporting and recordkeeping 
requirements, and Securities.

    For the reasons set forth in the preamble, the Department proposes 
to amend Chapter XXV, subchapter F, part 2550 of Title 29 of the Code 
of Federal Regulations as follows:

SUBCHAPTER F--FIDUCIARY RESPONSIBILITY UNDER THE EMPLOYEE RETIREMENT 
INCOME SECURITY ACT OF 1974

PART 2550--RULES AND REGULATIONS FOR FIDUCIARY RESPONSIBILITY

    1. The authority citation for part 2550 continues to read as 
follows:

    Authority: 29 U.S.C. 1135; and Secretary of Labor's Order No. 1-
2003, 68 FR 5374 (Feb. 3, 2003). Sec. 2550.401b-1 also issued under 
sec. 102, Reorganization Plan No. 4 of 1978, 43 FR 47713 (Oct. 17, 
1978), 3 CFR, 1978 Comp. 332, effective Dec. 31, 1978, 44 FR 1065 
(Jan. 3, 1978), 3 CFR, 1978 Comp. 332. Sec. 2550.401c-1 also issued 
under 29 U.S.C. 1101. Sec. 2550.404c-1 also issued under 29 U.S.C. 
1104. Sec. 2550.407c-3 also issued under 29 U.S.C. 1107. Sec. 
2550.404a-2 also issued under 26 U.S.C. 401 note (sec. 657, Pub. L. 
107-16, 115 Stat. 38). Sec. 2550.408b-1 also issued under 29 U.S.C. 
1108(b)(1) and sec. 102, Reorganization Plan No. 4 of 1978, 3 CFR, 
1978 Comp. p. 332, effective Dec. 31, 1978, 44 FR 1065 (Jan. 3, 
1978), and 3 CFR, 1978 Comp. 332. Sec. 2550.412-1 also issued under 
29 U.S.C. 1112.

    2. Section 2550.408b-2(c) is revised to read as follows:


Sec.  2550.408b-2  General statutory exemption for services or office 
space.

* * * * *
    (c) Reasonable contract or arrangement--(1) Disclosure concerning 
contract or arrangement. (i) No contract or arrangement to provide 
services to an employee benefit plan, nor any extension or renewal of 
such contract or arrangement, by:
    (A) A service provider who provides or may provide any services to 
the plan pursuant to the contract or arrangement as a fiduciary either 
within the meaning of section 3(21) of the Act or under the Investment 
Advisers Act of 1940;
    (B) A service provider who provides or may provide any one or more 
of the following services to the plan pursuant to the contract or 
arrangement: banking, consulting, custodial, insurance, investment 
advisory (plan or participants), investment management, recordkeeping, 
securities or other investment brokerage, or third party 
administration; or
    (C) A service provider who receives or may receive indirect 
compensation or fees, as described in paragraph (c)(1)(iii)(A)(1) of 
this section, in connection with providing any one or more of the 
following services to the plan pursuant to the contract or arrangement: 
accounting, actuarial, appraisal, auditing, legal, or valuation; is 
reasonable within the meaning of section 408(b)(2) of the Act and Sec. 
2550.408b-2(a)(2) unless the requirements of paragraphs (c)(1)(ii) 
through (vi) of this section are satisfied.
    (ii) The terms of the contract or arrangement shall be in writing.
    (iii) The terms of the contract or arrangement (including any 
extension or renewal of such contract or arrangement) shall require the 
service provider to disclose in writing, to the best of the service 
provider's knowledge, the information set forth in this paragraph 
(c)(1)(iii) and shall include a representation by the service provider 
that, before the contract or arrangement was entered into (or extended 
or renewed), all such information was provided to the fiduciary with 
authority to cause the employee benefit plan to enter into (or extend 
or renew) the contract or arrangement (the ``responsible plan 
fiduciary''):
    (A) All services to be provided to the plan pursuant to the 
contract or arrangement and, with respect to each such service, the 
compensation or fees to be received by the service provider, and the 
manner of receipt of such compensation or fees. For purposes of this 
paragraph (c)(1)(iii):
    (1) ``Compensation or fees'' include money or any other thing of 
monetary value (for example, gifts, awards, and trips) received, or to 
be received, directly from the plan or plan sponsor or indirectly 
(i.e., from any source other than the plan, the plan sponsor, or the 
service provider) by the service provider or its affiliate in 
connection with the services to be provided pursuant to the contract or 
arrangement or because of the service provider's or affiliate's 
position with the plan. An ``affiliate'' of a service provider is any 
person directly or indirectly (through one or more intermediaries) 
controlling, controlled by, or under common control with the

[[Page 71005]]

service provider, or any officer, director, agent, or employee of, or 
partner with, the service provider.
    (2) Compensation or fees may be expressed in terms of a monetary 
amount, formula, percentage of the plan's assets, or per capita charge 
for each participant or beneficiary of the plan. The manner in which 
compensation or fees are expressed shall contain sufficient information 
to enable the responsible plan fiduciary to evaluate the reasonableness 
of such compensation or fees.
    (3) If a service provider offers a bundle of services to the plan 
that is priced as a package, rather than on a service-by-service basis, 
then only the service provider offering the bundle of services must 
provide the disclosures required by this paragraph (c)(1). The service 
provider must disclose all services and the aggregate compensation or 
fees to be received, directly or indirectly, by the service provider, 
any affiliate or subcontractor of such service provider, or any other 
party in connection with the bundle of services. The service provider 
shall not be required to disclose the allocation of such compensation 
or fees among its affiliates, subcontractors, or other parties, except 
to the extent such party receives or may receive compensation or fees 
that are a separate charge directly against the plan's investment 
reflected in the net value of the investment or that are set on a 
transaction basis, such as finder's fees, brokerage commissions, and 
soft dollars (research or other products or services other than 
execution in connection with securities transactions).
    (4) A description of the manner of receipt of compensation or fees 
shall state whether the service provider will bill the plan, deduct 
fees directly from plan accounts, or reflect a charge against the plan 
investment and shall describe how any prepaid fees will be calculated 
and refunded when a contract or arrangement terminates.
    (B) Whether the service provider (or an affiliate) will provide any 
services to the plan as a fiduciary either within the meaning of 
section 3(21) of the Act or under the Investment Advisers Act of 1940,
    (C) Whether the service provider (or an affiliate) expects to 
participate in, or otherwise acquire a financial or other interest in, 
any transaction to be entered into by the plan in connection with the 
contract or arrangement and, if so, a description of the transaction 
and the service provider's participation or interest therein,
    (D) Whether the service provider (or an affiliate) has any material 
financial, referral, or other relationship or arrangement with a money 
manager, broker, other client of the service provider, other service 
provider to the plan, or any other entity that creates or may create a 
conflict of interest for the service provider in performing services 
pursuant to the contract or arrangement and, if so, a description of 
such relationship or arrangement,
    (E) Whether the service provider (or an affiliate) will be able to 
affect its own compensation or fees, from whatever source, without the 
prior approval of an independent plan fiduciary, in connection with the 
provision of services pursuant to the contract or arrangement (for 
example, as a result of incentive, performance-based, float, or other 
contingent compensation) and, if so, a description of the nature of 
such compensation, and
    (F) Whether the service provider (or an affiliate) has any policies 
or procedures that address actual or potential conflicts of interest or 
that are designed to prevent either the compensation or fees described 
in paragraph (c)(1)(iii)(A) of this section or the relationships or 
arrangements described in paragraph (c)(1)(iii)(C), (D), and (E) of 
this section from adversely affecting the provision of services to the 
plan pursuant to the contract or arrangement, and, if so, an 
explanation of these policies or procedures and how they address such 
conflicts of interest or prevent an adverse effect on the provision of 
services.
    (iv) The terms of the contract or arrangement shall require that 
the service provider must disclose to the responsible plan fiduciary 
any material change to the information required to be disclosed in 
paragraph (c)(1)(iii) of this section not later than 30 days from the 
date on which the service provider acquires knowledge of the material 
change.
    (v) The terms of the contract or arrangement shall require that the 
service provider must disclose all information related to the contract 
or arrangement and any compensation or fees received thereunder that is 
requested by the responsible plan fiduciary or plan administrator in 
order to comply with the reporting and disclosure requirements of Title 
I of the Act and the regulations, forms, and schedules issued 
thereunder.
    (vi) The service provider shall comply with its disclosure 
obligations under the contract or arrangement as described in this 
paragraph (c)(1). Prohibited Transaction Class Exemption 2008-XX will 
provide relief for a responsible plan fiduciary from the prohibitions 
of section 406(a)(1)(C) of the Act as a result of a service provider's 
failure to comply with this paragraph (c)(1)(vi).
    (2) Termination of contract or arrangement. No contract or 
arrangement is reasonable within the meaning of section 408(b)(2) of 
the Act and Sec. 2550.408b-2(a)(2) if it does not permit termination by 
the plan without penalty to the plan on reasonably short notice under 
the circumstances to prevent the plan from becoming locked into an 
arrangement that has become disadvantageous. A long-term lease which 
may be terminated prior to its expiration (without penalty to the plan) 
on reasonably short notice under the circumstances is not generally an 
unreasonable arrangement merely because of its long term. A provision 
in a contract or other arrangement which reasonably compensates the 
service provider or lessor for loss upon early termination of the 
contract, arrangement, or lease is not a penalty. For example, a 
minimal fee in a service contract which is charged to allow recoupment 
of reasonable start-up costs is not a penalty. Similarly, a provision 
in a lease for a termination fee that covers reasonably foreseeable 
expenses related to the vacancy and reletting of the office space upon 
early termination of the lease is not a penalty. Such a provision does 
not reasonably compensate for loss if it provides for payment in excess 
of actual loss or if it fails to require mitigation of damages.
* * * * *

    Signed at Washington, DC, this 7th day of December, 2007.
Bradford P. Campbell,
Assistant Secretary, Employee Benefits Security Administration, 
Department of Labor.
 [FR Doc. E7-24064 Filed 12-12-07; 8:45 am]

BILLING CODE 4510-29-P