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Wednesday,

October 24, 2007

Part III

Department of Labor
Employee Benefits Security
Administration

29 CFR Part 2550


Default Investment Alternatives Under
Participant Directed Individual Account
Plans; Final Rule
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60452 Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations

DEPARTMENT OF LABOR SUPPLEMENTARY INFORMATION: Regulations page of the Department’s


Employee Benefits Security
Employee Benefits Security A. Background
Administration Web site at http://
Administration With the enactment of the Pension www.dol.gov/ebsa.
Protection Act of 2006 (Pension Set forth below is an overview of the
29 CFR Part 2550 Protection Act), section 404(c) of ERISA final regulation, along with a discussion
was amended to provide relief afforded of the public comments received on the
RIN 1210–AB10 by section 404(c)(1) to fiduciaries that proposal.
invest participant assets in certain types
Default Investment Alternatives Under B. Overview of Final Rule
of default investment alternatives in the
Participant Directed Individual Account
absence of participant investment Scope of the Fiduciary Relief
Plans
direction. Specifically, section 624(a) of
Paragraph (a)(1) of § 2550.404c–5, like
AGENCY: Employee Benefits Security the Pension Protection Act added a new
section 404(c)(5) to ERISA. Section the proposal, generally describes the
Administration. scope of the regulation and the fiduciary
ACTION: Final rule.
404(c)(5)(A) of ERISA provides that, for
purposes of section 404(c)(1) of ERISA, relief afforded by ERISA section
a participant in an individual account 404(c)(5), under which a participant
SUMMARY: This document contains a
plan shall be treated as exercising who does not give investment directions
final regulation that implements recent
control over the assets in the account will be treated as exercising control over
amendments to title I of the Employee
with respect to the amount of his or her account with respect to assets
Retirement Income Security Act of 1974
contributions and earnings which, in that the plan invests in a qualified
(ERISA) enacted as part of the Pension
the absence of an investment election by default investment alternative.
Protection Act of 2006, Public Law 109–
the participant, are invested by the plan Paragraph (a)(2) of § 2550.404c–5, also
280, under which a participant in a
in accordance with regulations like the proposal, makes clear that the
participant directed individual account
prescribed by the Secretary of Labor. standards set forth in the regulation
pension plan will be deemed to have
Section 624(a) of the Pension Protection apply solely for purposes of determining
exercised control over assets in his or
Act directed that such regulations whether a fiduciary meets the
her account if, in the absence of
provide guidance on the requirements of the regulation. These
investment directions from the
appropriateness of designating default standards are not intended to be the
participant, the plan invests in a
investments that include a mix of asset exclusive means by which a fiduciary
qualified default investment alternative.
classes consistent with capital might satisfy his or her responsibilities
A fiduciary of a plan that complies with
preservation or long-term capital under ERISA with respect to the
this final regulation will not be liable for
appreciation, or a blend of both. In the investment of assets on behalf of a
any loss, or by reason of any breach, that
Department’s view, this statutory participant or beneficiary in an
occurs as a result of such investments.
language provides the stated relief to individual account plan who fails to
This regulation describes the types of
fiduciaries of any participant directed give investment directions. As
investments that qualify as default
individual account plan that complies recognized by the Department in the
investment alternatives under section
with its terms and with those of the preamble to the proposal, investments
404(c)(5) of ERISA. Plan fiduciaries
Department’s regulation under section in money market funds, stable value
remain responsible for the prudent
404(c)(5) of ERISA. The relief afforded products and other capital preservation
selection and monitoring of the
by section 404(c)(5), therefore, is not investment vehicles may be prudent for
qualified default investment alternative.
contingent on a plan being an ‘‘ERISA some participants or beneficiaries even
The regulation conditions relief upon
404(c) plan’’ or otherwise meeting the though such investments themselves
advance notice to participants and
requirements of the Department’s may not generally constitute qualified
beneficiaries describing the
regulations at § 2550.404c–1. The default investment alternatives for
circumstances under which
amendments made by section 624 of the purposes of the regulation. The
contributions or other assets will be
Pension Protection Act apply to plan Department further notes that such
invested on their behalf in a qualified
years beginning after December 31, investments, while not themselves
default investment alternative, the
2006. qualified default investment alternatives
investment objectives of the qualified
On September 27, 2006, the for purposes of investments made
default investment alternative, and the
Department, exercising its authority following the effective date of this
right of participants and beneficiaries to
under section 505 of ERISA and regulation, may nonetheless constitute
direct investments out of the qualified consistent with section 624 of the part of the investment portfolio of a
default investment alternative. This Pension Protection Act, published a qualified default investment alternative.
regulation will affect plan sponsors and notice of proposed rulemaking in the Paragraph (b) of § 2550.404c–5 defines
fiduciaries of participant directed Federal Register (71 FR 56806) that, the scope of the fiduciary relief
individual account plans, the upon adoption, would implement the provided. Paragraph (b)(1) of the
participants and beneficiaries in such provisions of ERISA section 404(c)(5). proposal provided that, subject to
plans, and the service providers to such The notice included an invitation to certain exceptions, a fiduciary of an
plans. interested persons to comment on the individual account plan that permits
DATES: This final rule is effective on proposal. In response to this invitation, participants and beneficiaries to direct
December 24, 2007. the Department received over 120 the investment of assets in their
FOR FURTHER INFORMATION CONTACT: Lisa written comments from a variety of accounts and that meets the conditions
M. Alexander, Kristen L. Zarenko, or parties, including plan sponsors and of the regulation, as set forth in
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Katherine D. Lewis, Office of fiduciaries, plan service providers, paragraph (c) of § 2550.404c–5, shall not
Regulations and Interpretations, financial institutions, and employee be liable for any loss, or by reason of
Employee Benefits Security benefit plan industry representatives. any breach under part 4 of title I of
Administration, (202) 693–8500. This is Submissions are available for review ERISA, that is the direct and necessary
not a toll-free number. under Public Comments on the Laws & result of investing all or part of a

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Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations 60453

participant’s or beneficiary’s account in fiduciary that chooses an investment including liability for any resulting
a qualified default investment management service that is intended to losses. As proposed, paragraph (b)(3)
alternative, or of investment decisions comply with paragraph (e)(4)(iii) of the was limited to investment managers.
made by the entity described in final regulation must undertake a The final regulation, at paragraph
paragraph (e)(3) in connection with the careful evaluation to prudently select (e)(3)(i) of § 2550.404c–5, broadens the
management of a qualified default among different investment category of persons who can manage the
investment alternative. The Department management services. assets of a qualified default investment
has revised paragraph (b)(1) of the final alternative, thereby requiring a
Application of General Fiduciary
regulation to clarify that a fiduciary of conforming change to paragraph (b)(3).
Standards
an individual account plan that permits The changes to paragraph (e)(3)(i) are
participants and beneficiaries to direct The scope of fiduciary relief provided discussed in detail below.
the investment of assets in their by this regulation is the same as that Finally, the regulation also provides
accounts and that meets the conditions extended to plan fiduciaries under no relief from the prohibited transaction
of the regulation, as set forth in ERISA section 404(c)(1)(B) in provisions of section 406 of ERISA or
paragraph (c) of § 2550.404c–5, shall not connection with carrying out from any liability that results from a
be liable for any loss under part 4 of title investment directions of plan violation of those provisions, including
I, or by reason of any breach, that is the participants and beneficiaries in an liability for any resulting losses.
direct and necessary result of investing ‘‘ERISA section 404(c) plan’’ as Therefore, plan fiduciaries must avoid
all or part of a participant’s or described in 29 CFR 2550.404c–1(a), self-dealing, conflicts of interest, and
beneficiary’s account in any qualified although it is not necessary for a plan other improper influences when
default investment alternative within to be an ERISA section 404(c) plan in selecting a qualified default investment
the meaning of paragraph (e), or of order for the fiduciary to obtain the alternative. See paragraph (b)(4) of
investment decisions made by the entity relief accorded by this regulation. As § 2550.404c–5.
described in paragraph (e)(3) in with section 404(c)(1) of the Act and the
regulation issued thereunder (29 CFR Application of Final Rule to
connection with the management of a Circumstances Other Than Automatic
qualified default investment alternative. 2550.404c–1), the final regulation does
not provide relief from the general Enrollment
The phrase ‘‘any qualified default
fiduciary rules applicable to the Several commenters requested
investment alternative’’ in the final
selection and monitoring of a particular clarification on the extent to which the
regulation is intended to make clear that
qualified default investment alternative fiduciary relief provided by the final
a fiduciary will be afforded relief
or from any liability that results from a regulation will be available to plan
without regard to which type of fiduciaries for assets that are invested in
failure to satisfy these duties, including
qualified default investment alternative a qualified default investment
liability for any resulting losses. See
the fiduciary selects, provided that the alternative on behalf of participants and
paragraph (b)(2) of § 2550.404c–5.
fiduciary prudently selects the Several commenters asked the beneficiaries in circumstances other
particular product, portfolio or service, Department to provide additional than automatic enrollment. Consistent
and meets the other conditions of the guidance concerning the general with the views expressed concerning
regulation. fiduciary obligations of these plan the scope of the relief provided by the
Some commenters asked whether the fiduciaries in selecting a qualified proposed regulation, it is the view of the
relief provided by the final regulation default investment alternative. The Department that nothing in the final
covers a plan fiduciary’s decision selection of a particular qualified regulation limits the application of the
regarding which of the qualified default default investment alternative (i.e. a fiduciary relief to investments made
investment alternatives will be available specific product, portfolio or service) is only on behalf of participants who are
to a plan’s participants and beneficiaries a fiduciary act and, therefore, ERISA automatically enrolled in their plan.
who fail to direct their investments. As obligates fiduciaries to act prudently Like the proposal, the final regulation
long as a plan fiduciary selects any of and solely in the interest of the plan’s applies to situations beyond automatic
the qualified default investment participants and beneficiaries. A enrollment. Examples of such situations
alternatives, and otherwise complies fiduciary must engage in an objective, include: The failure of a participant or
with the conditions of the rule, the plan thorough, and analytical process that beneficiary to provide investment
fiduciary will obtain the fiduciary relief involves consideration of the quality of direction following the elimination of
described in the rule. The Department competing providers and investment an investment alternative or a change in
believes that each of these qualified products, as appropriate. As with other service provider, the failure of a
default investment alternatives is investment alternatives made available participant or beneficiary to provide
appropriate for participants and under the plan, fiduciaries must investment instruction following a
beneficiaries who fail to provide carefully consider investment fees and rollover from another plan, and any
investment direction; accordingly, the expenses when choosing a qualified other failure of a participant to provide
rule does not require a plan fiduciary to default investment alternative. See investment instruction. Whenever a
undertake an evaluation as to which of paragraph (b)(2) of § 2550.404c–5. participant or beneficiary has the
the qualified default investment Paragraph (b)(3) of the final regulation opportunity to direct the investment of
alternatives provided for in the has been modified to reflect changes to assets in his or her account, but does not
regulation is the most prudent for a paragraph (e)(3)(i) regarding persons direct the investment of such assets,
participant or the plan. However, the responsible for the management of a plan fiduciaries may avail themselves of
plan fiduciary must prudently select qualified default investment the relief provided by this final
and monitor an investment fund, model alternative’s assets. Paragraph (b)(3) of regulation, so long as all of its
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portfolio, or investment management § 2550.404c–5 makes clear that nothing conditions have been satisfied.
service within any category of qualified in the regulation relieves any such
default investment alternatives in fiduciaries from their general fiduciary Conditions for the Fiduciary Relief
accordance with ERISA’s general duties or from any liability that results Like the proposal, the final regulation
fiduciary rules. For example, a plan from a failure to satisfy these duties, contains six conditions for relief. These

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60454 Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations

conditions are set forth in paragraph (c) With regard to the foregoing, the investment’’—should be read to mean
of the regulation. Department notes that, unlike the the first investment with respect to
The first condition of the final proposal, the final regulation measures which relief under the final regulation
regulation, consistent with the the time period for the 30-day advance is intended to apply after the effective
Department’s proposal, requires that notice requirement from the date of plan date of the regulation.
assets invested on behalf of participants eligibility to better coordinate the notice The timing of the annual notice
or beneficiaries under the final requirements with the Code provisions requirement contained in the final
regulation be invested in a ‘‘qualified governing permissible withdrawals. The regulation has not changed from the
default investment alternative.’’ See Department also notes that if a fiduciary proposal. Notice must be provided
§ 2550.404c–5(c)(1). This condition is fails to comply with the final regulation within a reasonable period of time of at
unchanged from the proposal. for a participant’s first elective least 30 days in advance of each
The second condition also is contribution because a notice is not subsequent plan year. See § 2550.404c–
unchanged from the proposal. The provided at least 30 days in advance of 5(c)(3)(ii). One commenter requested
participant or beneficiary on whose plan eligibility, the fiduciary may obtain that the Department eliminate the
behalf assets are being invested in a relief for later contributions with respect annual notice requirement. The
qualified default investment alternative to which the 30-day advance notice Department retained the annual notice
must have had the opportunity to direct requirement is satisfied. requirement because the Pension
the investment of assets in his or her In addition, while retaining the Protection Act specifically amended
account but did not direct the general 30-day advance notice ERISA to require an annual notice.
investment of the assets. See requirement, the final regulation also Further, the Department believes that it
§ 2550.404c–5(c)(2). In other words, no permits notice ‘‘on or before’’ the date is important to provide regular and
relief is available when a participant or of plan eligibility if the participant is ongoing notice to participants and
beneficiary has provided affirmative permitted to make a permissible beneficiaries whose assets are invested
investment direction concerning the withdrawal in accordance with 414(w) in a qualified default investment
assets invested on the participant’s or of the Code. In this regard, the alternative to ensure that they are in a
beneficiary’s behalf. Department believes that if participants position to make informed decisions
are not going to be afforded the option concerning their participation in their
The third condition continues to
of withdrawing their contributions employer’s plan. Several commenters
require that participants or beneficiaries
without additional tax, such supported the furnishing of an annual
receive information concerning the
participants should be given notice reminder to participants and
investments that may be made on their
sufficiently in advance of the beneficiaries that their assets have been
behalf. As in the proposal, the final
contribution to enable them to opt out invested in a qualified default
regulation requires both an initial notice
of plan participation. investment alternative and that
and an annual notice. The proposed The Department notes that the phrase participants and beneficiaries may
regulation required an initial notice in paragraph (c)(3)(i)—‘‘or at least 30 direct their contributions into other
within a reasonable period of time of at days in advance of any first investment investment alternatives available under
least 30 days in advance of the first in a qualified default investment the plan.
investment. A number of commenters alternative’’—is intended to Paragraph (c)(3), as proposed,
explained that requiring 30 days’ accommodate circumstances other than provided that the required disclosures
advance notice would preclude plans elective contributions. For example, could be included in a summary plan
with immediate eligibility and although fiduciary relief would not be description, summary of material
automatic enrollment from withholding available with respect to a fiduciary’s modification or other notice meeting the
of contributions as of the first pay investment of a participant or requirements of paragraph (d), which
period. Commenters argued that plan beneficiary’s rollover amount from described the content required in the
sponsors should not be discouraged another plan into a qualified default notice. Some commenters expressed
from enrolling employees in their plan investment alternative if the 30-day concern that permitting the notice
on the earliest possible date. advance notice requirement is not requirement to be satisfied though a
The Department agrees that plan satisfied, relief may be available when a plan’s summary plan description or
sponsors should not be discouraged fiduciary invests the rollover amount summary of material modification may
from enrolling employees on the earliest into a qualified default investment result in participants overlooking or
possible date. To address this issue, the alternative after satisfying the notice ignoring information relating to their
Department has modified the advance requirement in paragraph (c)(3)(i)(A) as participation and the investment of
notice requirements that appeared in the well as the regulation’s other contributions on their behalf. The
proposed regulation. For purposes of the conditions. Department is persuaded that, given the
initial notification requirement, the final Finally, the phrase—‘‘in advance of potential length and complexity of
regulation, at paragraph (c)(3)(i), the date of plan eligibility * * * or any summary plan descriptions and
provides that the notice must be first investment in a qualified default summaries of material modifications,
provided (A) at least 30 days in advance investment alternative’’—is not the furnishing of the required
of the date of plan eligibility, or at least intended to foreclose availability of disclosures through a separate notice
30 days in advance of any first relief to fiduciaries that, prior to the will reduce the likelihood of a
investment in a qualified default adoption of the final regulation, participant or beneficiary missing or
investment alternative on behalf of a invested assets on behalf of participants ignoring information about his or her
participant or beneficiary described in and beneficiaries in a default plan participation and the investment of
paragraph (c)(2), or (B) on or before the investment alternative that would the assets in his or her account in a
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date of plan eligibility, provided the constitute a ‘‘qualified default qualified default investment alternative.
participant has the opportunity to make investment alternative’’ under the Accordingly, the final regulation, at
a permissible withdrawal (as regulation. In such cases, the phrase— paragraph (c)(3), has been modified to
determined under section 414(w) of the ‘‘in advance of the date of plan eliminate references to providing notice
Internal Revenue Code of 1986 (Code)). eligibility * * * or any first through a summary plan description or

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summary of material modifications. The ‘‘material provided to the plan’’ in fiduciary provides material to
Department notes that the notice paragraph (c)(4). Specifically, participants and beneficiaries as set
requirements of ERISA section commenters inquired whether material forth in paragraphs (b)(2)(i)(B)(1)(viii)
404(c)(5)(B) and this regulation, and the provided to the plan includes and (ix), and paragraph (b)(2)(i)(B)(2) of
notice requirements of sections information within the custody of a plan the 404(c) regulation, relating to a
401(k)(13)(E) and 414(w)(4) of the Code, service provider or the fiduciary participant’s or beneficiary’s investment
as amended by the Pension Protection responsible for selecting a qualified in a qualified default investment
Act, are similar. Accordingly, while the default investment alternative, and alternative. The Department notes that,
final regulation provides for disclosure whether ‘‘material provided to the plan’’ as part of a separate regulatory
through a separate notice, the includes aggregate, plan-level initiative, it is reviewing the disclosure
Department anticipates that the notice information received by the plan. requirements applicable to participants
requirements of this final regulation and Commenters also asked for clarification and beneficiaries in participant-directed
the notice requirements of sections regarding the manner in which individual account plans and that, to
401(k)(13)(E) and 414(w)(4) of the Code information shall be ‘‘provided to the the extent that the pass-through
could be satisfied in a single disclosure participant or beneficiary’’ in paragraph disclosure requirements contained in
document. Further, the Department (c)(4) of the proposed regulation. A § 2550.404c–1 are amended, the
notes that nothing in the regulation number of commenters suggested that language of paragraph (c)(4), as
should be construed to preclude the the final regulation permit disclosure of modified, will ensure such amendments
distribution of the initial or annual information upon request; others automatically extend to § 2550.404c–5.
notices with other materials being recommended that the disclosure The Department notes, in responding to
furnished to participants and requirement should be satisfied by one commenter’s request for
beneficiaries. In this regard, the including a statement in the notice clarification, that the plan’s obligation
Department recognizes that there may required by paragraph (c)(3) of the to pass through information to
be cost savings that result from proposed regulation that provides participants or beneficiaries would be
distributing multiple disclosures direction to a participant or beneficiary considered satisfied if the required
simultaneously and, to the extent that regarding where he or she can find information is furnished directly to the
distribution costs may be charged to the information about the qualified default participant or beneficiary by the
accounts of individual participants and investment alternatives. Other provider of the investment alternative or
beneficiaries, efforts to minimize such commenters asked whether plans could other third-party.
costs should be encouraged. make materials available to a participant
The fourth condition of the proposed The fifth condition of the proposal
or beneficiary instead of affirmatively
regulation required that, under the required that any participant or
providing materials to them.
terms of the plan, any material provided Other commenters suggested that a beneficiary on whose behalf assets are
to the plan relating to a participant’s or participant or beneficiary on whose invested in a qualified default
beneficiary’s investment in a qualified behalf assets are invested in a qualified investment alternative be afforded the
default investment alternative (e.g., default investment alternative should opportunity, consistent with the terms
account statements, prospectuses, proxy not be required to be furnished more of the plan (but in no event less
voting material) would be provided to material than is required to be furnished frequently than once within any three
the participant or beneficiary. See to those individuals who direct their month period), to transfer, in whole or
proposed regulation § 2550.404c–5(c)(4). investments. In this regard, commenters in part, such assets to any other
Several commenters asked the recommended that the Department investment alternative available under
Department to clarify whether the apply the same standard set forth in the the plan without financial penalty. See
phrase ‘‘under the terms of the plan’’ section 404(c) regulation for the pass- proposed regulation § 2550.404c–5(c)(5).
would require plan amendments to through of information to both This provision was intended to ensure
explicitly incorporate the proposed participants who fail to direct their that participants and beneficiaries on
rule’s disclosure provision. Commenters investments and participants who elect whose behalf assets are invested in a
suggested that paragraph (c)(4) of the to direct their investments. qualified default investment alternative
proposal could be read to require that The Department believes that have the same opportunity as other plan
the disclosure provisions be described participants who fail to direct their participants and beneficiaries to direct
in the formal plan document, and the investments should be furnished no less the investment of their assets, and that
commenters suggested that it is unclear information than is required to be neither the plan nor the qualified
what documents would suffice to meet passed through to participants who elect default investment alternative impose
this condition. The phrase ‘‘under the to direct their investments under the financial penalties that would restrict
terms of the plan’’ was merely intended plan. The Department also believes the rights of participants and
to ensure that plans provide for the there is little, if any, basis for requiring beneficiaries to direct their assets to
required pass-through of information. defaulted participants to be furnished other investment alternatives available
Taking into account both the fact that a more information than is required to be under the plan. This provision was not
pass-through of information is a specific passed through to other participants. intended to confer greater rights on
condition of the regulation and the For this reason, the Department has participants or beneficiaries whose
comments on this provision, the adopted the recommendation of those accounts the plan invests in qualified
Department has concluded that the commenters that the pass-through default investment alternatives than are
phrase is confusing and not necessary. disclosure requirements applicable to otherwise available under the plan.
Accordingly, the phrase ‘‘under the section 404(c) plans be applied to the Thus, if a plan provides participants
terms of the plan’’ has been removed pass-through of information under the and beneficiaries the right to direct
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from paragraph (c)(4) of the final final regulation. The Department, investments on a quarterly basis, those
regulation. See § 2550.404c–5(c)(4). therefore, has modified paragraph (c)(4) participants and beneficiaries with
Commenters also requested to provide that a fiduciary shall qualify investments in a qualified default
clarification as to the material intended for the relief described in paragraph investment alternative need only be
to be included in the reference to (b)(1) of the final regulation if a afforded the opportunity to direct their

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60456 Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations

investments on a quarterly basis. this provision and it is being adopted a participant’s or beneficiary’s decision
Similarly, if a plan permits daily unchanged from the proposal. to withdraw, sell or transfer assets out
investment direction, participants and The second and third conditions, at of the investment alternative).
beneficiaries with investments in a paragraphs (c)(5)(ii) and (iii), relate to Accordingly, no restriction, fee, or
qualified default investment alternative limitations (i.e., restrictions, fees, etc.) expense may be imposed on any transfer
must be permitted to direct their other than those relating to the or permissible withdrawal of assets,
investments on a daily basis. frequency with which participants may whether assessed by the plan, the plan
The Department received many direct their investment out of a qualified sponsor, or as part of an underlying
comments requesting clarification on default investment alternative, which investment product or portfolio, and
this requirement, most often concerning are addressed in paragraph (c)(5)(i). regardless of whether or not the
what the Department considers to be a Unlike the proposal, which limited the restriction, fee, or expense is considered
financial penalty. Commenters asked imposition of financial penalties for the to be a ‘‘penalty.’’ This provision,
whether investment-level fees and period of a defaulted participant’s or therefore, would prevent the imposition
restrictions, as opposed to fees or other beneficiary’s investment, the regulation, of any surrender charge, liquidation or
restrictions that are imposed by the plan as modified, precludes the imposition of exchange fee, or redemption fee. It also
or the plan sponsor, would be any restrictions, fees or expenses (other would prohibit any market value
considered impermissible restrictions or than investment management and adjustment or ‘‘round-trip’’ restriction
‘‘financial penalties.’’ Commenters similar types of fees and expenses) on the ability of the participant or
explained that fees and limitations that during the first 90 days of a defaulted beneficiary to reinvest within a defined
are part of the investment product are participant’s or beneficiary’s investment period of time. As long as the
beyond the control of the plan sponsor in the qualified default investment participant’s or beneficiary’s election is
and should not be considered financial alternative. At the end of the 90-day made within the applicable 90-day
penalties for purposes of the final period, defaulted participants and period, no such charges may be imposed
regulation. The comment letters beneficiaries may be subject to the even if, due to administrative or other
provided many examples of investment- restrictions, fees or expenses that are delays, the actual transfer or withdrawal
level fees or restrictions that otherwise applicable to participants and does not take place until after the 90-
commenters believed should not be beneficiaries under the plan who day period.
considered punitive, including elected to invest in that qualified default Paragraph (c)(5)(ii)(B) makes clear that
redemption fees, back-end sales loads, investment alternative. While the the limitations of paragraph (c)(5)(ii)(A)
reinvestment timing restrictions, market condition on restrictions, fees and do not apply to fees and expenses that
value adjustments, equity ‘‘wash’’ expenses is limited to 90 days, the are charged on an ongoing basis for the
condition, as explained below, is broad operation of the investment itself, such
restrictions, and surrender charges.
in its application, thereby providing as investment management fees,
In response to these and other
defaulted participants and beneficiaries distribution and/or service fees (‘‘12b–
comments, the Department has modified an opportunity to redirect or withdraw 1’’ fees), and administrative-type fees
and restructured paragraph (c)(5) of the their contributions. Also, the (legal, accounting, transfer agent
final regulation to provide more clarity Department believes that restrictions or expenses, etc.), and are not imposed, or
with respect to limitations that may or fees on qualified default investment do not vary, based on a participant’s or
may not be imposed on participants and alternatives are more likely to be waived beneficiary’s decision to withdraw, sell
beneficiaries who are defaulted into a if this period is shortened to 90 days. or transfer assets out of the investment
qualified default investment alternative. The 90-day period is defined by alternative. In response to a request for
As modified and restructured, reference to the participant’s first a clarification, the Department further
paragraph (c)(5) of the final regulation elective contribution as determined notes that to the extent that a participant
includes three conditions applicable to under section 414(w)(2)(B) of the Code, or beneficiary loses the right to elect an
a defaulted participant’s or beneficiary’s thereby enabling participants, if their annuity as a result of a transfer out of
ability to move assets out of a qualified plan permits, to make a permissible a qualified default investment
default investment alternative. withdrawal without being subject to the alternative with an annuity feature, such
The first condition, as in the proposal, 10 percent additional tax under section loss would not constitute an
is intended to ensure that defaulted 72(t) of the Code. impermissible restriction for purposes
participants and beneficiaries have the Specifically, paragraph (c)(5)(ii) of the of paragraph (c)(5)(ii) inasmuch as the
same rights as other participants and regulation provides that any transfer or annuity feature is a component of the
beneficiaries under the plan regarding permissible withdrawal described in investment alternative itself.
the frequency with which they may paragraph (c)(5) resulting from a Paragraph (c)(5)(iii) of the final
direct an investment out of a qualified participant’s or beneficiary’s election to regulation provides that, following the
default investment alternative. In this make such a transfer or withdrawal end of the 90-day period described in
regard, paragraph (c)(5)(i) provides that during the 90-day period beginning on paragraph (c)(5)(ii)(A), any transfer or
any participant or beneficiary on whose the date of the participant’s first elective permissible withdrawal described in
behalf assets are invested in a qualified contribution as determined under paragraph (c)(5) shall not be subject to
default investment alternative must be section 414(w)(2)(B) of the Code, or any restrictions, fees or expenses not
able to transfer, in whole or in part, other first investment in a qualified otherwise applicable to a participant or
such assets to any other investment default investment alternative on behalf beneficiary who elected to invest in that
alternative available under the plan of a participant or beneficiary described qualified default investment alternative.
with a frequency consistent with that in paragraph (c)(2), shall not be subject This provision is intended to ensure
afforded participants and beneficiaries to any restrictions, fees or expenses that defaulted participants and
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who elect to invest in the qualified (except those fees and expenses that are beneficiaries are not subject to
default investment alternative, but not charged on an ongoing basis for the restrictions, fees or penalties that would
less frequently than once within any investment itself, such as investment serve to create a greater disincentive for
three month period. The Department management and similar fees, and are defaulted participants and beneficiaries,
received no substantive comments on not imposed, or do not vary, based on than for other participants and

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beneficiaries under the plan, to written in a manner calculated to be plan of an automatic contribution
withdraw or transfer assets from a understood by the average plan arrangement. Section 514(e)(3) provides
qualified default investment alternative. participant and contain the following that a plan administrator of an
The Department notes that the final information: (1) A description of the automatic contribution arrangement
rule does not otherwise address or circumstances under which assets in the shall provide a notice describing the
provide relief with respect to the individual account of a participant or rights and obligations of participants
direction of investments out of a beneficiary may be invested on behalf of under the arrangement and such notice
qualified default investment alternative the participant and beneficiary in a shall include ‘‘an explanation of the
into another investment alternative qualified default investment alternative; participant’s right under the
available under the plan. See generally (2) a description of the qualified default arrangement not to have elective
section 404(c)(1) of ERISA and 29 CFR investment alternative, including a contributions made on the participant’s
2550.404c–1. description of the investment objectives, behalf (or to elect to have such
The last condition of paragraph (c) of risk and return characteristics (if contributions made at a different
the regulation adopts, without applicable), and fees and expenses percentage)’’ and an explanation of
modification from the proposal, the attendant to the investment alternative; ‘‘how contributions made under the
requirement that plans offer participants (3) a description of the right of the arrangement will be invested in the
and beneficiaries the opportunity to participants and beneficiaries on whose absence of any investment election by
invest in a ‘‘broad range of investment behalf assets are invested in a qualified the participant.’’
alternatives’’ within the meaning of 29 default investment alternative to direct In addition to broadening the required
CFR 2550.404c–1(b)(3).1 See the investment of those assets to any disclosures, the Department revised the
§ 2550.404c–5(c)(6). The Department other investment alternative under the disclosures relating to restrictions, fees
believes that participants and plan, including a description of any and expenses to conform the notice
beneficiaries should be afforded a applicable restrictions, fees, or expenses requirements to the changes in
sufficient range of investment in connection with such transfer; and paragraph (c)(5) relating to restrictions,
alternatives to achieve a diversified (4) an explanation of where the fees or expenses. As modified,
portfolio with aggregate risk and return participants and beneficiaries can obtain paragraph (d) of the final regulation
characteristics at any point within the investment information concerning the provides that the notices required by
range normally appropriate for the other investment alternatives available paragraph (c)(3) shall include: (1) A
pension plan participant or beneficiary. under the plan. description of the circumstances under
The Department believes that the A few commenters suggested which assets in the individual account
application of the ‘‘broad range of expanding the content of the notice to of a participant or beneficiary may be
investment alternatives’’ standard of the include procedures for electing other invested on behalf of the participant or
section 404(c) regulation accomplishes investment options, a description of the beneficiary in a qualified default
this objective. The Department received right to request additional information, investment alternative; and, if
no substantive objections to this a description of any right to obtain applicable, an explanation of the
provision and, as indicated, is adopting investment advice (if available), a circumstances under which elective
the provision without change. description of fees associated with the contributions will be made on behalf of
qualified default investment a participant, the percentage of such
Notices
alternatives, information about other contribution, and the right of the
As discussed above, relief under the investment options under the plan, etc. participant to elect not to have such
final regulation is conditioned on While the Department did not adopt all contributions made on his or her behalf
furnishing participants and beneficiaries of the changes suggested by the (or to elect to have such contributions
advance notification concerning the commenters, the Department has made at a different percentage); (2) an
default investment provisions of their modified the notice content explanation of the right of participants
plan. See § 2550.404c–5(c)(3). The requirements to broaden the required and beneficiaries to direct the
specific information required to be disclosures. As modified, the investment of assets in their individual
contained in the notice is set forth in Department intends that the furnishing accounts; (3) a description of the
paragraph (d) of the regulation. of a notice in accordance with the qualified default investment alternative,
As proposed, paragraph (d) of timing and content requirements of this including a description of the
§ 2550.404c–5 required that the notice regulation will not only satisfy the investment objectives, risk and return
to participants and beneficiaries be notice requirements of section characteristics (if applicable), and fees
404(c)(5)(B) of ERISA but also the notice and expenses attendant to the
1 29 CFR 2550.404c–1(b)(3) provides that ‘‘[a]
requirements under the preemption investment alternative; (4) a description
plan offers a broad range of investment alternatives
only if the available investment alternatives are
provisions of ERISA section 514 of the right of the participants and
sufficient to provide the participant or beneficiary applicable to an ‘‘automatic beneficiaries on whose behalf assets are
with a reasonable opportunity to: (A) Materially contribution arrangement,’’ within the invested in a qualified default
affect the potential return on amounts in his meaning of ERISA section 514(e)(2). investment alternative to direct the
individual account with respect to which he is ERISA section 404(c)(5)(B)(i)(I)
permitted to exercise control and the degree of risk
investment of those assets to any other
to which such amounts are subject; (B) Choose from provides for the furnishing of a notice investment alternative under the plan,
at least three investment alternatives: (1) each of explaining ‘‘the employee’s right under including a description of any
which is diversified; (2) each of which has the plan to designate how contributions applicable restrictions, fees or expenses
materially different risk and return characteristics; and earnings will be invested and in connection with such transfer; and
(3) which in the aggregate enable the participant or
beneficiary by choosing among them to achieve a
explaining how, in the absence of any (5) an explanation of where the
portfolio with aggregate risk and return investment election by the participant, participants and beneficiaries can obtain
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characteristics at any point within the range such contributions and earnings will be investment information concerning the
normally appropriate for the participant or invested.’’ ERISA section 514(e)(1) other investment alternatives available
beneficiary; and (4) each of which when combined
with investments in the other alternatives tends to
provides for the preemption of State under the plan.
minimize through diversification the overall risk of laws that would directly or indirectly Other commenters suggested that the
a participant’s or beneficiary’s portfolio; * * *’’ prohibit or restrict the inclusion in any Department provide a model notice.

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60458 Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations

Because applicable plan provisions and Department did receive comments investment alternative actually met the
qualified default investment alternatives generally requesting different or requirements of the regulation. The
may vary considerably from plan to expanded exceptions to the general Department believes that the approach it
plan, the Department believes it would prohibition, the Department has has taken to limiting employer
be difficult to provide model language determined it appropriate to adopt securities provides both flexibility and
that is general enough to accommodate paragraph (e)(1) without modification certainty.
different plans and different investment from the proposal. The second exception is for employer
products and portfolios and that would The two exceptions to the general securities acquired as a matching
allow sufficient flexibility to plan prohibition are set forth in paragraph contribution from the employer/plan
sponsors. Accordingly, the final (e)(1)(ii). The first exception applies to sponsor or at the direction of the
regulation does not include model employer securities held or acquired by participant or beneficiary. This
language for plan sponsors. However, an investment company registered exception is intended to make clear that
the Department will explore this under the Investment Company Act of an investment management service will
concept in the future in coordination 1940, 15 U.S.C. 80a–1, et seq., or a not be precluded from serving as a
with the Department of Treasury similar pooled investment vehicle (e.g., qualified default investment alternative
concerning the similar notice a common or collective trust fund or under § 2550.404c–5(e)(4)(iii) merely
requirements contained in sections pooled investment fund) regulated and because the account of a participant or
401(k)(13)(E) and 414(w) of the Code. subject to periodic examination by a beneficiary holds employer securities
Commenters also requested guidance State or Federal agency and with respect acquired as matching contributions from
concerning the extent to which the final to which investment in such securities the employer/plan sponsor, or acquired
regulation’s notice requirements could is made in accordance with the stated as a result of prior direction by the
be satisfied by electronic distribution. investment objectives of the investment participant or beneficiary; however, an
The Department currently is reviewing vehicle and independent of the plan investment management service will be
its rules relating to the use of electronic sponsor or an affiliate thereof. considered to be serving as a qualified
media for disclosures under title I of Several commenters suggested that default investment alternative only with
ERISA. In the absence of guidance to the the exception to investments in respect to assets of a participant’s or
contrary, it is the view of the employer securities should extend to beneficiary’s account over which the
Department that plans that wish to use circumstances when the plan sponsor investment management service has
electronic means by which to satisfy delegates investment responsibilities to authority to exercise discretion.
their notice requirements may rely on an ERISA section 3(38) investment In the case of employer securities
either guidance issued by the manager and with respect to which the acquired as matching contributions that
Department of Labor at 29 CFR plan sponsor has no discretion are subject to a restriction on
2520.104b–1(c) or the guidance issued regarding the acquisition or holding of transferability, relief would not be
by the Department of the Treasury and employer securities. The Department available with respect to such securities
Internal Revenue Service at 26 CFR did not adopt this suggestion because in until the investment management
1.401(a)–21 relating to the use of such instances the investment manager service has an unrestricted right to
electronic media. may be following the investment transfer the securities. Although an
policies established by the plan sponsor, investment management service would
Qualified Default Investment and, while the plan sponsor may not be be responsible for determining whether
Alternatives directly exercising discretion with and to what extent the account should
Under the final regulation, as in the respect to the acquisition or holding of continue to hold investments in
proposal, relief from fiduciary liability employer securities, the plan sponsor employer securities, the investment
is provided with respect to only those might indirectly be influencing such management service could not, except
assets invested on behalf of a participant decision through an investment policy as part of an investment company or
or beneficiary in a ‘‘qualified default that requires the investment manager to similar pooled investment vehicle,
investment alternative.’’ See acquire or hold various amounts of exercise its discretion to acquire
§ 2550.404c–5(c)(1). Paragraph (e) of employer securities. In the Department’s additional employer securities on behalf
§ 2550.404c–5 sets forth four view, limiting the exception to regulated of an individual account without
requirements for a ‘‘qualified default financial institutions avoids this type of violating § 2550.404c–5(e)(1).
investment alternative.’’ problem. In the case of prior direction by a
The first requirement, at paragraph Another commenter suggested that participant or beneficiary, if the
(e)(1), addresses investments in the Department limit qualified default participant or beneficiary provided
employer securities. As indicated in the investment alternatives to a 10% investment direction with respect to
preamble to the proposal, while the investment in employer securities. The employer securities, but failed to
Department does not believe it is Department did not adopt this provide investment direction following
appropriate for a qualified default suggestion because it believes that a an event, such as a change in
investment alternative to encourage percentage limit test would effectively investment alternatives, and the terms
investments in employer securities, the require that a plan sponsor or other of the plan provide that in such
Department also recognizes that an fiduciary monitor on a daily, if not more circumstances the account’s assets are
absolute prohibition against holding or frequent, basis the specific holdings of invested in a qualified default
investing in employer securities may be the qualified default investment investment alternative, the final
unnecessarily limiting and complicated. alternative and fluctuations in the value regulation continues to permit an
Accordingly, the proposal, in addition of the assets in the qualified default investment management service to hold
to establishing a general prohibition investment alternative to determine and manage those employer securities
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against qualified default investment compliance with a percentage limit. in the absence of participant or
alternatives holding or permitting Such a test would, in the Department’s beneficiary direction. Although the
acquisition of employer securities, view, result in considerable uncertainty investment management service may
provided two exceptions to the rule. as to whether at any given time the not acquire additional employer
While, as discussed below, the intended designated qualified default securities using participant

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contributions, the investment trustees.3 With regard to named participants that can result from such
management service may reduce the fiduciaries, commenters pointed out management, is a sufficient basis to
amount of employer securities held by that a number of employers serve as expand the regulation to permit plan
the account of the participant or named fiduciaries and manage their sponsors that are named fiduciaries to
beneficiary. plan investments in-house, resulting in manage a qualified default investment
One commenter suggested that the reduced administrative and investment alternative. This modification is
exception be extended to qualified management costs. Commenters also reflected in paragraph (e)(3)(i)(C).
default investment alternatives other noted that implementation of the A number of commenters also
than the investment management requirement as proposed would indicated that, under the proposal,
service described in paragraph (e)(4)(iii). eliminate the ability of plan sponsors investment consultants engaged by plan
An employer securities match can only who are named fiduciaries to directly sponsors would have to assume
constitute part of a qualified default manage a qualified default investment fiduciary responsibility for asset
investment alternative if the fiduciary alternative, use asset allocation models, allocations in order to obtain relief
selects an investment management develop asset allocations themselves, or under the proposal. These commenters
service as the qualified default engage investment consultants (who suggested that requiring an investment
investment alternative, because only in may or may not be fiduciaries) to assist consultant to assume fiduciary
the investment management service in the development of asset allocations. responsibility for asset allocation would
context is the responsible fiduciary Other commenters, however, suggested increase costs for the provision of such
undertaking the duty to evaluate the that the final regulation retain the consulting services, and that these costs
appropriate exposure to employer requirement that only investment inevitably would be passed along to
securities for a particular participant or managers within the meaning of section participants. Commenters also asserted
beneficiary and undertaking the 3(38) of ERISA or registered investment that the use of asset allocation models
obligation to sell employer securities companies be permitted to manage is well-established and is often an
until the participant’s or beneficiary’s qualified default investment effective way to lower costs and to
account reflects that appropriate alternatives. Commenters suggested that provide a clean structure and process
exposure. Accordingly, the Department investment management decisions for the formation, selection and
declines to adopt the commenter’s should be made by investment monitoring of all elements of a prudent
suggestion to expand the second professionals who are investment default investment alternative. The
employer securities exception to other managers within the meaning of section commenters also noted that many plan
qualified default investment 3(38) of ERISA; they asserted that sponsors develop generic asset
alternatives. The Department further requiring a 3(38) manager is safer and allocations and select particular funds,
notes that this regulation does not more prudent than other alternatives, tailored to a particular plan, with the
provide relief for the acquisition of and such requirement is input of an investment consultant who
employer securities by an investment administratively feasible. may be an investment adviser under the
service. With regard to permitting plan Investment Advisers Act of 1940. With
The second requirement, at paragraph sponsors to manage a qualified default regard to these comments, the
(e)(2), is intended to ensure that the investment alternative, the Department Department continues to believe that
qualified default investment alternative is persuaded that a plan sponsor’s when plan fiduciaries are relieved of
itself does not impose any restrictions, willingness to serve as a named liability for underlying investment
fees or expenses inconsistent with the management/asset allocation decisions,
fiduciary responsible for the
requirements of paragraph (c)(5) of those responsible for the investment
management of the plan’s investment
§ 2550.404c–5. While the provision has management/asset allocation decisions
options in conjunction with the
been redrafted for clarity, it is must be fiduciaries and those fiduciaries
potential cost savings to plan
substantively the same as in the must acknowledge their fiduciary
proposal and, therefore, is being named in the plan instrument, or who, pursuant to
responsibility and liability under the
adopted without substantive change. a procedure specified in the plan, is identified as ERISA. The Department notes, however,
The third requirement, at paragraph a fiduciary by a person who is an employer or that plan sponsors who serve as named
(e)(3), addresses the management of a employee organization with respect to the plan, or fiduciaries of a qualified default
by such an employer and such an employee
qualified default investment option. As organization acting jointly.
investment alternative may, to the
proposed, the regulation required that a 3 Section 3(38) defines the term ‘‘investment extent they consider it prudent, engage
qualified default investment alternative manager’’ to mean any fiduciary (other than a investment consultants, utilize asset
be either managed by an investment trustee or named fiduciary, as defined in section allocation models (computer-based or
402(a)(2))—(A) who has the power to manage, otherwise), etc. to carry out their
manager, as defined in section 3(38) of acquire, or dispose of any asset of a plan; (B) who
the Act, or an investment company (i) is registered as an investment adviser under the
investment management/asset allocation
registered under the Investment Investment Advisers Act of 1940 [15 U.S.C. 80b–1 responsibilities. Accordingly, the
Company Act of 1940. Several et seq.]; (ii) is not registered as an investment Department does not believe the
adviser under such Act by reason of paragraph (1) regulation in this regard should to any
commenters suggested that requiring a of section 203A(a) of such Act [15 U.S.C. 80b–
qualified default investment alternative 3a(a)], is registered as an investment adviser under
significant degree alter the availability
to be managed by an investment the laws of the State (referred to in such paragraph or cost of such services.
manager, or to be an investment (1)) in which it maintains its principal office and With regard to the exclusion of
company, is too restrictive. place of business, and, at the time the fiduciary last trustees from the ‘‘investment manager’’
filed the registration form most recently filed by the definition, commenters suggested that
A number of commenters noted that fiduciary with such State in order to maintain the
section 3(38) of ERISA excludes from fiduciary’s registration under the laws of such State,
the final regulation make clear that bank
the definition of the term ‘‘investment also filed a copy of such form with the Secretary; trustees of collective investment funds
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manager’’ named fiduciaries, as defined (iii) is a bank, as defined in that Act; or (iv) is an are permitted to manage a qualified
insurance company qualified to perform services default investment alternative. In this
in section 402(a)(2) of ERISA 2 and described in subparagraph (A) under the laws of
more than one State; and (C) has acknowledged in
regard, commenters noted that the
2 Section 402(a)(2) of ERISA provides that the writing that he is a fiduciary with respect to the definition of ‘‘investment managers’’
term ‘‘named fiduciary’’ means a fiduciary who is plan. recognizes that banks and other

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60460 Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations

institutions can be investment beneficiaries who, for one reason or framework of the various definitions of
managers, citing ERISA section another, do not elect to direct the products, portfolios and services set
3(38)(B)(ii) and (iii), and should not be investment of their pension plan assets. forth in the regulation, these examples
foreclosed from managing a qualified After careful consideration of all the are provided solely for the purpose of
default investment alternative solely on comments concerning the nature and providing the benefits community with
the basis that the institution might type of the investment alternatives that guidance as to what might be included
otherwise serve as a trustee. These should be included as qualified default within the defined categories and are
commenters noted that, similar to investment alternatives under the not intended in any way to limit the
investment managers, banks as trustees regulation, the Department, as discussed application of the definitions to such
of collective funds have fiduciary below, has decided to retain the three vehicles. The Department believes that,
responsibility and liability under ERISA proposed categories of investment on the basis of the information it has at
with respect to the funds they maintain. alternatives, essentially unchanged from this time and the comments on the
The Department is persuaded that an the proposal, as the type of alternatives proposal generally, the approach it is
entity that meets the requirements of appropriate for default investments taking to defining qualified default
section 3(38)(A), (B) and (C) should not under the regulation. However, in investment alternatives for purposes of
be precluded from assuming fiduciary recognition of the fact that some plan the regulation is sufficiently flexible to
responsibility and liability for the sponsors may find it desirable to reduce accommodate future innovations and
underlying investment management/ investment risks for all or part of their developments in retirement products.
asset allocation decisions of a qualified workforce following employees’ initial A number of commenters requested
default investment alternative solely enrollment in the plan, the Department clarification concerning application of
because that entity serves in a trustee has added a limited capital preservation the regulation to possible qualified
capacity for the plan.4 The Department option that would constitute a qualified default investment alternatives that are
has modified the final regulation default investment alternative under the offered through variable annuity
accordingly. This modification is regulation for purposes of contributions contracts. Commenters explained that
reflected in paragraph (e)(3)(i)(B). made on behalf of a participant for a variable annuity contracts typically
In response to a request from one 120-day period following the date of the permit participants to invest in a variety
commenter, the Department confirms participant’s first elective contribution.
of investments through one or more
that the provisions of the regulation do See paragraph (e)(4)(iv). In addition, the
separate accounts (or sub-accounts
not preclude a qualified default Department has modified the regulation
within the separate account) that would
investment alternative from having to include a ‘‘grandfather’’-like
qualify as qualified default investment
more than one fiduciary (e.g., provision pursuant to which stable
alternatives under the regulation.
investment manager) responsible for the value products and funds will constitute
Commenters also requested
investment management/asset allocation a qualified default investment
confirmation that the availability of
decisions of the investment alternative, alternative under the regulation for
annuity purchase rights, death benefit
as would be the case in an arrangement purposes of investments made prior to
guarantees, investment guarantees or
utilizing a ‘‘fund of funds’’ approach to the effective date of the regulation. See
paragraph (e)(4)(v). other features common to variable
designing a qualified default investment
As noted above, the three categories of annuity contracts would not themselves
alternative.
As with the proposal, the regulation investment alternatives set forth in the affect the status of a variable annuity
permits a qualified default investment proposal are being adopted essentially contract that otherwise met the
alternative to be an investment company unchanged from the proposal. One requirements for a qualified default
registered under the Investment organizational change appearing in the investment alternative. Consistent with
Company Act of 1940. See paragraph final regulation involves the inclusion providing flexibility and encouraging
(e)(3)(ii) of § 2550.404c–5. of diversification language in each of innovation in the development and
In addition to the foregoing, three categories, rather than as a offering of retirement products, model
paragraph (e)(3) has been expanded to separate requirement of general portfolios or services, the Department
include certain capital preservation applicability as in the proposal (see intends that the definition of ‘‘qualified
products and funds described in paragraph (e)(4) of proposed regulation default investment alternative’’ be
paragraph (e)(4)(iv) and (v) of § 2550.404c–5). This change construed to include products and
§ 2550.404c–5. These products and accommodates the addition of the portfolios offered through variable
funds are discussed below. capital preservation investment annuity and similar contracts, as well as
The last requirement for a qualified alternatives mentioned above that may through common and collective trust
default investment alternative not, given the nature of the investment, funds or other pooled investment funds,
conditions relief on the use of specified satisfy a diversification standard. where the qualified default investment
types of investment fund products, Some commenters expressed concern alternative satisfies all of the conditions
model portfolios or services. See that the Department’s approach to of the regulation. For purposes of
§ 2550.404c–5(e)(4). In the proposal, the defining qualified default investment identifying the entity responsible for the
Department identified three categories alternatives takes into account only management of the qualified default
of investment alternatives that it products currently available in the investment alternative in such
determined appropriate for achieving marketplace and that the defining of arrangements pursuant to paragraph
meaningful retirement savings over the qualified default investment alternatives (e)(3) of § 2550.404c–5, it is the view of
long-term for those participants and should be based on more general the Department that such a
criteria. These commenters emphasized determination is made by reference to
4 This position is consistent with the that the regulation should not stifle the entity (e.g., separate account, sub-
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Department’s long-held view that the parenthetical creativity in the development of the account, or similar entity) that is
language of section 3(38) was merely intended to next generation of retirement products. responsible for carrying out the day-to-
indicate that in order for a person to be an
investment manager for a plan, that person must be
While the Department does provide day investment management/asset
more than a mere trustee or named fiduciary. See examples of products, portfolios and allocation responsibilities. Finally, with
Advisory Opinion No. 77–69/70A services that would fall within the regard to such products and portfolios,

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it is the view of the Department that the alternatives. For example, commenters individuals many years away from
availability of annuity purchase rights, suggested that a plan fiduciary may retirement. While the Department
death benefit guarantees, investment wish to take into account an employer- believes that such an investment option
guarantees or other features common to provided defined benefit plan or an may be appropriate for individuals
variable annuity contracts will not employer stock contribution when actively electing to direct their own
themselves affect the status of a fund, selecting the plan’s default investment investments, the Department believes
product or portfolio as a qualified product. Although the final regulation that when an investment is a default
default investment alternative when the does not preclude consideration of investment, the investment should
conditions of the regulation are factors other than a participant’s age or provide for some level of capital
satisfied. A new paragraph (e)(4)(vi) was target retirement date in these preservation through fixed income
added to the regulation to clarify these circumstances, the regulation is clear investments. Accordingly, the final
principles. that such considerations are neither regulation, like the proposal, continues
A number of commenters submitted required nor necessary as a condition to to require that the qualified default
questions or comments concerning the a fiduciary obtaining relief under the investment alternatives, defined in
specific investment alternatives regulation. The Department intended to paragraph (e)(4)(i), (ii) and (iii), be
described in the regulation. provide plan fiduciaries with certainty designed to provide degrees of long-
The first investment alternative set that they have complied with the term appreciation and capital
forth in the regulation, at paragraph requirements of the regulation; preservation through a mix of equity
(e)(4)(i), is an investment fund, product accordingly, as long as a plan fiduciary and fixed income exposures.
or model portfolio that applies generally satisfies its general obligations under The second investment alternative set
accepted investment theories, is ERISA when selecting any qualified forth in the regulation, at paragraph
diversified so as to minimize the risk of default investment alternative, the (e)(4)(ii), is an investment fund product
large losses, and is designed to provide fiduciary will not lose the relief or model portfolio that applies generally
varying degrees of long-term provided by the regulation if he or she accepted investment theories, is
appreciation and capital preservation selects a product, portfolio or service diversified so as to minimize the risk of
through a mix of equity and fixed described in the regulation. large losses, and is designed to provide
income exposures based on the One commenter requested long-term appreciation and capital
participant’s age, target retirement date clarification concerning the status of preservation through a mix of equity
(such as normal retirement age under ‘‘lifestyle’’ funds. ‘‘Lifestyle’’ funds were and fixed income exposures consistent
the plan) or life expectancy. Consistent defined as being similar to ‘‘lifecycle’’ with a target level of risk appropriate for
with the proposal, the description funds, except that the allocation in a participants of the plan as a whole. For
provides that such products and given lifestyle fund does not change purposes of this alternative, asset
portfolios change their asset allocation over time to become more conservative. allocation decisions for such products
and associated risk levels over time with That is, the investment manager of a and portfolios are not required to take
the objective of becoming more lifestyle fund invests the fund’s assets to into account the age of an individual
conservative (i.e., decreasing risk of achieve a predetermined level of risk, participant, but rather focus on the
losses) with increasing age. Also like the such as ‘‘conservative,’’ ‘‘moderate,’’ or participant population as a whole. An
proposal, the description makes clear ‘‘aggressive.’’ While it does not appear example of such a fund or portfolio may
that asset allocation decisions for that a lifestyle fund, as defined by the be a ‘‘balanced’’ fund. As with the
eligible products and portfolios are not commenter, would by itself satisfy the preceding alternative, the reference to
required to take into account risk requirements for a product or portfolio ‘‘an investment fund product or model
tolerances, investments or other within the meaning of paragraph portfolio’’ is intended to make clear that
preferences of an individual participant. (e)(4)(i), such a fund could, in the this alternative might be a ‘‘stand alone’’
An example of such a fund or portfolio Department’s view, constitute part of a product or a ‘‘fund of funds’’ comprised
may be a ‘‘life-cycle’’ or ‘‘targeted- qualified default investment alternative of various investment options otherwise
retirement-date’’ fund or account. within the meaning of paragraph available under the plan for participant
The reference to ‘‘an investment fund (e)(4)(i). Similarly, nothing in the final investments. In the context of a fund of
product or model portfolio’’ is intended regulation precludes an investment funds portfolio, it is likely that money
to make clear that this alternative might manager from allocating a portion of a market, stable value and similarly
be a ‘‘stand alone’’ product or a ‘‘fund participant’s assets to such a fund as performing capital preservation vehicles
of funds’’ comprised of various part of a qualified default investment will play a role in comprising the mix
investment options otherwise available alternative within the meaning of of equity and fixed-income exposures
under the plan for participant paragraph (e)(4)(iii). It is also possible for this alternative.
investments. As noted in the proposal, that a lifestyle fund, as defined by the Although commenters generally
the Department believes that, in the commenter, might be able to constitute supported inclusion of a balanced
context of a fund of funds portfolio, it an investment within the meaning of investment option as a qualified default
is likely that money market, stable value paragraph (e)(4)(ii), an example of investment alternative, a number of
and similarly performing capital which is a ‘‘balanced’’ fund. commenters had questions or expressed
preservation vehicles will play a role in With respect to the language requiring concern regarding the requirement that
comprising the mix of equity and fixed- that the investment fund, product or the investment alternative define its
income exposures. model portfolio provide varying degrees investment objectives by reference to ‘‘a
Several commenters asked the of long-term appreciation and capital target level of risk appropriate for
Department to clarify whether a plan preservation through ‘‘a mix of equity participants of the plan as a whole.’’
fiduciary must, or may, consider and fixed income exposures,’’ one Commenters indicated that having to
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demographic or other factors in addition commenter inquired whether the take into account the ‘‘participants of
to a participant’s age or target retirement Department intended to exclude funds the plan as a whole’’ would result in
date when selecting an investment that had no fixed income exposure, uncertainty as to whether the plan
product intended to satisfy the first which, according to the commenter, sponsor properly matched the chosen
category of qualified default investment might be appropriate for young fund to its participant population. In

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addition, commenters asserted that the Department to clarify the demographic participant’s account holding employer
on-going monitoring necessary for the factors that should be considered by the securities with restrictions on
plan fiduciary to ensure the continued fiduciary. The Department understands transferability, the investment
appropriateness of the match would that the only information a plan management service could serve as
likely result in unnecessary burdens and fiduciary may know about its qualified default investment alternative
costs. One commenter explained that participant population is age. Thus, for purposes of all other assets in the
balanced funds as a group hold when determining a target level of risk participant’s account with respect to
approximately 60–65% percent of their appropriate for participants of a plan as which the managed account has
portfolios in equity investments,5 and a whole, a plan fiduciary is required to investment discretion. As discussed
that the typical balanced fund would be consider the age of the participant earlier, the mere fact that the account of
somewhat more conservatively invested population. However, a plan fiduciary is a participant or beneficiary holds
than most targeted-retirement-date not foreclosed from considering other employer securities acquired as
funds; hence, the commenter argued factors relevant to the participant matching contributions from the
that balanced funds are an appropriate population, if the fiduciary so chooses. employer/plan sponsor, or acquired as a
default for all workers. The commenter The third alternative set forth in the result of prior direction by the
further noted that periodic monitoring, regulation, at paragraph (e)(4)(iii), is an participant or beneficiary, will not
while adding unnecessary costs, will investment management service with preclude an investment management
likely never produce an impetus for respect to which an investment manager service from serving as a qualified
changing to a different balanced fund allocates the assets of a participant’s default investment alternative.
option. After careful consideration of individual account to achieve varying However, an investment management
the comments, the Department has degrees of long-term appreciation and service will be considered to be serving
decided to retain the requirement that, capital preservation through a mix of as a qualified default investment
for purposes of paragraph (e)(4)(ii), the equity and fixed income exposures, alternative only with respect to the
selected qualified default investment offered through investment alternatives assets of a participant’s or beneficiary’s
alternative reflect ‘‘a target level of risk available under the plan, based on the account over which the investment
appropriate for participants of the plan participant’s age, target retirement date management service has authority to
as a whole.’’ The Department recognizes (such as normal retirement age under exercise discretion. If the investment
that, to the extent that a particular the plan) or life expectancy.8 Such management service does not have the
investment fund product or model portfolios change their asset allocation authority to exercise discretion over
portfolio does not itself consider or and associated risk levels over time with investments in employer securities, the
adjust its balance of fixed income and the objective of becoming more investment management service will not
equity exposures to take into account a conservative (i.e., decreasing risk of be a qualified default investment
target level of risk appropriate for the losses) with increasing age. Similar to alternative with respect to those
participants of the plan as a whole, plan the first two alternatives, these securities. See discussion of paragraph
fiduciaries will retain that portfolios must be structured in (e)(1)(ii) of § 2550.404c–5, above.
responsibility. The Department believes accordance with generally accepted Another commenter expressed
that, as a practical matter, this investment theories and diversified so concern that requiring the manager of a
responsibility would be discharged by as to minimize the risk of large losses. managed account qualified default
the fiduciary in connection with the The final regulation also clarifies that, investment alternative to be an
prudent selection and monitoring of the as with the other alternatives described investment manager may prevent plan
investment fund product.6 Specifically, in the regulation, asset allocation sponsors from using existing managed
fiduciaries would take into account the decisions are not required to take into account programs, such as that
diversification of the portfolio, the account risk tolerances, other addressed in Advisory Opinion 2001–
liquidity and current return of the investments or other preferences of an 09A (the ‘‘SunAmerica Opinion’’). The
portfolio relative to the anticipated cash individual participant. An example of Department believes these concerns are
such a service may be a ‘‘managed addressed by the modifications to
flow requirements of the plan, the
account.’’ paragraph (e)(3)(i)(C), pursuant to which
projected return of the portfolio relative
One commenter requested plan sponsors who are named
to funding objectives of the plan, and
clarification that, with regard to a fiduciaries may manage qualified
the fees and expenses attendant to the
default investment alternatives.
investment.7 Many commenters expressed concern
8 Although investment management services are
Unlike the first alternative, which
included within the scope of relief, the Department that the Department did not include
focuses on the age, target retirement notes that relief similar to that provided by this capital preservation, in particular stable
date (such as normal retirement age regulation is available to plan fiduciaries under the value, products as qualified default
under the plan) or life expectancy of an statute. Specifically, section 402(c)(3) of ERISA
provides that ‘‘a person who is a named fiduciary investment alternatives on a stand alone
individual participant, the second
with respect to control or management of the assets basis. These commenters pointed out
alternative requires a fiduciary to take of the plan may appoint an investment manager or that stable value funds are utilized by a
into account the demographics of the managers to manage (including the power to large number of plans as default
plan’s participants, and would be acquire and dispose of) any assets of a plan.’’
investment funds. These funds are often
similar to the considerations a fiduciary Section 405(d)(1) of ERISA provides that ‘‘[i]f an
investment manager or managers have been chosen by plan sponsors because they
would take into account in managing an appointed under section 402(c)(3), then * * * no provide: Safety of principal; bond-like
individual account plan that does not trustee shall be liable for the acts or omissions of returns without the volatility associated
provide for participant direction. A such investment manager or managers, or be under
with bonds; stability and steady growth
number of commenters asked the an obligation to invest or otherwise manage any
asset of the plan which is subject to the of principal and earned income; and
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5 Investment Company Institute, Quarterly


management of such investment manager.’’ The benefit-responsive liquidity, so that plan
Department included investment management participants may transact at ‘‘book
Supplementary Data for Quarter Ending June 30, services within the scope of fiduciary relief in order
2006. to avoid any ambiguity concerning the scope of
value.’’ Commenters supporting stable
6 See paragraph (b)(2) of 29 CFR 2550.404c–5.
relief available to plan fiduciaries in the context of value funds argued that stable value
7 See 29 CFR 2550.404a–(b). participant directed individual account plans. funds are superior to money market

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Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations 60463

funds and other cash-equivalent assessment of related economic impacts, virtue of its inclusion in the regulation,
products because stable value the Department has determined, except or as an endorsement by the employer,
investments earn higher rates of return as otherwise discussed below, not to by virtue of its selection as the qualified
than money market funds and other include capital preservation products, default investment alternative, as an
cash-equivalent products. A number of such as money market or stable value appropriate investment for long-term
these commenters also suggested that funds, as a separate long-term retirement savings. Although the
stable value funds are appropriate for investment option under the regulation. Department recognizes that such
plans with different demographics, As a short-term investment, money perceptions on the part of some
including, for example, plans that cover market or stable value funds may not, in participants and beneficiaries might be
younger, higher turnover employees the Department’s view, significantly addressed with investment education
who are likely to elect lump sum affect retirement savings. The and investment advice, the Department
payments, or plans that cover older, Department recognizes, however, that nonetheless is concerned that, overall,
near-retirement employees. such investments can, and in many the potentially adverse effect on long-
Commenters in support of the instances will, play an important role as term retirement savings may be
inclusion of stable value products also a component of a diversified portfolio significant.
indicated that stable value funds have that constitutes a qualified default In light of these concerns, the
relatively low costs compared to life- investment alternative. It is the view of Department, as indicated above, has not
cycle, targeted-retirement-date and the Department that investments made included a capital preservation
balanced funds, particularly those that on behalf of defaulted participants investment alternative as a long-term
use a ‘‘fund of funds’’ structure. These ought to and often will be long-term stand alone investment option for future
commenters expressed the view that, investments and that investment of contributions under the final regulation.
because stable value returns are defaulted participants’ contributions The Department, however, has added
comparable to intermediate corporate and earnings in money market and two exceptions to the regulation that
bond returns, the premium, if any, of stable value funds will not over the accommodate limited investments in
equity investments over stable value long-term produce rates of return as capital preservation products as
investments has been overstated. Many favorable as those generated by qualified default investment
of the commenters argued that the products, portfolios and services alternatives. The first exception is at
exclusion of stable value funds would included as qualified default investment paragraph (e)(4)(iv). In general, this
unduly discourage plan sponsors from alternatives, thereby decreasing the exception treats investments in capital
using stable value funds as a default likelihood that participants invested in preservation products or funds as an
option, to the detriment of plan capital preservation products will have investment in a qualified default
participants. These commenters argued adequate retirement savings. investment alternative for a 120-day
that limiting default investment The Department also is concerned period following a participant’s first
alternative choices discourages plans that including capital preservation and elective contribution (as determined
from implementing automatic stable value products as a qualified under section 414(w)(2)(B) of the Code).
enrollment. In addition, some default investment alternative for future Specifically, paragraph (e)(4)(iv)(A)
commenters suggest that if participants contributions on behalf of defaulted recognizes, subject to the limitations of
whose account balances are invested in participants may impede, or even paragraph (e)(4)(iv)(B), as a qualified
qualified default investment alternatives reverse, the current trend away from the default investment alternative an
react negatively to volatile equity use of such products as default investment product that is designed to
performance by opting out of plan investments. The Department preserve principal and provide a
participation when losses occur, the understands that, because account reasonable rate of return, whether or not
regulation may ultimately decrease balances invested in capital guaranteed, consistent with liquidity.
retirement savings, and the potential preservation products are unlikely to The product description and applicable
gains expected from funds with higher show a nominal loss, a number of standards are similar to the standards
historical long-term performance employers, if given a choice between adopted for purposes of automatic
records will not materialize. Some of the capital preservation products and more rollovers of mandatory distributions at
comments supporting the inclusion of diversified investment options, may be 29 CFR 2550.404a–2. The Department
capital preservation products also more likely to opt for capital believes it is appropriate to include
argued that the Congress, in referencing preservation products because they are capital preservation products as a
‘‘a mix of asset classes consistent with perceived as presenting less litigation limited-duration qualified default
capital preservation or long-term capital risk for employers. If so, inclusion of a investment alternative to afford plan
appreciation, or a blend of both’’ in capital preservation option without sponsors the flexibility of utilizing a
section 624 of the Pension Protection limitation may increase utilization of near risk-free investment alternative for
Act, intended the Department to include capital preservation products as default the investment of contributions during
capital preservation products as a investments and, thereby, increase the the period of time when employees are
separate stand alone qualified default number of participants likely to have most likely to opt out of plan
investment alternative. inadequate retirement savings, as participation. The use of capital
The Department also received compared with savings that would be preservation products in these
comments in support of its generated through investments in the circumstances will enable plan sponsors
determination that capital preservation established qualified default investment to return contributed amounts to
products, such as money market funds, alternatives. participants who opt out without
stable value funds and similarly Lastly, the Department is concerned concern about loss of principal. In this
performing investment vehicles, should that inclusion of a capital preservation regard, the limitation set forth in
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not themselves constitute qualified product as a qualified default paragraph (e)(4)(iv)(B) provides that
default investment alternatives under investment alternative, without capital preservation products described
the regulation. limitation, may be perceived by in paragraph (e)(4)(iv)(A) shall, with
After careful consideration of the participants and beneficiaries as an respect to any given participant, be
comments addressing this issue and endorsement by the government, by treated as a qualified default investment

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60464 Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations

alternative for a 120-day period extends to participant contributions requirements of the regulation to
following the participant’s first elective made after the effective date of this qualified default investment
contribution (as determined under regulation. It is important to note, alternatives. In both scenarios,
section 414(w)(2)(B) of the Code). At the however, that, as indicated in the commenters noted that plans often will
end of the 120-day period, capital regulation itself, the standards not have the records necessary to
preservation products would cease to be applicable to qualified default distinguish participants who were
a qualified default investment investment alternatives set forth in the defaulted into a default investment from
alternative with respect to any assets of regulation are not intended to be the those who affirmatively elected to invest
the participant that continue to be exclusive means by which a fiduciary in that investment. Some commenters
invested in such products. In order to might satisfy his or her responsibilities requested retroactive relief for
avail itself of the relief afforded by the under the Act with respect to the investments that would not otherwise
regulation, the plan fiduciary must investment of assets in the individual constitute qualified default investment
redirect the participant’s investment in account of a participant or beneficiary. alternatives because a plan’s
the capital preservation product to Accordingly, fiduciaries may, without determination to transfer assets out of
another qualified default investment regard to this regulation, conclude that such investments could trigger a market
alternative prior to the end of the 120- a stable value product or fund is an value adjustment or similar withdrawal
day period. As previously stated, such appropriate default investment for their penalty.
alternative may include an appropriate employees and use such product or To ensure that an existing or a new
capital preservation component in the fund for contributions on behalf of default investment constitutes a
context of a diversified portfolio. defaulted employees after the effective qualified default investment alternative
The 120-day time frame is intended to date of this regulation. with respect to both existing assets and
provide plans that allow an employee to It also is important to note with regard new contributions of participants or
elect to make a permissible withdrawal, to both of the exceptions discussed beneficiaries, plan fiduciaries must
consistent with section 414(w) of the above that the relief afforded by the comply with the notice requirements of
Code, a reasonable amount of time regulation for investments in the the regulation. It is the view of the
following the end of the 90-day period covered products or funds on behalf of Department that any participant or
provided in section 414(w)(2)(B) (i.e., defaulted participants is contingent on beneficiary, following receipt of a notice
the period during which employees may compliance with all the requirements of in accordance with the requirements of
elect to make a permissible withdrawal) the regulation. this regulation, may be treated as failing
to effectuate a transfer of a participant’s Finally, the Department disagrees to give investment direction for
assets to another qualified default with commenters’ assertion that the purposes of paragraph (c)(2) of
investment alternative. Department’s decision not to include § 2550.404c–5, without regard to
The second exception relating to capital preservation products as a whether the participant or beneficiary
capital preservation products and funds qualified default investment alternative was defaulted into or elected to invest
is at paragraph (e)(4)(v). This exception, is inconsistent with Congressional in the original default investment
unlike the first, is intended to be limited intent. The Department believes that vehicle of the plan. Under such
to stable value products and funds with Congress, in enacting section 624 of the circumstances, and assuming all other
respect to which plan sponsors are Pension Protection Act, provided the conditions of the regulation are
typically limited by the terms of the Department broad discretion in framing satisfied, fiduciaries would obtain relief
investment contracts from unilaterally a regulation that would permit the with respect to investments on behalf of
reinvesting assets on behalf of Department to include or exclude those participants and beneficiaries in
participants who fail to give investment capital preservation products as a existing or new default investments that
direction without triggering a surrender separate qualified default investment constitute qualified default investment
charge or other fees that could directly alternative. The Department also notes alternatives.
and adversely affect participant account that, pursuant to section 505 of ERISA, Several commenters requested
balances. Under the exception, stable the Secretary may prescribe such
guidance on the effective date of the
value products and funds will be treated regulation. While section 404(c)(5) of
regulations as are necessary or
as a qualified default investment ERISA is effective for plan years
appropriate to carry out the provisions
alternative solely for purposes of beginning after December 31, 2006,
title I of ERISA.
investments in such products or funds relief under section 404(c)(5) is
made prior to the effective date of this C. Miscellaneous Issues conditioned on, among other things, the
regulation. The Department believes investment of a participant’s
Transition Issues
that this ‘‘grandfather’’-type provision contributions and earnings ‘‘in
accommodates the concerns of A number of commenters raised accordance with regulations issued by
commenters regarding the utilization of issues concerning the status of existing the Secretary.’’ See section 404(c)(5)(A).
stable value products and funds by plan default investments and transfers to Accordingly, relief under section
sponsors as their default investment default investments that would meet the 404(c)(5) is conditioned on compliance
option in the absence of guidance requirements of the regulation. with the provisions of this final
concerning fiduciary responsibilities Specifically, commenters requested regulation, which provide relief only for
attendant to default investments guidance on what steps should be taken investments on behalf of participants
generally, guidance like that provided to ensure that a plan’s current default and beneficiaries who were furnished a
by this regulation. At the same time, by investments, which also meet the notice in accordance with paragraphs
limiting the exception to pre-effective requirements of the regulation, will be (c)(3) and (d) of § 2550.404c–5 and who
date contributions, plan sponsors are treated as qualified default investment did not give investment directions to the
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encouraged to assess whether and under alternatives after the effective date of the plan after the effective date of the
what circumstances they wish to avail regulation. Other commenters requested regulation. Although the regulation only
themselves of the relief provided under guidance on what steps should be taken provides relief for investments in
the regulation by utilizing a qualified when a plan is moving from default qualified default investment alternatives
default investment alternative that investments that do not meet the when participants and beneficiaries do

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not give investment directions after the interrelationship between ERISA section contributions are invested in accordance
effective date of the regulation, 404(c)(4)(A)—the ‘‘mapping’’ with regulations prescribed by the
compliance with the notice provisions—and section 404(c)(5) and Secretary of Labor under section
requirements may be achieved by this regulation. The most obvious 404(c)(5) of ERISA. In the preamble to
providing notice in accordance with the difference between the two sections is the proposed regulation, the Department
regulation before its effective date. the circumstances under which relief is specifically invited comment on
With regard to the possible available. The relief provided by section whether, and to what extent, regulations
assessment of market value adjustments 404(c)(4) is limited to circumstances would be helpful in addressing the
or similar withdrawal penalties that when a plan undertakes a ‘‘qualified preemption provision of section 514(e).
may result from a fiduciary’s decision to change in investment options’’ within In response to the Department’s
move assets to a qualified default the meaning of section 404(c)(4)(B). In invitation, commenters indicated that,
investment alternative, the Department contrast, section 404(c)(5) and this while the application of the preemption
reminds fiduciaries that such decisions regulation can apply to changes in provisions should be clarified, they did
must be made in compliance with investment options and to the selection not believe it was necessary at this time
ERISA’s prudence and exclusive of initial plan investments when for the Department to prescribe
purpose requirements. These decisions participants or beneficiaries do not give regulations establishing minimum
cannot be based solely on a fiduciary’s investment directions. Section 404(c)(4) standards for automatic contribution
desire to take advantage of the limited applies only when the investment arrangements. Commenters also argued
liability afforded by this regulation, option from which assets are being that ERISA preemption should extend to
without regard to the financial transferred was chosen by the all prudent investments under an
consequences to the plan’s participants participant or beneficiary (see section automatic contribution arrangement, not
and beneficiaries. In this regard, the 404(c)(4)(C)(iii)). Section 404(c)(5), just those determined to be qualified
Department notes that the final unlike 404(c)(4), can apply to the default investment alternatives under
regulation does not change the status of selection of an investment alternative by the Department’s regulation. In
an otherwise prudent default the plan fiduciary in the absence of any addition, commenters argued that
investment into an imprudent default affirmative direction by the participant preemption should not depend on
investment. The Department has or beneficiary. While the fiduciary relief compliance with all the requirements of
attempted to make clear in both the afforded by section 404(c)(4) and section the regulation under section 404(c)(5),
preamble and the operative language of 404(c)(5) is similar, relief under section noting that section 514(e) has an
the final regulation that the standards 404(c)(4) requires that new investments independent notice requirement. See
set forth therein are not intended to be be reasonably similar to the investments section 514(e)(3).
the exclusive means by which of the participant or beneficiary In an effort to clarify the application
fiduciaries might satisfy their immediately before the change, whereas of the preemption provisions of section
responsibilities under the Act with relief under section 404(c)(5) requires 514(e), the final regulation includes a
respect to the investment of assets on investment to be made in qualified new paragraph (f). As set forth in the
behalf of participants and beneficiaries default investment alternatives. In the regulation, section 514(e) broadly
who do not give investment directions. context of changing investment options preempts any State law that would
Further, as discussed above under under the plan, ERISA sections 404(c)(4) restrict the use of an automatic
Qualified Default Investment and 404(c)(5) provide fiduciaries contribution arrangement. After
Alternatives, the Department modified flexibility in implementing such reviewing the text and purpose of
the regulation to provide relief for changes. section 514(e), the Department
investments made in stable value concluded that Congress intended to
products or funds prior to the effective Preemption supersede the application of such laws
date of the regulation. This modification Section 902 of the Pension Protection to any pension plan that provides for an
is intended to assist plan fiduciaries Act added a new section 514(e)(1) to automatic contribution arrangement,
who may be limited by the terms of ERISA providing that, notwithstanding regardless of whether such plan
investment contracts for such products any other provision of section 514, title includes an automatic contribution
or funds from unilaterally reinvesting I of ERISA shall supersede any State law arrangement as defined in the
assets on behalf of participants who fail that would directly or indirectly regulation. This conclusion is reflected
to direct their investments. prohibit or restrict the inclusion in any in paragraph (f)(2) of the final
One commenter requested that the plan of an automatic contribution regulation.
Department make clear that once a arrangement. Section 902 further added With the enactment of section 514(e),
participant or beneficiary directs any section 514(e)(2) to ERISA defining the Congress intended to occupy the field
portion of his or her account balance, term ‘‘automatic contribution with respect to automatic contribution
the participant or beneficiary is arrangement’’ as an arrangement under arrangements.9 Thus, section 514(e) of
considered to have directed the which a participant: May elect to have ERISA does not merely supersede State
investment of the entire account. The the plan sponsor make payments as laws ‘‘insofar’’ as any particular plan
Department agrees that investment contributions under the plan on behalf complies with this final regulation, but
direction by a participant or beneficiary of the participant, or to the participant rather generally supersedes any law
with respect to a portion of his or her directly in cash; is treated as having ‘‘which would directly or indirectly
account balance may be treated as a elected to have the plan sponsor make
decision to retain the remainder of the such contributions in an amount equal 9 This interpretation of section 514(e) is

to a uniform percentage of consistent with the Technical Explanation of H.R.


account balance as currently invested, 4, the ‘‘Pension Protection Act of 2006,’’ as Passed
thus permitting the responsible compensation provided under the plan
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by the House on July 28, 2006, and as Considered


fiduciary to consider the entire account until the participant specifically elects by the Senate on August 3, 2006, a document
balance as directed by the participant or not to have such contributions made (or prepared by the staff of the Joint Committee on
Taxation. That document states, on page 230: ‘‘The
beneficiary. specifically elects to have such State preemption rules under the bill are not
A number of commenters requested contributions made at a different limited to arrangements that meet the requirements
that the Department clarify the percentage); and under which such of a qualified enrollment feature.’’

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prohibit or restrict the inclusion in any 514(e)(3) for automatic contribution 65 and older in 2034, but decrease it by
plan of an automatic contribution arrangements. $0.3 billion per year for 0.6 million.
arrangement.’’ This language stands in High-impact estimates suggest that
Enforcement
marked contrast to the familiar language pension income will increase by $2.5
of section 514(a) of ERISA, which Section 902 of the Pension Protection billion for 2.5 million and fall by $0.6
supersedes State laws only ‘‘insofar’’ as Act amended section 502(c)(4) of ERISA billion for 0.9 million. Impacts on
they satisfy the ‘‘relates to’’ standard set to provide that the Secretary of Labor retirement income will be larger farther
forth in that section.10 may assess a civil penalty against any in the future, reflecting the fact that
Additionally, Congress gave the person for each violation of section automatic enrollment and default
Department discretion in section 514(e)(3) of ERISA. Implementing investing disproportionately affect
514(e)(1) to determine whether and to regulations will be developed in a young workers.
what extent preemption should be separate rulemaking. A substantial portion of the increase
conditioned on plan compliance with in retirement savings will be attributable
D. Effective Date directly to the movement of default
minimum standards, stating that ‘‘[t]he
Secretary may prescribe regulations This final regulation will be effective investments away from stand-alone,
which would establish minimum 60 days after the date of its publication fixed income capital preservation
standards that such an arrangement in the Federal Register. vehicles and toward qualified default
would be required to satisfy in order for investment alternatives that provide for
E. Regulatory Impact Analysis capital appreciation as well as capital
this subsection [on preemption] to apply
in the case of such arrangement.’’ Summary preservation. The majority of the
Pursuant to this grant of discretionary increase, however, will be attributable
This regulation is expected to have
authority, the Department has to the proliferation of automatic
two major economic consequences.
concluded, at this time, that it should enrollment.
Default investments will be directed The Department believes that the net
not tie preemption to minimum more toward higher-return portfolios,
standards for default investments. The increase in retirement savings will
boosting average investment returns, translate into a net improvement in
Department, therefore, specifically and automatic enrollment provisions
provides in paragraph (f)(4) that nothing welfare. There is substantial risk that
will become more common, boosting savings will fall short relative to many
in the final regulation precludes a participation. Both of these effects will
pension plan from including an workers’ retirement income
increase average retirement savings, expectations, especially in light of
automatic contribution arrangement that especially among workers who are
does not meet the conditions of increasing health costs and stresses on
younger, have lower earnings and/or defined benefit pension plans and the
paragraph (a) through (e) of the more frequent job changes. A substantial Social Security program. The regulation
regulation. While relief under ERISA number of individuals will enjoy will help reduce that risk. An increase
section 404(c)(5) is available only to significant increases in retirement in retirement savings additionally is
plans that comply with the regulation, income, while a few may experience likely to promote investment and long-
the Department has determined that it decreases if the introduction of term economic productivity and growth.
would be inappropriate to discourage automatic enrollment slows their saving The Department therefore concludes
plan fiduciaries from selecting default or if their default investment returns are that the benefits of this regulation will
investments that are not identified in particularly poor. The magnitude of justify its costs.
the regulation. State laws that hinder these effects will be large in absolute
the use of any other default investments terms and proportionately large for Executive Order 12866
would be inconsistent with this many directly affected individuals. Under Executive Order 12866, the
determination, and with the The regulation’s effects will be Department must determine whether a
discretionary authority Congress vested cumulative and gradual, and their regulatory action is ‘‘significant’’ and
in the Department over the scope of magnitude will depend on plan sponsor therefore subject to the requirements of
ERISA preemption. and participant choices. The the Executive Order and subject to
Finally, in an effort to eliminate the Department has developed low- and review by the Office of Management and
need for multiple notices by plan high-impact estimates to illustrate a Budget (OMB). Section 3(f) of the
administrators of automatic contribution range of potential long-term effects. Executive Order defines a ‘‘significant
arrangements, paragraph (f)(3) of the By 2034 the regulation (together with regulatory action’’ as an action that is
final regulation specifically provides the automatic enrollment provisions of likely to result in a rule (1) having an
that the administrator of an automatic the Pension Protection Act) is predicted annual effect on the economy of $100
contribution arrangement within the to increase aggregate annual 401(k) plan million or more, or adversely and
meaning of paragraph (f)(1) shall be contributions by between 2.6 percent materially affecting a sector of the
considered to have satisfied the notice and 5.1 percent, or by $5.7 billion to economy, productivity, competition,
requirements of section 514(e)(3) if $11.3 billion (expressed in 2006 jobs, the environment, public health or
notices are furnished in accordance dollars). It is predicted to increase safety, or State, local or tribal
with paragraphs (c)(3) and (d) of the aggregate account balances by between governments or communities (also
regulation. Accordingly, satisfaction of 2.8 percent and 5.4 percent, or by $70 referred to as ‘‘economically
the notice requirements under section billion to $134 billion. Between 83 significant’’); (2) creating serious
404(c)(5) and this regulation also will percent and 77 percent of net new inconsistency or otherwise interfering
serve to satisfy the separate notice 401(k) accumulations will be preserved with an action taken or planned by
requirements set forth in section for retirement rather than cashed out another agency; (3) materially altering
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early. the budgetary impacts of entitlement


10 Section 514(a) of ERISA provides, in pertinent
Low-impact estimates indicate that grants, user fees, or loan programs or the
part, that ‘‘the provisions of this title and title IV
shall supersede any and all State laws insofar as
the regulation will increase pension rights and obligations of recipients
they may now or hereafter relate to any employee income by $1.3 billion per year on thereof; or (4) raising novel legal or
benefit plan * * *.’’ Emphasis added. aggregate for 1.6 million individuals age policy issues arising out of legal

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Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations 60467

mandates, the President’s priorities, or which could conduct analyses of the Department recertifies its earlier
the principles set forth in the Executive neutrality of asset allocations in-house, conclusion that this regulation will not
Order. This action is significant under small plans would have to expend have a significant economic impact on
section 3(f)(1) because it is likely to resources on using outside consultants a substantial number of small entities.
have an annual effect on the economy to conduct such analyses or face
Paperwork Reduction Act
of $100 million or more. Accordingly, potential liability for a failure to do so.
the Department has undertaken, as The commenter mentioned that some In accordance with the requirements
described below, an analysis of the costs funds are willing to indemnify of the Paperwork Reduction Act of 1995
and benefits of the regulation. The fiduciaries of large plans from any (PRA) (44 U.S.C. 3506(c)(2)), the
Department believes that the liability associated with choosing such proposed regulation solicited comments
regulation’s benefits justify its costs. funds. The commenter suggested that on the information collections included
the Department add measures to in the proposed regulation. The
Regulatory Flexibility Act Department also submitted an
mitigate the likelihood of conflicts, such
The Department certified that the as requiring that such funds allocate information collection request (ICR) to
proposed regulation, if adopted, would assets pursuant to independent OMB in accordance with 44 U.S.C.
not have a significant economic impact algorithms and require equal treatment 3507(d), contemporaneously with the
on a substantial number of small for small plan fiduciaries with regard to publication of the proposed regulation,
entities. 71 FR 56806, 56815 (Sept. 27, indemnification. for OMB’s review.11 Although no public
2006). In explaining the basis for this Plan fiduciaries must take into comments were received that
certification, the Department noted that account potential conflicts of interest specifically addressed the paperwork
10 to 20 percent of small participant and the reasonableness of fees in burden analysis of the information
directed defined contribution plans choosing and monitoring any collections, the comments that were
(28,000 to 56,000 plans) might adopt investment option for a plan, whether submitted, and which are described
automatic enrollment programs as a covered under the safe harbor or not. earlier in this preamble, contained
result of the regulation. Consequently, This obligation flows from the fiduciary information relevant to the costs and
some of the employers sponsoring such duties of prudence and loyalty to the administrative burdens attendant to the
plans may have to make additional participants set out in ERISA section proposals. The Department took into
matching contributions (up to $100 404(a)(1). The regulation imposes no account such public comments in
million to $300 million annually). The new requirements for selecting qualified connection with making changes to the
Department expects that the amount of default investment alternatives. For proposal, analyzing the economic
such additional contributions to small large or small plans, the duty to evaluate impact of the proposals, and developing
plans would be proportionately similar a plan investment option exists the revised paperwork burden analysis
to those to large plans. The Department regardless of whether the plan includes summarized below.
did not expect the proposed regulation an automatic enrollment feature or In connection with publication of this
to have any adverse consequences for whether the fiduciary is seeking to final rule, the Department has submitted
small plans or their sponsors because all comply with this regulation. Thus, the an ICR to OMB for its request of a new
the factors at issue, including the Department continues to believe that collection. The public is advised that an
payment of matching contributions, the this regulation would not have a agency may not conduct or sponsor, and
adoption of automatic enrollment significant effect on a substantial a person is not required to respond to,
programs, and compliance with the number of small entities. a collection of information unless it
regulation are voluntary on the part of The Department considered the displays a currently valid OMB control
the plan sponsor. commenter’s suggestions. Adopting number. The Department intends to
The Department received one them, however, could limit plans’ publish a notice announcing OMB’s
comment regarding the proposed choices or increase the cost of qualified decision upon review of the
regulation’s potential effect on small default investment alternatives. The Department’s ICR.
entities. The commenter believes that regulation does not prevent plan A copy of the ICR may be obtained by
certain types of mutual funds that fiduciaries from taking features such as contacting the PRA addressee shown
would be qualified default investment independent algorithms into account in below or at http://www.RegInfo.gov.
alternatives under paragraph (e)(4)(i) choosing qualified default investment PRA ADDRESSEE: Gerald B. Lindrew,
(e.g., life-cycle or target-retirement date alternatives. If it determines that a Office of Policy and Research, U.S.
funds) sometimes invest in other types widespread need for such assistance Department of Labor, Employee Benefits
of mutual funds. According to the exists, the Department may consider Security Administration, 200
commenter, the investment advisers for providing guidance for small plans Constitution Avenue, NW., Room N–
the life-cycle or target-retirement-date regarding prudent selection of qualified 5718, Washington, DC 20210.
funds may have an incentive to skew default investment alternatives. Telephone: (202) 693–8410; Fax: (202)
the fund’s allocation toward sub funds The Department has also considered 219–4745. These are not toll-free
that generate higher fees than to funds the changes made in this document numbers.
that would be most appropriate for the from the proposed regulation. These The regulation provides certain
age or expected retirement date of the changes, including the modified notice specified relief from fiduciary liability
affected participants. The commenter requirement, allowing trustees and for fiduciaries who make investment
stated that fiduciaries of small plans certain plan sponsors to manage decisions on behalf of participants and
wishing to use the safe harbor would qualified default investment beneficiaries in individual account
need to expend disproportionately more alternatives, and the addition of a
resources than large plan fiduciaries in temporary qualified default investment 11 On Nov. 20, 2006, OMB issued a notice (ICR
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making sure that the asset allocations alternative are discussed more fully Reference No. 200608–1210–003) that it would not
(and thus, the corresponding fee earlier in this document. They do not approve the Department’s request for approval of
the information collection provisions until after
structures) are not tainted by conflicts of affect the Department’s determination consideration of public comment on the proposed
interest. Specifically, the commenter regarding the regulation’s impact on regulation and promulgation of a final rule,
was concerned that unlike larger plans small entities. Therefore, the describing any changes.

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60468 Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations

pension plans that provide for from materials and postage. It is the notice is estimated to require an
participant direction of investments assumed that electronic means of additional 310,000 hours of clerical
when such participants and communication will be used in 38 time, based on an estimate of one-half
beneficiaries fail to direct the percent of the responses pertaining to minute of clerical time per notice. No
investment of their account assets. The the initial and annual notices and that additional burden hours are attributed
regulation describes conditions under such communications will make use of to the distribution of the notice to the
which a participant or beneficiary who existing systems. Accordingly, no cost remaining 38 percent of participants
fails to provide investment direction has been attributed to the electronic and beneficiaries who will receive this
will be treated as having exercised distribution of information. notice electronically (23,767,000
control over assets in his or her account Annual Notice—29 CFR 2550.404c– individuals). The total annual burden
under an individual account plan as 5(c)(3). The regulation requires that hours estimated for the notice in the
provided in section 404(c)(5)(A) of notice be provided initially, before any first year, therefore, are 522,000. The
ERISA. The regulation requires that the portion of a participant’s or equivalent cost for this burden hour
assets of non-directing participants or beneficiary’s account balance is estimate is $30,232,000 (legal
beneficiaries be invested in one of the invested in a qualified default professional time is valued at $106 per
qualified default investment alternatives investment alternative, and annually hour, and clerical time is valued at $25
described in the regulation and that thereafter. The notice generally must per hour).14
certain other specified conditions be describe: (1) The circumstances under In addition to burden hours, the
met. which assets in the individual account Department has estimated annual costs
The regulation imposes two separate of a participant or beneficiary may be attributable to the notice for the first
disclosure requirements to participants invested on behalf of the participant or year, based on materials and postage, at
and beneficiaries that are conditions to beneficiary in a qualified default $19,776,000. This comprises the
the relief created by the final regulation, investment alternative; and, if material cost for a two-page notice ($.10
as follows: (1) The plan must provide an applicable, an explanation of the per notice) to 38,777,000 participants
initial notice containing specified circumstances under which elective and beneficiaries (62 percent of
information to any individual whose contributions will be made on behalf of 62,544000 participants and
assets may be invested in a qualified a participant, the percentage of such beneficiaries), which equals $3,878,000,
default investment alternative generally contributions, and the right of the plus postage at $0.41 per mailing, which
at least 30 days prior to the date of plan participant to elect not to have such equals $15,899,000. Total annual costs
eligibility (or on or before the date of contributions made on the participant’s for the notice in the first year are
plan eligibility if the participant is behalf (or to elect to have such therefore estimated at $19,776,000.
permitted to make a withdrawal under contributions made at a different In years subsequent to the first year of
Code section 414(w)) and thereafter percentage); (2) the right of participants applicability, the Department estimates
annually at least 30 days before the and beneficiaries to direct the that notices will be prepared only by
beginning of each plan year; and (2) the investment of assets in their accounts; newly established participant directed
plan must provide certain materials that (3) the qualified default investment individual account pension plans and
it receives relating to participants’ and alternative, including its investment plans that change their choice of
beneficiaries’ investments in a qualified objectives, risk and return qualified default investment alternative.
default investment alternative. The characteristics (if applicable), and fees For purposes of burden analysis, the
‘‘pass-through’’ materials that must be and expenses; (4) the participants’ and Department has assumed that one-third
provided are those specified in the beneficiaries’ right to direct the (1/3) of all participant directed
Department’s regulation under ERISA investment of the assets to any other individual account plans (141,000
section 404(c) at 29 CFR 2550.404c– investment alternative offered under the plans) will prepare and distribute new
1(b)(2)(i)(B)(1)(viii) and (ix) and 29 CFR plan, including a description of any or updated notices to all participants
404c–1(b)(2)(i)(B)(2). The information applicable restrictions, fees or expenses and beneficiaries, requiring 24 minutes
collection provisions of this regulation in connection with such a transfer; and of legal professional time per notice.
are intended to ensure that participants (5) where participants and beneficiaries The preparation of these notices in each
and beneficiaries who are provided the can obtain information about the other subsequent year is estimated to require
opportunity to direct the investment of investment alternatives available under 57,000 hours. However, the number of
their account balances, but who do not the plan. participants receiving notices stays the
do so, are adequately informed about The Department estimates that same. As in the calculation for the
the plan’s provisions for default 424,00013 participant directed initial year, distribution to the 62
investment and about investments made individual account pension plans will percent of participants and beneficiaries
on their behalf under the plan’s default prepare and distribute notices to who will receive the notice by mail
provisions. 62,544,000 eligible workers, participants (38,777,000 individuals) will require
The estimates of respondents and and beneficiaries in the first year in 310,000 hours and $19,776,000
responses on which the Department’s which this regulation becomes additional materials and postage cost.
burden analysis is based are derived applicable. Preparation of the notice in (As for the first year, the Department has
primarily from the Form 5500 Series the first year is estimated to require one- assumed that electronic distribution of
filings for the 2004 plan year, which are half hour of legal professional time for the notice in subsequent years will not
the most recent reliable data available to each plan, for a total aggregate estimate add any significant additional
the Department.12 The burden for the of 212,000 burden hours. For the 62 paperwork burden.)
preparation and distribution of the percent of participants and beneficiaries Based on those assumptions, the
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disclosures is treated as an hour burden. who will receive the notice by mail Department estimates that the total
Additional cost burden derives solely (38,777,000 individuals), distribution of
14 EBSA estimates based on the Bureau of Labor
12 The Department does not anticipate an increase 13 Allnumbers used in this paperwork burden Statistics, National Occupational Employment
in the number of Form 5500 filings merely due to estimate have been rounded to the nearest Survey (May 2005) and the Bureau of Labor
the changes to the Form 5500 for 2007 to 2009. thousand. Statistics, Employment Cost Index (Sept. 2006).

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Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations 60469

burden hours for notices under this clerical time per distribution, for an Regulatory Enforcement Fairness Act of
regulation in each year after the first annual hour burden estimate of 107,000 1996 (5 U.S.C. 801 et seq.) and therefore
year of applicability will fall to 367,000 hours of clerical time. The equivalent has been transmitted to the Congress
hours. The equivalent cost of such an cost of this hour burden is estimated at and the Comptroller General for review.
hour burden (using the same $2,679,000. Additional cost burden for
assumptions as for the first year) is Unfunded Mandates Reform Act
the pass-through of material is estimated
$13,749,000. The total cost burden to include paper cost (40 pages of Pursuant to the provisions of the
estimated for subsequent years for the material yearly per participant or Unfunded Mandates Reform Act of 1995
notice will remain at $19,776,000. beneficiary) and postage ($.58 per (Pub. L. 104–4), this rule does not
Pass-through Material—29 CFR mailing) at $4,629,000 annually for 4 include any Federal mandate that may
2550.404c–5(c)(4). Under the regulation, distributions per participant or result in expenditures by State, local, or
the fiduciary shall qualify for the relief beneficiary with a default investment. tribal governments, or the private sector,
described in paragraph (b)(1) of the final Plans also need to maintain that may impose an annual burden of
regulation if a fiduciary provides information in order to provide certain $100 million or more, adjusted for
material to participants and information on request. This inflation.
beneficiaries as set forth in paragraphs preparation is estimated to require one
(b)(2)(i)(B)(1)(viii) and (ix), and Economic Impacts
hour of clerical time for each of the
paragraph (b)(2)(i)(B)(2) of the 404(c) 162,000 newly affected plans, for a total By 2034 the regulation (together with
regulation. In addition, plans must be of 162,000 burden hours. The the automatic enrollment provisions of
prepared to provide certain information Department assumes that, on average, the Pension Protection Act) is predicted
on request and must therefore maintain plans will make one disclosure upon to increase aggregate account balances
such information in updated form in request every year and that it takes one- by between 2.8 percent and 5.4 percent,
order to comply. The paperwork burden half minute of clerical time per or by $70 billion to $134 billion.
for the pass-through disclosure disclosure to send out the materials,
requirements calculated here does not Investment Mix
requiring about 4,000 hours of clerical
include pass-through disclosure burden time. In total, the preparation and A large but declining proportion 17 of
for section 404(c) plans, as these sending of information upon request 401(k) plans currently direct default
disclosures for section 404(c) plans were requires 166,000 burden hours with investments exclusively to fixed income
considered in the renewal to OMB equivalent costs of $4,145,000. capital preservation vehicles such as
Control No. 1210–0090.15 Additional cost burden for the material money market or stable value funds. By
The regulation imposes this is estimated to include paper cost (20 reducing risks attendant to fiduciary
requirement only with respect to pages of material yearly per information responsibility and liability, this
participants and beneficiaries who have request) and postage ($0.89 per mailing) regulation is expected to encourage
an investment in a qualified default at $306,000.16 more plans to direct default investments
investment alternative that was made by In total, the Department estimates that to vehicles that include a mix of equity
default. In conformity with the providing pass-through disclosures to and fixed income instruments and
assumptions underlying the other non-directing participants and thereby provide the potential for capital
economic analyses in this preamble, the beneficiaries under this regulation will appreciation as well as capital
Department has assumed that, at any require annual burden hours of preservation.
given time, 5.3 percent of participants approximately 273,000 hours (with As a result of this regulation, it is
and beneficiaries in participant directed estimated that in 2034, 401(k) plan
equivalent costs of $6,824,000) and total
individual account pension plans investments in qualified default
costs of $4,935,000.
(3,794,000 individuals) will have These paperwork burden estimates investment alternative-type vehicles
default investments. Of these, 1,072,000 are summarized as follows: (expressed in 2006 dollars) will increase
individuals are invested in participant Type of Review: New collection. by between $65 billion and $116 billion.
directed individual account pension Agency: Employee Benefits Security The portion of this estimated increase
plans that are not section 404(c) plans. Administration, Department of Labor. that is attributable directly to the
For purposes of this burden analysis, Title: Default Investment Alternatives redirection of default investments is
the Department has also assumed that under Participant Directed Individual between $18 billion and $24 billion.
plans will receive materials that must be Account Plans. The rest is attributable to increased
passed through the participants and OMB Number: 1210–AB10. contributions, which are discussed
beneficiaries on a quarterly basis. This Affected Public: Business or other for- below.18
assumption takes into account that profit; not-for-profit institutions.
many, although not all, plans will Respondents: 424,000. 17 Various surveys estimate the proportion at 40
receive quarterly financial statements Responses: 66,991,000. percent (Profit Sharing/401(k) Council of America,
and prospectuses, and that plans will Frequency of Response: Annually; 49th Annual Survey of Profit Sharing and 401(k)
also receive other pass-through Plans (2006) at 39), 41 percent (Deloitte Consulting,
occasionally. Annual 401(k) Benchmarking Survey, 2005/2006
materials on occasion. These two factors Estimated Total Annual Burden Edition (2006) at 7), and 21 percent (Vanguard, How
result in an estimate of 4,286,000 Hours: 795,000 (first year). America Saves 2006 (Sept. 2006) at 26 ). Surveys
responses (distributions of pass-through Estimated Total Annual Burden Cost: also reveal a trend away from capital preservation
materials) per year. Duplication and defaults toward investment vehicles like those
$24,711,000 (first year). included as qualified default investment
packaging of the pass-through material alternatives for future contributions under this
is estimated to require 1.5 minutes of Congressional Review Act regulation.
This notice of final rulemaking is 18 These estimates pertain only to default
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15 See 71 FR 64564 (Nov. 2, 2006). The paperwork investments made on behalf of defaulted
subject to the Congressional Review Act
burden as calculated for section 404(c) plans participants under automatic enrollment programs.
assumes that plans send pass-through disclosures to provisions of the Small Business The default investment regulation is not so limited.
all participants and beneficiaries in section 404(c) Therefore, these estimates are likely to omit some
plans, not only to the ones that are actively 16 The burden arising from these disclosure of the redirection of default investments that will
directing their investments. requirements will be the same in subsequent years. occur under the regulation.

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60470 Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations

Investment Performance The Department expects and intends programs increase many such
Historically, over long time horizons, that this regulation, together with the employees’ contribution rates from zero
diversified portfolios that include automatic enrollment provisions of the to the default rate, often supplemented
equities have tended to deliver higher Pension Protection Act, will promote by some employer matching
returns than those consisting only of wider implementation of automatic contributions. These additional
lower risk debt instruments.19 It enrollment programs. The regulation contributions tend to come early in the
therefore is widely believed to be will help alleviate fiduciary concerns employees’ careers and therefore can
advantageous to invest retirement that might otherwise discourage add disproportionately to retirement
savings in diversified portfolios that implementation of automatic enrollment income as investment returns
include equity.20 programs. It will also make it possible accumulate over a long period.
As noted above, this regulation is for plan sponsors to take advantage of However, there is also evidence that
expected to encourage the redirection of Pension Protection Act provisions that automatic enrollment programs can
default investments from stand-alone, waive certain Internal Revenue Code have the effect of lowering contribution
low-risk capital preservation bars against discrimination in favor of rates for some employees below the
instruments to diversified portfolios that highly compensated employees and that level that they would have elected
include equities. This in turn is preempt state laws unfriendly to absent automatic enrollment. Current
expected to improve investment results automatic enrollment programs. As a surveys indicate that the default
for a large majority of affected result of the regulation, in the near
contribution rates are typically set at 3
individuals, increasing aggregate future automatic enrollment programs
percent of salary.26 Some employees
account balances by an estimated $5 may cover 50 percent to 65 percent of
who might otherwise have actively
billion to $7 billion in 2034. 401(k)-eligible workers rather than 35
enrolled in a plan (either at first
In deriving these estimates, in percent.24
eligibility or later) and elected a higher
response to public and peer reviewer Participation contribution rate may instead permit
comments, the Department refined its themselves to be enrolled at the default
assumptions regarding investment Analyses of automatic enrollment
programs demonstrate that such rate. 27
performance relative to those relied on
in its estimates of the proposed programs increase participation. The Plans implementing automatic
regulation’s effects. This is explained increase is most pronounced among enrollment programs may increase their
further below under headings ‘‘Basis of employees whose participation rates participation rates on average from
Estimates’’ and ‘‘Peer Review.’’ otherwise tend to be lowest, namely approximately 70 percent to perhaps 90
lower-paid, younger and shorter-tenure percent. Consequently, the Department
Automatic Enrollment employees.25 Automatic enrollment estimates that this regulation will
Automatic enrollment programs are increase overall 401(k) participation
growing in popularity. These programs 38). Another found that automatic enrollment rates from 73 percent to between 77
spread from 15 percent of plans in 2003 to 23
covered only about 5 percent of workers percent in 2005 with an additional 29 percent percent and 80 percent.28 Aggregate
eligible for 401(k) plans in 2002,21 but considering it for the future (Deloitte Consulting, annual contributions in 2034 are
the number may now be as high as 24 2003 Annual 401(k) Benchmarking Survey (2004) at expected to grow on net by between
percent 22 and could reach 35 percent in 25 and Deloitte Consulting, Annual 401(k)
Benchmarking Survey 2005/2006 Edition (2006) at
$5.7 billion and $11.3 billion (expressed
the near future, absent this final rule.23 7). According to yet another, it grew from 14 in 2006 dollars). These and related
percent in 2003 to 24 percent in 2006, with 23 estimates are summarized in Table 1
19 See, e.g., Ibbotson Associates, Stocks, Bonds, percent of the remainder ‘‘very likely’’ and 25 below.
Bills and Inflation, 2006 Yearbook (2006). percent ‘‘somewhat likely’’ to begin automatic
20 See, e.g., U.S. Securities and Exchange enrollment within the year (Hewitt Associates LLC, Defaulted participants will number between 4.2
Commission, Beginners’ Guide to Asset Allocation, Survey Findings: Trends and Experiences in 401(k) million and 5.4 million. In contrast to active
Diversification, and Rebalancing (May 2007), at Plans, 2005 (2005) at 13, and Hewitt Associates participants, their ages will average between 34.0
http://www.sec.gov/investor/pubs/ LLC, Survey Findings: Hot Topics in Retirement, and 34.1 years, and their pay will average between
assetallocation.htm; and Stephen P. Utkus, 2006 (2006) at 3). 109 percent and 108 percent of average pay in
Selecting a Default Fund for a Defined Contribution 24 The Department believes these figures
Social Security covered employment.
Plan, Vanguard Center for Retirement Research, reasonably illustrate a range of possible outcomes. 26 It is possible that in the future more plans will
Volume 14 (June 2005) at 6. The Department is confident that the regulation will
21 U.S. Bureau of Labor Statistics, National provide for higher or escalating default contribution
increase the incidence of automatic enrollment.
Compensation Survey: Employee Benefits in Private rates. The Pension Protection Act waives certain
According to one survey, among plans that
Industry in the United States, 2002–2003, Bulletin bars against discrimination in favor of highly
currently are somewhat or very unlikely to offer
2573 (Jan. 2005). compensated employees for 401(k) plans with
automatic enrollment in the future, 36 percent cite
22 EBSA estimate. The proportion of plans in the need for the Department to identify appropriate automatic enrollment that satisfy certain
various size classes that provide automatic default investments, 33 percent cite the need for conditions. One such condition generally provides
enrollment was taken from Profit Sharing/401(k) preemption of unfriendly state laws, and 30 percent that a participant’s default contribution rate must
Council of America, 49th Annual Survey of Profit cite the need for relief from nondiscrimination escalate to at least 6 percent not later than his
Sharing and 401(k) Plans (2006) at 38. EBSA took requirements (Hewitt Associates LLC, Survey fourth year of participation.
27 See, e.g., James J. Choi, David Laibson, Brigette
a weighted average of these proportions, reflecting Findings: Hot Topics in Retirement, 2006 (2006) at
the distribution of 401(k) participants across the 5). C. Madrian and Andrew Metrick, Saving for
plan size classes, as estimated by EBSA based on 25 According to the Department’s low- and high- Retirement on the Path of Least Resistance (updated
annual reports filed by plans with EBSA. impact estimates (respectively), under the draft analysis, July 19, 2004) at 56–57, Figures 2A–
23 The incidence of automatic enrollment appears regulation, active (non-defaulted) participants will 2D; and James J. Choi, David Laibson and Brigitte
to be growing. According to one series of surveys number between 32 million and 33 million in 2034. C. Madrian, Plan Design and 401(k) Savings
automatic enrollment spread from 8.4 percent of Their ages will average between 44.2 and 44.1 Outcomes (written for the National Tax Journal
plans in 2003 to 16.9 percent in 2005 (Profit years, and their pay will average between 160 Forum on Pensions, June 2004) at 11.
Sharing/401(k) Council of America, 49th Annual percent and 158 percent of average earnings 28 These numbers are rounded to the nearest

Survey of Profit Sharing and 401(k) Plans (2006) at calculated by the Social Security Administration. percentage point.
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Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations 60471

Preservation than preserve them in tax-deferred and their account balances with
New employee contributions retirement accounts. It is therefore also estimated net increases in preserved
attributable to automatic enrollment possible that, by encouraging automatic accounts. The proportion of net new job
will be attributable disproportionately enrollment, the proportion (but not the leavers with account balances that
to younger, lower-paid, shorter-tenure total amount) of 401(k) accounts preserve their accounts is estimated to
workers. preserved for retirement could decrease. be approximately 50 percent, while the
Some such workers, who absent The Department estimates that these proportion of net new job-leaver
automatic enrollment would have effects will nearly offset one another. accounts that is preserved is estimated
delayed participation, will begin Workers will leave an estimated 4.3 to be 83 percent to 77 percent.
contributing earlier and thereby million 401(k)-eligible jobs in 2033. As Retirement Income
accumulate larger balances. The a result of this regulation (together with
investment of these contributions in the automatic enrollment provisions of Low-impact estimates suggest that the
qualified default investment the Pension Protection Act), the number regulation will increase pension income
alternatives, rather than in capital leaving with positive account balances by $1.3 billion per year on aggregate for
preservation vehicles, will further will grow from 2.30 million to between 1.6 million individuals age 65 and older
enlarge account balances on average. 2.45 million and 2.61 million. The in 2034 (expressed in 2006 dollars), but
Larger balances are more likely to be proportion of those leaving with decrease it by $0.3 billion per year for
preserved for retirement. Therefore it is positive accounts that preserve their 0.6 million. High-impact estimates
possible that the regulation will increase accounts for retirement will fall slightly suggest that average annual pension
the proportion of 401(k) accounts that from 61.0 percent to between 60.4 income will increase by $2.5 billion for
are preserved.29 percent and 59.7 percent, and the 2.5 million and fall by $0.6 million for
On the other hand, other such proportion of the account balances 0.9 million. These estimates are
workers may accumulate only small preserved will fall from 85.9 percent to summarized in Table 2 below. Impacts
accounts before leaving their jobs. between 85.8 percent and 85.4 percent. on retirement income will be larger
Historically, younger, lower-paid The regulation’s marginal effect on the farther in the future, reflecting the fact
workers with small accounts have preservation of account balances can be that automatic enrollment and default
tended disproportionately to cash out illustrated by comparing estimated net investing disproportionately affect
their accounts upon job change rather increases in account-holding job leavers young workers.
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29 There will be other, smaller effects. Because for many workers, it may decrease them for a few. All of these effects in turn affect account balances
larger accounts are more likely to be preserved, any Likewise, while movement from capital and preservation rates. The Department’s estimates
effect of the regulation on account balances may preservation investments to qualified default account for all of these effects.
also affect the preservation rate. As noted below, investment alternatives will boost investment
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while automatic enrollment increases contributions returns for many, it may reduce returns for a few.

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60472 Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations

The regulation is estimated to have for example, those in the lowest lifetime The amount they gain will exceed the
distributional consequences, narrowing earnings quartile would receive just 5 amount lost by a factor of five or six (see
somewhat the distribution of pension percent of pension income absent the Table 3 below).
income across earnings groups. Among regulation, but they will receive 9
all individuals age 65 or older in 2034, percent of net gains from the regulation.

Administrative Cost range of readily available and participant directed individual account
competitively priced investment plans operating in accordance with
Plan sponsors may incur some products and services. It is likely that a ERISA section 404(c). The Department’s
administrative costs in order to meet the large majority of participant directed estimates of these costs are presented
conditions of the regulation. The plans already offer one or more above under the heading Paperwork
Department generally expects such costs investment options that would fall Reduction Act.
to be low. Any changes to plan within the safe harbor. Costs attendant The regulation may indirectly prompt
provisions or procedures necessary to to the regulation’s notice provisions can some plan sponsors to shoulder
satisfy the regulation’s conditions are be mitigated by furnishing the notices additional benefit costs. For example, it
likely to be no more extensive than together with other plan disclosures is expected that the regulation, by
ER24OC07.007</GPH>
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those associated with changes that plans and/or through the use of electronic promoting the adoption of automatic
implement from time to time in the media. The requirement to pass through enrollment programs, will have the
normal course of business. The certain investment materials to indirect effect of increasing aggregate
boundaries of the regulation are participants and beneficiaries is the employer matching contributions in
ER24OC07.006</GPH>

sufficiently broad to encompass a wide same as that already applicable to 2034 by between $1.7 billion and $3.4

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Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations 60473

billion (expressed in 2006 dollars). impact estimates presented here, percent) or a qualified default
Adverse consequences are not expected PENSIM was parameterized and applied investment alternative (50 percent); in
because the adoption of automatic as follows. the low- and high-impact estimates of
enrollment programs and the provision First, automatic enrollment was the regulation’s effects, all entirely to a
of matching contributions generally are assigned randomly to 401(k) plan qualified default investment
at the discretion of the plan sponsor. eligible employees to achieve alternative.36 Active contributors were
Reliance on the regulation and, incidences of 35 percent (baseline), 50 assumed to invest their contributions
therefore, compliance with its percent (low impact) and 65 percent. either in a qualified default investment
provisions are also voluntary on the part Next, participation and default
alternative (75 percent), a U.S. Treasury
of the plan sponsor. participation rates were adjusted to
bond fund (15 percent), or an even mix
reflect available research findings on
Cost-Benefit Assessment these rates at various tenures in the of the two (10 percent). Some employer
The Department believes that, by presence and absence of automatic contributions were assumed to be
increasing average retirement income, enrollment programs.32 The default invested in company stock. Price
the regulation will improve overall contribution rate was assumed to be 3 inflation and real returns were
social welfare. There is mounting percent, which surveys indicate is the estimated stochastically. Mean price
concern that many Americans have been most common rate currently in use.33 inflation was assumed to be 2.8 percent,
preparing inadequately for retirement. Defaulted participants were assumed and mean real returns to money market
Most workers are on track to have more to invest their contributions as funds, Treasury bond funds, and equity
retirement wealth than most current follows:34 in the baseline estimates, funds, respectively, were assumed to be
retirees, and recent declines in reported either in a money market fund 35 (50 1.3 percent, 2.9 percent, and 4.9
savings rates may not be cause for alarm percent. Deducted respectively from
in light of offsetting capital gains. generations contained in U.S. Government
Nonetheless, savings may fall short Accountability Office, Retirement Income:
Intergenerational Comparisons of Wealth and default investment alternatives. However, the
relative to workers’ retirement income Future Income, GAO–03–429 (Apr. 2003), and Department believes that this possibility should be
expectations, especially in light of comparisons of pension income produced by assessed with caution. Economic theory suggests
increasing health costs and stresses on traditional defined benefit pension plans and cash that if financial markets are efficient, financial
balance pension plans contained in U.S. instruments with similar risk characteristics will
defined benefit pension plans and the provide similar returns. It therefore seems likely
Government Accountability Office, Pension Plans:
Social Security program.30 Because of Information on Cash Balance Pension Plans, GAO– that there are important differences between money
these real risks, the Department believes 06–42 (Oct. 2006). market and stable value funds beyond any
that policies that increase retirement 32 These findings were drawn from James J. Choi, difference in average returns. The Department
savings can increase welfare by helping David Laibson and Brigitte C. Madrian, Plan Design understands that stable value products may come
and 401(k) Savings Outcomes (written for the with a variety of features that may sometimes erode
workers secure retirement living actual returns in response, for example, to certain
National Tax Journal Forum on Pensions, June
standards that meet their expectations. 2004). The overall participation rate under plan sponsor actions that have the effect of shifting
The regulation may also have automatic enrollment was adjusted upward to 90 participant account allocations away from such
macroeconomic consequences, which percent. products. Such stable value product features may
are likely to be small but positive. An 33 See e.g., Vanguard, How America Saves 2006 sometimes dissuade plans or participants from
(Sept. 2006 ) at 26, Deloitte Consulting, Annual making investment changes that they otherwise
increase in retirement savings is likely 401(k) Benchmarking Survey, 2005/2006 Edition would, thereby imposing opportunity costs. The
to promote investment and long-term (2006) at 7; Hewitt Associates LLC, Survey Department also understands that stable value
economic productivity and growth. The Findings: Trends and Experiences in 401(k) Plans, products may expose investors to the credit risk of
increase in retirement savings will be 2005 (2005) at 16; and Profit Sharing/401(k) Council the fund vendor in ways that money market funds
of America, 49th Annual Survey of Profit Sharing do not. This credit risk may be sensitive to changes
very small relative to overall market and 401(k) Plans (2006) at 38. in interest rates. In light of these considerations the
capitalization. Therefore 34 These estimates assume complete
Department continues to believe that, for purposes
macroeconomic benefits are likely to be correspondence between automatic enrollment in of assessing the impact of this regulation, money
small. Based on the foregoing analysis 401(k) plans and default investing. Participants market funds reasonably represent available near
contributing by automatic enrollment are assumed risk-free investment instruments.
and estimates, the Department believes to invest in the plan’s default investment, while
that the benefits of this regulation will Nonetheless, in an effort to fully consider the
those who actively elect to contribute or who are potential implications of representations made in
justify its costs. in plans without elective contributions are assumed
the comments, the Department tested the sensitivity
to actively invest. In practice neither of these
Basis of Estimates of its low-impact estimates to representations
assumptions will hold all of the time. Some
regarding the investment performance of stable
participants who are automatically enrolled may
The Department estimated the effect nonetheless actively direct their investments. Some value products and assuming stable value products
of the regulation on 401(k) plan active contributors or participants in plans without would be a substantial part of qualified default
participation, contributions, account elective contributions may choose to invest in the investments in the future. The sensitivity test puts
plan’s default investment ‘‘ and this regulation may aside the above considerations, and replaces money
balances, investment mix, and early market fund performance with stylized stable value
affect the incidence of such default investing. The
cash outs, and its effect on pension Department did not attempt to estimate the extent performance that is 200 basis points higher and
incomes in retirement, using a or effect of default investing not associated with equally variable. Under this test scenario, the
microsimulation model of lifetime automatic enrollment. regulation would increase aggregate account
35 Some comments on the proposed regulation balances in 2034 by $68 billion (for comparison the
pension accumulations known as Department’s primary estimate is $70 billion), of
suggested that money market funds may not
PENSIM.31 To produce the low and high accurately represent the range of capital which $3 billion (compared with $5 billon) is
preservation instruments that might serve as default attributable to the shift of default investments from
30 See generally U.S. Council of Economic
investments. In particular, according to some near risk-free instruments to qualified default
Advisors, Economic Report of the President, comments, stable value funds, relative to money investment alternatives. Among individuals age 65
February 2006 (2006). market funds, offer higher returns with similarly and older in 2034, the number gaining retirement
31 PENSIM was developed for the Department by low risk. The Department’s estimates of the effects income would exceed the number losing by a ratio
the Policy Simulation Group as a tool for examining of the proposed regulation did not reflect this of 2.2 to 1 (compared with 2.7 to 1) and the
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the macroeconomic and distributional implications possibility. The Department agrees that stable value aggregate amount gained would exceed that lost by
of private pension trends and policies. Detailed funds, if they perform as projected by their a ratio of 3.8 to 1 (compared with 4.1 to 1).
information on PENSIM is available at http:// proponents, would outperform money market funds 36 The qualified default investment alternative is

www.polsim.com/PENSIM.html. Examples of and thereby narrow (but not eliminate) the gains in represented by a portfolio resembling a life cycle
PENSIM applications include comparisons of average account balances and retirement income fund, with 100 percent minus the participant’s age
retirement income prospects for different estimated to result from the shift toward qualified in equity and the remainder in U.S. Treasury bonds.

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60474 Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations

these returns were assumed fees of 45, than estimated, especially in the near financial literacy or a taste for saving,
45 and 75 basis points. term. What default contribution rates which could augment the regulation’s
To estimate the effects of the will prevail? 38 The Department’s effect. Alternatively, default participants
regulation, the Department compared primary estimates assume a uniform 3 might offset their default savings by
the baseline estimates to the low- and percent default contribution rate. Higher reducing other savings or taking on
high-impact estimates. contribution rates would increase the debt. In particular, they may be less
For a more detailed explanation of the size of default participants’ likely than active participants to
basis of these estimates, see Martin R. contributions, but might also discourage preserve their accounts for retirement
Holmer, ‘‘PENSIM Analysis of Impact of some from participating. To illustrate when leaving a job.39 To assess the
Final Regulation on Defined— these potential effects the Department implications of this possibility the
Contribution Default Investments’’ produced two alternative low-impact Department produced alternative
(Policy Simulation Group, February 12, estimates substituting a 4.5-percent baseline and low-impact estimates,
2007). For additional estimation results, default contribution rate. One estimate which assume that participants who
see Holmer, ‘‘EBSA Automatic assumed that the impact of automatic leave their jobs while in default status
Enrollment RIA: Final Estimates’’ enrollment on participation was never preserve their accounts. (Default
(Policy Simulation Group, February 7, undiminished by the higher default participants who become active
2007). Both are available as part of the contribution rate, the other that it was participants before leaving their jobs are
public docket associated with this diminished by half. These were assumed to preserve their accounts at
regulation. Additional information on compared with the primary baseline the same rate as other active
the Department’s use of PENSIM in estimate. Where the Department’s participants.) The alternative estimates
connection with this regulation is primary low-impact estimate placed the represent a worst case outer bound. As
provided below, under the heading increase in aggregate account balances noted above, comparing its primary
‘‘Peer Review.’’ in 2034 at $70 billion, the first baseline and low-impact estimates, the
Sensitivity Tests alternative placed it at $123 billion, the Department found that in 2033, 50
second at $40 billion. percent of net new job leavers with
As noted above, the Department Additional variables concern what account balances preserve 83 percent of
anticipates that this regulation (together other changes plan sponsors might make all net new job-leaver account balances.
with the automatic enrollment to their plans. Plan sponsors Comparing the respective alternative
provisions of the Pension Protection implementing qualified default estimates, the Department found that
Act) will have two major, beneficial investment alternatives may make other the corresponding figures are 25 percent
economic consequences. Default changes to investment options or and 72 percent. Based on the
investments will be directed toward undertake new efforts to inform or Department’s primary baseline and low-
higher-return instruments boosting influence participants’ investment impact estimates, the regulation is
average account performance, and decisions. Plan sponsors that maintain expected to reduce the proportion of
automatic enrollment provisions will or begin automatic enrollment programs account holding job leavers that
become more common boosting may change other provisions of their preserve their accounts from 61.0
participation. In reaching its conclusion plans, such as matching contribution percent to 60.4 percent and the
that the regulation will increase formulas, eligibility or vesting proportion of their accounts that is
retirement income and improve social provisions, loan programs, or preserved from 85.9 percent to 85.8
welfare, the Department took into distribution policies. Changes such as percent. Based on the alternative
account the potential sensitivity of its these could either augment or offset the estimates, the corresponding reductions
estimates to important economic and effects of this regulation. are from 56.9 percent to 54.7 percent
behavioral variables. The investment advice and automatic and from 85.3 percent to 84.9 percent.
One variable involves the future enrollment provisions of the Pension Both the primary and alternative
incidence of automatic enrollment Protection Act will promote activities estimates strongly suggest that most new
programs. As noted above the and plan designs that are likely to retirement saving resulting from this
Department assessed this variable by augment the regulation’s positive effects regulation (together with the automatic
comparing both low- and high-impact on retirement savings. Those provisions enrollment provisions of the Pension
estimates with a common baseline. This will help make investment advice
variable affects the magnitude but not available to more participants and will 39 A number of factors may diminish this

the net positive direction of the promote automatic enrollment programs


possibility. First, participants who contribute and
regulation’s estimated effects. invest by default may also tend to handle account
with escalating default contribution distribution opportunities by default. Laws
The specific characteristics of future
rates, generous employer matching governing plans’ default distribution provisions
automatic enrollment programs provide for the preservation of all but the smallest
contributions and short vesting periods.
constitute additional variables. For Default participants may make other
accounts. Absent participant direction to the
example, will new automatic enrollment contrary, accounts of $5,000 or more must remain
changes in their savings behavior. in the plan, and smaller accounts of $1,000 or more
programs cover only new employees, or Default participation might foster must either remain in the plan or be rolled directly
existing non-participating employees as into an IRA. Second, some 401(k) plan sponsors
well? 37 The Department’s estimates reserve eligibility and automatic enrollment for
38 According to one survey, 14 percent of plans
employees who complete a specified period of
reflect automatic enrollment of new with automatic enrollment provided for escalating service, such as one year. It is possible that
employees only. If plan sponsors default contributions in 2005, up from 7 percent in sponsors with higher-turnover work forces and/or
automatically enroll existing employees 2004 (Profit Sharing/401(k) Council of America, those offering automatic enrollment are or will be
49th Annual Survey of Profit Sharing and 401(k) more likely to provide for such waiting periods for
the regulation’s effects will be larger Plans (2006) at 39). According to another, among eligibility, perhaps in order to avoid the expense of
the 24 percent of surveyed employers offering
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churning very small accounts. Third, it is possible


37 According to one survey, 24 percent of automatic enrollment in 2006, 17 percent planned that the small fraction of employees who decline
employers with automatic enrollment programs to introduce escalating default contributions and 6 automatic enrollment (perhaps 10 percent) may be
extended initial automatic enrollment beyond new percent intended to increase the default largely the same ones who would decline to
hires to include the entire eligible population contribution rate; none planned to lower it (Hewitt preserve their accounts. In that case, participants
(Deloitte Consulting, Annual 401(k) Benchmarking Associates LLC, Survey Findings: Hot Topics in added by automatic enrollment might be more
Survey, 2005/2006 Edition (2006) at 8). Retirement, 2006 (2006) at 4). likely to preserve them.

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Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations 60475

Protection Act) will be preserved for Because the regulation’s effects will as reported above, suggest that balances
retirement. While one effect of the be cumulative and gradual, they will be attributable to new default contributions
regulation will be to create many very fully realized only in the very long run, will be nearly as likely as other balances
small and short-lived accounts that generally when workers beginning to be preserved. It is possible, however,
participants never actively manage and careers today have long since retired. that default participants will be less
may be unlikely to preserve, the This long time horizon introduces likely to preserve their accounts than
Department expects that the larger effect additional, longer-term variables, but active participants with similar-sized
will be to spur new, early default most of these implicate less the accounts. The Department therefore
contributions by participants who later regulation’s effects than the baseline. prepared alternative estimates that
actively manage their accounts and are For example, future investment results account for this possibility. The results
likely to preserve them. may vary.41 Other variables, which the appear under the heading ‘‘Sensitivity
The regulation may encourage active Department did not attempt to quantify, Testing’’ above.
(in addition to default) investments in include future career patterns and The review questioned whether
qualified default investment compensation levels and mixes. lower-paid workers might be more risk
alternatives—a phenomenon sometimes averse and might therefore be
Peer Review susceptible to welfare losses if their
referred to as an endorsement effect. If
so, the impact of the regulation on asset OMB’s ‘‘Final Information Quality default investments are redirected from
allocation, and the attendant net Bulletin for Peer Review’’ (the Bulletin) capital preservation vehicles to
positive effect on account balances and establishes that important scientific qualified default investment
retirement income, will be amplified.40 information shall be peer reviewed by alternatives. In response the Department
qualified specialists before it is more closely examined the regulation’s
40 There is some evidence to suggest that qualified disseminated by the Federal impact on lower-paid workers, finding
default investment alternatives, once established as government. Collectively, the PENSIM disproportionate gains in pension
plan defaults, may claim a disproportionate share model, the data and methods underlying income, as described above. These gains
of active investments as well. There is some
evidence that participants may gravitate toward
it, the surveys and literature used to may help offset any welfare losses due
investment options that appear to be endorsed by parameterize it, and the Department’s to sub-optimal risk exposure. In
their employers, such as by responding to interpretation of these and application addition, the Department believes the
employers’ directing of matching contributions into of them to estimate the effects of this required notice to participants regarding
company stock by investing more participant-
directed funds in company stock as well (see, e.g.,
regulation and the proposed regulation default investments will facilitate the
Jeffrey R. Brown, Nellie Liang and Scott constitute a ‘‘highly influential ability of workers to easily choose to
Weisbenner, Individual Account Investment scientific assessment’’ under the actively change their risk exposure if the
Options and Portfolio Choice: Behavioral Lessons Bulletin. Pursuant to the Bulletin, the qualified default investment alternatives
from 401(k) Plans, (Sept. 2006) at 18). This paper Department therefore subjected this
summarizes some prior evidence and provides
do not meet their risk preferences.
some new evidence of this effect, but also raises the assessment to peer review. All materials The reviews questioned the
possibility that this effect may be attributable associated with that review, including Department’s assumptions regarding
instead to other factors. Participants have been the Department’s full response to the investment returns, saying they
found to exhibit inertia in their investment choices, peer review, are available to the public exaggerated the equity premium,
being slow to rebalance or to respond to changes
in the investment options offered to them (see, e.g., as part of the docket associated with this neglected fees, and neglected variation
Olivia S. Mitchell, Gary R. Mottola, Stephen P. regulation.42 in inflation and returns to debt
Utkus, and Takeshi Yamaguchi, The Inattentive The analysis presented here has been instruments. In response the
Participant: Portfolio Trading Behavior in 401(k) refined in several ways in response to Department has moderated its
Plans, Pension Research Council Working Paper
2006–5 (2006) at 16, which finds a lack of
the peer review. assumption regarding the equity
rebalancing; see also Jeffrey R. Brown and Scott The review questioned whether premium,44 accounted for fees, and
Weisbenner, Individual Account Investment default participants would cash out incorporated stochastic variation in
Options and Portfolio Choice: Behavioral Lessons their accounts rather than preserve them inflation and debt returns.
from 401(k) Plans (Dec. 2004) at 23, 37, Tables 8a, for retirement. The Department’s
8b, which finds inertia in participant response to
primary estimates assume that default Alternatives Considered
the addition of new funds). Most on point, some
early experience with automatic enrollment accounts will be cashed out or Capital Preservation Products
programs suggests that a previously available preserved at the same rates as other
investment alternative, once established as a default In defining the types of investment
similarly-sized accounts.43 The results,
in an automatic enrollment program, may attract an products, portfolios or services that may
increased proportion of actively directed be used as a long-term qualified default
participant accounts (see, e.g, John Beshears, James alternatives (20 percent endorsement effect).
Compared with the primary estimates, the investment alternative, the Department,
J. Choi, David Laibson and Brigitte C. Madrian, The
Importance of Default Options for Retirement sensitivity test indicates that regulation will after careful consideration of the many
Savings Outcomes: Evidence from the United increase aggregate account balances in 2034, comments supporting capital
States, National Bureau of Economic Research expressed in 2006 dollars, by $87 billion (rather preservation products, and assessment
Working Paper 12009 (Jan. 2006), which provides than $70 billion), of which $26 billion (rather than
$5 billion) will be directly attributable to the of related economic impacts,
some evidence of such an endorsement effect; see
also Fidelity Investments, Building Futures Volume allocation of more assets to qualified default determined not to include capital
VII: How Workplace Savings are Shaping the Future investment alternatives (the rest will be attributable
of Retirement, (2006) at 124–138, for data on the to growth in automatic enrollment). very small accounts. The Department has since
41 The Department’s estimates illustrate some of
concentration of participant accounts in default refined its estimation of cash out probabilities.
investment alternatives). To assess the potential this as variation in results across individuals. These probabilities are now estimated as a
42 Please see http://www.dol.gov/ebsa/regs/ continuous function of account size, based on
implications of an endorsement effect for the
impact of this regulation, the Department carried peerreview.html. household survey data.
out a sensitivity test of its low-impact estimates of 43 The Department’s estimate of the effect of the 44 In its estimates of the effects of the proposed

the regulation’s effects. Where the Department’s proposed regulation assigned uniform cash out regulation the Department had assumed a real
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primary estimates take into account the default probabilities (derived from an industry survey) to average equity return of 6.5 percent, which was
investment of defaulted participants’ accounts only accounts within certain arbitrary size categories. consistent with long-term historical performance.
(no endorsement effect), the sensitivity test For example, all accounts smaller than The estimates presented here assume a real average
additionally assumes that 20 percent of actively approximately $11,000 (expressed at 2005 levels) return of 4.9 percent, which is more in line with
directed accounts in plans with automatic were assigned the same cash out probability. This recent performance and commenters’ expectations
enrollment will be directed to default investment may have understated the propensity to cash out of the future.

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60476 Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations

preservation products, such as money participants who cash out during who find default investments too risky
market or stable value funds, as a stand- upturns.47 Moreover, the Department can opt out of them without opting out
alone long-term investment option for believes that this regulation should be of plan participation entirely.
contributions made after the effective calibrated to foster preservation of Some comments cautioned that the
date of this regulation. However, the retirement accounts rather than to exclusion of stand-alone capital
Department believes that such accommodate cashouts, consistent with preservation products from the
investments can play an important role other provisions of law, such as the definition of qualified default
as a component of a qualified default mandatory withholding and additional investment alternatives would prompt a
investment alternative. Further, it is tax provisions applicable to premature large, rapid movement of money across
important to note that the exclusion of distributions. asset classes, with negative
such funds as a qualified default Some comments on the proposed consequences for financial markets. In
investment alternative does not regulation expressed concern that particular according to these comments,
preclude their use as a default qualified default investment alternatives movement out of stable value products
investment option—fiduciaries are free would expose risk averse participants to might repress those products’ future
to adopt default investments they deem excessive investment risk, and on that interest crediting rates and thereby harm
to be prudent without availing basis urged the Department to include investors who continue to hold them.
themselves of the fiduciary relief stand-alone capital preservation The Department believes, however, that
afforded by this regulation. instruments as qualified default movement away from stable value
Including such instruments for future investment alternatives. The products and therefore any negative
contributions might have yielded some Department is not persuaded by this impact on forward crediting rates will
benefits if, for example, their inclusion argument, however, for three reasons. be modest, as only a relatively small
would encourage more plan sponsors to First, the regulation’s primary goal is to portion of current assets in stable value
implement automatic enrollment promote default investments that products appears to be attributable to
programs or fewer workers to opt out of enhance retirement saving, not to align defaulted participants.50 Additionally,
them. The Department believes such default investments with individuals’
cases would be rare, however. First, a levels of risk tolerance.48 Second, the dominance analysis of asset class performance and
decreasing proportion of plans already multi-period investor utility optimization,
Department nonetheless believes that explaining that these techniques are in some ways
are designating such instruments as the qualified default investment superior to alternatives such as mean-variance
default investments.45 Second, workers alternatives included in the regulation analysis of asset class performance and single-
concerned that a default investment can satisfy most affected individuals’ period utility optimization. The commenter
provides more risk than they prefer risk preferences.49 Finally, participants criticized the Department’s use of the latter,
need not refuse or terminate 46 potentially inferior techniques to assess the
question of what mix of asset classes best matches
participation in response, but instead 47 Such potential benefits would additionally be
investors’ tastes. But in fact the Department did not
need only direct their contributions into offset by reduced average returns to default assess this question, focusing instead on how
a different investment option otherwise investors who do not cash out early. As noted different asset class mixes affect retirement savings
above, the Department estimates that most default accumulations. Interestingly the study, which
available in the plan. contributions will be preserved for retirement. As utilized stable value product performance data
Including such instruments might discussed above, even the subset of short term supplied by the industry, concluded that for most
benefit some affected short-tenure workers who cash out their accounts will investors most of the time, the optimal portfolio
participants who cash out and spend experience an overall aggregate increase in wealth will include a mix of equity and stable value
from this regulation. Thus, the concern for fostering products rather than stable value products alone.
their accounts during downturns in preservation of retirement accounts is not being This suggests to the Department that the qualified
equity prices. Historically, though, weighed against aggregate losses to this subset of default investment alternatives included in this
equity returns are positive more often workers, but is instead being weighed against the regulation encompass most investors’ levels of risk
then they are negative, so this potential added volatility their accounts might experience. In tolerance. The Department also notes that most
weighing these interests, the Department kept in 401(k) plan participants who actively direct their
benefit is likely to be outweighed by the mind that short term employees concerned about investments include equity in their portfolios (see,
opportunity cost to affected short-tenure this volatility are always free to choose a different e.g., Sarah Holden and Jack VanDerhei, 401(k) Plan
investment option. Asset Allocation, Account Balances, and Loan
45 According to one survey, in 2006, 17 percent 48 In theory individuals can optimize their Activity in 2005, EBRI Issue Brief No. 296 (Aug.
of sponsors with automatic enrollment programs investment mix over time to match their personal 2006) at 9, Figure 8; see also Fidelity Investments,
were likely to change their default from such taste for risk and return. The regulation’s provisions Building Futures Volume VII: How Workplace
instruments to qualified default investment that establish participants’ right to direct their Savings are Shaping the Future of Retirement (2006)
alternative-type instruments, while just 4 percent investments out of qualified default alternatives at 128, Figure 130).
were likely to do the opposite (Hewitt Associates give participants the opportunity to so do. But in 50 There are several reasons to believe that asset
LLC, Survey Findings: Hot Topics in Retirement practice investors sometimes do not optimize their allocation will not shift very abruptly, and that
2006 (2006) at 4). According to another, between investment alternatives. Some may lack clear, fixed stable value products will continue to claim a large
1999 and 2005 the proportion designating such and rational preferences for risk and return. Some share of 401(k) plan assets. First, while this
instruments as defaults decreased from 69 percent investors’ tastes for risky assets may be distorted by regulation generally does not extend fiduciary relief
to 56 percent, while the proportion designating imperfect information, or by irrational and to default investments that consist solely of stable
qualified default investment alternative-type ineffectual behavioral phenomena such as naive value products, it does not foreclose qualified
instruments as defaults increased from 28 percent diversification (a tendency to divide assets equally default investment alternatives from including such
to 39 percent (Hewitt Associates LLC, Survey across available options), sub-optimal excessive products, and leaves intact general fiduciary
Findings: Trends and Experiences in 401(k) Plans concentration in company stock, market timing, provisions that may otherwise permit default
2005, (2005) at 15). mental accounting and framing, and reliance on investments that consist solely of such products. A
46 Might a risk-averse participant, enrolled and peer examples (see, e.g., Richard H. Thaler and significant number of plans currently utilize stable
invested by default, terminate participation in Shlomo Benartzi, The Behavioral Economics of value products as their default investment option,
response to news that their account had suffered Retirement Savings Behavior, AARP Public Policy reflecting determinations by a significant number of
principal losses? Perhaps not. The same inertia that Institute white paper #2007–02 (Jan. 2007) at 6–16), plan fiduciaries that stand-alone stable value
leads some participants to enroll and invest by or inertia. This regulation promotes default products are a prudent investment for defaulted
default might also prevent them from terminating investments that can enhance such investors’ participants. Nothing in this regulation is intended
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participation. The Department also observes that an retirement savings prospects. to suggest or require that a plan fiduciary change
early principal loss usually will not translate into 49 One commenter on the proposed regulation an otherwise prudent selection of a stable value
a decline in the account balance reported in a called the Department’s attention to a study of product for a plan’s default investment option. The
quarterly statement, since quarterly contributions optimal investment mixes for investors with Department therefore anticipates that some plans
are likely to more than offset such losses during at different levels of risk aversion. The study will continue to direct all or a portion of default
least the first few years of participation. employed techniques known as stochastic investments to stable value products. Second, the

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according to these comments, The Department estimates that cannot be separately calibrated for each
movement out of stable value products including capital preservation participant or for particular classes of
might alter short-term conditions in the instruments as a stand-alone qualified participants. Therefore, while its risk
markets for debt securities that underlie default investment alternative would level may be appropriate for all affected
such products. Decreased demand for reduce aggregate account balances in participants it is unlikely to be optimal
stable value products might then repress 2034 by between $5 billion and $7 for all. However, such a product or
the price of underlying debt instruments billion (expressed in 2006 dollars).52 model portfolio may also have relative
and increased demand for qualified This negative effect will be larger if advantages. Compared with the other
default investment alternatives might there is an endorsement effect ($26 potential qualified default investment
drive up equity prices. The Department billion under the low-impact alternatives such a product or portfolio
believes any such effects would be estimate)—that is, if the instruments may be simpler, less expensive and
gradual and negligible.51 status as a qualified default investment easier to explain and understand. These
If included as a qualified default alternative encourages active (in advantages sometimes may outweigh
investment alternative and thereby addition to default) investments in the potential advantage of more
promoted as a default investment, them.53 customized risk levels. And the
stand-alone capital preservation Finally, the Department believes it is inclusion of such products or model
products’ generally inferior long-term desirable for a default investment portfolios might help heighten
investment returns would almost vehicle to be diversified across asset competition in the market and thereby
certainly erode the regulation’s classes, rather than to include only a enhance product quality and
beneficial effect on retirement income. single asset class. Such diversification affordability across all qualified default
can improve a portfolio’s risk and return investment alternatives. Accordingly,
Department expects that stable value products will efficiency. the Department has included such
continue to be offered as an investment option by In summary, in weighing the merits of instruments as qualified default
many participant-directed plans and selected by potential qualified default investment
many participants. It is expected that participants investment alternatives under this
will invest only a small fraction of assets by default, alternatives, the Department sought regulation.
and will actively direct a large majority of assets. primarily to promote default
The Department’s low- and high-impact estimates investments that enhance retirement Federalism Statement
respectively suggest that between 1.2 percent and savings. The Department considered Executive Order 13132 (August 4,
1.5 percent of 401(k) plan assets will be invested
by default in 2034. Viewed another way, absent this market trends, generally accepted 1998) outlines fundamental principles
regulation, the Department estimates that just $10 investment theories, mainstream of federalism and requires Federal
billion would be invested by default in capital financial planning practices, and actual agencies to adhere to specific criteria in
preservation vehicles in 2034 (expressed in 2006 investor behavior, as well as the the formulation and implementation of
dollars). This compares with approximately $400
billion of 401(k) assets invested in stable value
estimated effect of qualified default policies that have a substantial direct
products today. Third, there will be some offsetting investment alternatives on retirement effect on the States, the relationship
effect, deriving from the increase in actively savings. All of these criteria suggest that between the national government and
invested account balances expected to result from it is desirable to invest retirement the States, or on the distributive power
this regulation. The Department estimates that the
regulation, by promoting automatic enrollment and
savings in vehicles that provide for the and responsibilities among the various
higher average investment performance, will possibility of capital appreciation in levels of government. As noted above,
increase aggregate actively invested account addition to capital preservation. section 902(f) of the Pension Protection
balances in 2034 by between $59 billion and $114 Accordingly, the Department did not Act adds a new provision to ERISA
billion (expressed in 2006 dollars), or between 2.4 include stand-alone capital preservation (section 514(e)) providing that
percent and 4.6 percent, while aggregate default
invested account balances will grow by just $11 instruments among the qualified default notwithstanding any other provision of
billion to $20 billion. Stable value products will investment alternatives under the section 514, Title I of ERISA supersedes
capture some share of the increase in actively regulation. However, the Department State laws that would directly or
invested account balances. Fourth, the extent to has modified the regulation to include indirectly prohibit or restrict the
which some plans do move money out of stable
value products may be additionally moderated by a ‘‘grandfather’’-like provision pursuant inclusion of an automatic contribution
stable value product features that have the effect of to which stable value products and arrangement in any plan. In the
discouraging large movements and by associated funds will constitute a qualified default preamble to the notice of proposed
fiduciary considerations. Plan fiduciaries, in investment alternative under the rulemaking published on September 27,
determining whether, how and under what
circumstances a change should be made in the regulation for purposes of investments 2006, the Department specifically
plan’s default investment option, must assess, made prior to the effective date of the discussed the preemption provision
among other things, the potential economic regulation. enacted in the Pension Protection Act
consequences of such a change to participants’ and requested comments on whether,
investments in such options. Finally, because this Balanced Defaults
regulation includes a ‘‘grandfather’’-like provision
and to what extent, addressing this
applicable to certain stable value products, it The Department also considered provision in the regulations would be
provides no direct incentive for plan fiduciaries to whether to include as a qualified default helpful. Although no States provided
reallocate account balances heretofore invested by investment alternative an investment comments on the proposed regulation,
default in such products. fund product or model portfolio that
51 As noted above, the Department expects that
other commenters requested that the
asset allocation will not shift very abruptly, and
establishes a uniform mix of equity and Department use the regulation to clarify
that stable value products will continue to claim a fixed income exposures for all affected the application of the statutory
large share of 401(k) assets. In addition, while stable participants. Such a product or model preemption provision. As noted
value products comprise a substantial fraction of all portfolio must be appropriate for elsewhere in this preamble, paragraph
401(k) assets (perhaps as much as 20 percent), their
underlying portfolios hold only a small fraction
participants of the plan as a whole but (f) of the final regulation addresses those
(generally between 0.5 percent and 2 percent) of all comments. In accordance with section 4
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debt and of major debt categories such as mortgages, 52 This assumes that, as under the baseline, 50
of the E.O. 13132, the Department of
corporate bonds and treasury and agency issues. percent of default contributions will be directed to Labor has construed the preemptive
These estimates are based on stable value product capital preservation products and 50 percent to
data provided by the Stable Value Industry (other) qualified default investment alternatives. effect of ERISA section 514(e) at the
Association and the U.S. Federal Reserve Board of 53 For this calculation, the Department assumes a minimum level necessary to achieve the
Governors’ Flow of Funds Accounts. 20 percent endorsement effect. objectives of the statute.

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60478 Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations

In any event, the Department does not § 2550.404c–5 Fiduciary relief for prudently select and monitor any
view the final rule, as distinct from the investments in qualified default investment qualified default investment alternative
statute, as having a substantial direct alternatives. under the plan or from any liability that
effect on the States, on the relationship (a) In general. (1) This section results from a failure to satisfy these
between the national government and implements the fiduciary relief duties, including liability for any
the States, or on the distribution of provided under section 404(c)(5) of the resulting losses.
power among the various levels of Employee Retirement Income Security (3) Nothing in this section shall
government. The statute preempts State Act of 1974, as amended (ERISA or the relieve any fiduciary described in
Act), 29 U.S.C. 1001 et seq., under paragraph (e)(3)(i) of this section from
laws and the regulation merely clarifies
which a participant or beneficiary in an its fiduciary duties under part 4 of title
application of the statutory provision in
individual account plan will be treated I of ERISA or from any liability that
a way that is consistent with the plain as exercising control over the assets in
language and the legislative history. results from a failure to satisfy these
his or her account for purposes of duties, including liability for any
State wage withholding restrictions will ERISA section 404(c)(1) with respect to resulting losses.
not be affected except as they apply to the amount of contributions and (4) Nothing in this section shall
automatic contribution arrangements of earnings that, in the absence of an provide relief from the prohibited
ERISA-covered plans. Moreover, the investment election by the participant, transaction provisions of section 406 of
regulation imposes no compliance costs are invested by the plan in accordance ERISA, or from any liability that results
on State or local governments. As a with this regulation. If a participant or from a violation of those provisions,
result, the Department concludes that beneficiary is treated as exercising including liability for any resulting
the final regulation does not have control over the assets in his or her losses.
federalism implications. account in accordance with ERISA (c) Conditions. With respect to the
section 404(c)(1) no person who is investment of assets in the individual
List of Subjects in 29 CFR Part 2550 otherwise a fiduciary shall be liable account of a participant or beneficiary,
Employee benefit plans, Exemptions, under part 4 of title I of ERISA for any a fiduciary shall qualify for the relief
Fiduciaries, Investments, Pensions, loss or by reason of any breach which described in paragraph (b)(1) of this
Prohibited transactions, Real estate, results from such participant’s or section if:
Securities, Surety bonds, Trusts and beneficiary’s exercise of control. Except (1) Assets are invested in a qualified
as specifically provided in paragraph default investment alternative within
trustees.
(c)(6) of this section, a plan need not the meaning of paragraph (e) of this
■ For the reasons set forth in the meet the requirements for an ERISA section;
preamble, the Department amends section 404(c) plan under 29 CFR (2) The participant or beneficiary on
Subchapter F, Part 2550 of Title 29 of 2550.404c–1 in order for a plan whose behalf the investment is made
the Code of Federal Regulations as fiduciary to obtain the relief under this had the opportunity to direct the
follows: section. investment of the assets in his or her
(2) The standards set forth in this account but did not direct the
SUBCHAPTER F—FIDUCIARY section apply solely for purposes of investment of the assets;
RESPONSIBILITY UNDER THE determining whether a fiduciary meets (3) The participant or beneficiary on
EMPLOYEE RETIREMENT INCOME the requirements of this regulation. whose behalf an investment in a
SECURITY ACT OF 1974 Such standards are not intended to be qualified default investment alternative
the exclusive means by which a may be made is furnished a notice that
PART 2550—RULES AND fiduciary might satisfy his or her meets the requirements of paragraph (d)
REGULATIONS FOR FIDUCIARY responsibilities under the Act with of this section:
RESPONSIBILITY respect to the investment of assets in the (i) (A) At least 30 days in advance of
individual account of a participant or the date of plan eligibility, or at least 30
■ 1. The authority citation for part 2550 beneficiary. days in advance of the date of any first
is revised to read as follows: (b) Fiduciary relief. (1) Except as investment in a qualified default
provided in paragraphs (b)(2), (3), and investment alternative on behalf of a
Authority: 29 U.S.C. 1135; sec. 657, Pub. (4) of this section, a fiduciary of an participant or beneficiary described in
L. 107–16, 115 Stat. 38; and Secretary of individual account plan that permits paragraph (c)(2) of this section; or
Labor’s Order No. 1–2003, 68 FR 5374 (Feb. participants or beneficiaries to direct the (B) On or before the date of plan
3, 2003). Sec. 2550.401b–1 also issued under investment of assets in their accounts eligibility provided the participant has
sec. 102, Reorganization Plan No. 4 of 1978, and that meets the conditions of the opportunity to make a permissible
43 FR 47713 (Oct. 17, 1978), 3 CFR, 1978 paragraph (c) of this section shall not be withdrawal (as determined under
Comp. 332, effective Dec. 31, 1978, 44 FR liable for any loss, or by reason of any section 414(w) of the Internal Revenue
1065 (Jan. 3, 1978), 3 CFR, 1978 Comp. 332. breach under part 4 of title I of ERISA, Code of 1986, as amended (Code)); and
Sec. 2550.401c–1 also issued under 29 U.S.C.
that is the direct and necessary result of (ii) Within a reasonable period of time
1101. Sections 2550.404c–1 and 2550.404c–
(i) investing all or part of a participant’s of at least 30 days in advance of each
5 also issued under 29 U.S.C. 1104. Sec.
or beneficiary’s account in any qualified subsequent plan year;
2550.407c–3 also issued under 29 U.S.C.
default investment alternative within (4) A fiduciary provides to a
1107. Sec. 2550.408b–1 also issued under 29
the meaning of paragraph (e) of this participant or beneficiary the material
U.S.C. 1108(b)(1) and sec. 102,
section, or (ii) investment decisions set forth in 29 CFR 2550.404c-
Reorganization Plan No. 4 of 1978, 3 CFR,
made by the entity described in 1(b)(2)(i)(B)(1)(viii) and (ix) and 29 CFR
1978 Comp. p. 332, effective Dec. 31, 1978,
paragraph (e)(3) of this section in 404c-1(b)(2)(i)(B)(2) relating to a
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44 FR 1065 (Jan. 3, 1978), and 3 CFR, 1978


Comp. 332. Sec. 2550.412–1 also issued
connection with the management of a participant’s or beneficiary’s investment
under 29 U.S.C. 1112. qualified default investment alternative. in a qualified default investment
(2) Nothing in this section shall alternative;
■ 2. Add § 2550.404c–5 to read as relieve a fiduciary from his or her duties (5)(i) Any participant or beneficiary
follows: under part 4 of title I of ERISA to on whose behalf assets are invested in

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a qualified default investment (1) A description of the circumstances securities acquired prior to management
alternative may transfer, in whole or in under which assets in the individual by the investment management service
part, such assets to any other investment account of a participant or beneficiary to the extent the investment
alternative available under the plan may be invested on behalf of the management service has discretionary
with a frequency consistent with that participant or beneficiary in a qualified authority over the disposition of such
afforded to a participant or beneficiary default investment alternative; and, if employer securities;
who elected to invest in the qualified applicable, an explanation of the (2) Satisfies the requirements of
default investment alternative, but not circumstances under which elective paragraph (c)(5) of this section regarding
less frequently than once within any contributions will be made on behalf of the ability of a participant or beneficiary
three month period; a participant, the percentage of such to transfer, in whole or in part, his or
(ii)(A) Except as provided in contributions, and the right of the her investment from the qualified
paragraph (c)(5)(ii)(B) of this section, participant to elect not to have such default investment alternative to any
any transfer described in paragraph contributions made on the participant’s other investment alternative available
(c)(5)(i), or any permissible withdrawal behalf (or to elect to have such under the plan;
as determined under section 414(w)(2) contributions made at a different (3) Is:
of the Code, by a participant or percentage); (i) Managed by: (A) an investment
beneficiary of assets invested in a (2) An explanation of the right of manager, within the meaning of section
qualified default investment alternative, participants and beneficiaries to direct 3(38) of the Act; (B) a trustee of the plan
in whole or in part, resulting from the the investment of assets in their that meets the requirements of section
participant’s or beneficiary’s election to individual accounts; 3(38)(A), (B) and (C) of the Act; or (C)
make such a transfer or withdrawal (3) A description of the qualified the plan sponsor who is a named
during the 90-day period beginning on default investment alternative, fiduciary, within the meaning of section
the date of the participant’s first elective including a description of the 402(a)(2) of the Act;
investment objectives, risk and return (ii) An investment company registered
contribution as determined under
characteristics (if applicable), and fees under the Investment Company Act of
section 414(w)(2)(B) of the Code, or
and expenses attendant to the 1940; or
other first investment in a qualified (iii) An investment product or fund
default investment alternative on behalf investment alternative;
(4) A description of the right of the described in paragraph (e)(4)(iv) or (v) of
of a participant or beneficiary described this section; and
participants and beneficiaries on whose
in paragraph (c)(2) of this section, shall (4) Constitutes one of the following:
behalf assets are invested in a qualified
not be subject to any restrictions, fees or (i) An investment fund product or
default investment alternative to direct
expenses (including surrender charges, model portfolio that applies generally
the investment of those assets to any
liquidation or exchange fees, accepted investment theories, is
other investment alternative under the
redemption fees and similar expenses diversified so as to minimize the risk of
plan, including a description of any
charged in connection with the large losses and that is designed to
applicable restrictions, fees or expenses
liquidation of, or transfer from, the provide varying degrees of long-term
in connection with such transfer; and
investment); (5) An explanation of where the appreciation and capital preservation
(B) Paragraph (c)(5)(ii)(A) of this participants and beneficiaries can obtain through a mix of equity and fixed
section shall not apply to fees and investment information concerning the income exposures based on the
expenses that are charged on an ongoing other investment alternatives available participant’s age, target retirement date
basis for the operation of the investment under the plan. (such as normal retirement age under
itself (such as investment management (e) Qualified default investment the plan) or life expectancy. Such
fees, distribution and/or service fees, alternative. For purposes of this section, products and portfolios change their
‘‘12b–1’’ fees, or legal, accounting, a qualified default investment asset allocations and associated risk
transfer agent and similar administrative alternative means an investment levels over time with the objective of
expenses), and are not imposed, or do alternative available to participants and becoming more conservative (i.e.,
not vary, based on a participant’s or beneficiaries that: decreasing risk of losses) with
beneficiary’s decision to withdraw, sell (1)(i) Does not hold or permit the increasing age. For purposes of this
or transfer assets out of the qualified acquisition of employer securities, paragraph (e)(4)(i), asset allocation
default investment alternative; and except as provided in paragraph (ii). decisions for such products and
(iii) Following the end of the 90-day (ii) Paragraph (e)(1)(i) of this section portfolios are not required to take into
period described in paragraph shall not apply to: (A) Employer account risk tolerances, investments or
(c)(5)(ii)(A) of this section, any transfer securities held or acquired by an other preferences of an individual
or permissible withdrawal described in investment company registered under participant. An example of such a fund
this paragraph (c)(5) of this section shall the Investment Company Act of 1940 or or portfolio may be a ‘‘life-cycle’’ or
not be subject to any restrictions, fees or a similar pooled investment vehicle ‘‘targeted-retirement-date’’ fund or
expenses not otherwise applicable to a regulated and subject to periodic account.
participant or beneficiary who elected to examination by a State or Federal (ii) An investment fund product or
invest in that qualified default agency and with respect to which model portfolio that applies generally
investment alternative; and investment in such securities is made in accepted investment theories, is
(6) The plan offers a ‘‘broad range of accordance with the stated investment diversified so as to minimize the risk of
investment alternatives’’ within the objectives of the investment vehicle and large losses and that is designed to
meaning of 29 CFR 2550.404c–1(b)(3). independent of the plan sponsor or an provide long-term appreciation and
(d) Notice. The notice required by affiliate thereof; or (B) with respect to a capital preservation through a mix of
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paragraph (c)(3) of this section shall be qualified default investment alternative equity and fixed income exposures
written in a manner calculated to be described in paragraph (e)(4)(iii) of this consistent with a target level of risk
understood by the average plan section, employer securities acquired as appropriate for participants of the plan
participant and shall contain the a matching contribution from the as a whole. For purposes of this
following: employer/plan sponsor, or employer paragraph (e)(4)(ii), asset allocation

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60480 Federal Register / Vol. 72, No. 205 / Wednesday, October 24, 2007 / Rules and Regulations

decisions for such products and of this section for not more than 120 of section 514(e) of the Act and this
portfolios are not required to take into days after the date of the participant’s paragraph (f), an automatic contribution
account the age, risk tolerances, first elective contribution (as arrangement is an arrangement (or the
investments or other preferences of an determined under section 414(w)(2)(B) provisions of a plan) under which:
individual participant. An example of of the Code). (i) A participant may elect to have the
such a fund or portfolio may be a (v)(A) Subject to paragraph (e)(4)(v)(B) plan sponsor make payments as
‘‘balanced’’ fund. of this section, an investment product or contributions under the plan on his or
(iii) An investment management fund designed to guarantee principal
her behalf or receive such payments
service with respect to which a and a rate of return generally consistent
directly in cash;
fiduciary, within the meaning of with that earned on intermediate
paragraph (e)(3)(i) of this section, investment grade bonds, while (ii) A participant is treated as having
applying generally accepted investment providing liquidity for withdrawals by elected to have the plan sponsor make
theories, allocates the assets of a participants and beneficiaries, including such contributions in an amount equal
participant’s individual account to transfers to other investment to a uniform percentage of
achieve varying degrees of long-term alternatives. Such investment product compensation provided under the plan
appreciation and capital preservation or fund shall, for purposes of this until the participant specifically elects
through a mix of equity and fixed paragraph (e)(4)(v), meet the following not to have such contributions made (or
income exposures, offered through requirements: specifically elects to have such
investment alternatives available under (1) There are no fees or surrender contributions made at a different
the plan, based on the participant’s age, charges imposed in connection with percentage); and
target retirement date (such as normal withdrawals initiated by a participant or (iii) Contributions are invested in
retirement age under the plan) or life beneficiary; and accordance with paragraphs (a) through
expectancy. Such portfolios are (2) Principal and rates of return are (e) of this section.
diversified so as to minimize the risk of guaranteed by a State or federally
large losses and change their asset regulated financial institution. (2) A State law that would directly or
allocations and associated risk levels for (B) An investment product or fund indirectly prohibit or restrict the
an individual account over time with described in this paragraph (e)(4)(v) inclusion in any pension plan of an
the objective of becoming more shall constitute a qualified default automatic contribution arrangement is
conservative (i.e., decreasing risk of investment alternative for purposes of superseded as to any pension plan,
losses) with increasing age. For paragraph (e) of this section solely for regardless of whether such plan
purposes of this paragraph (e)(4)(iii), purposes of assets invested in such includes an automatic contribution
asset allocation decisions are not product or fund before December 24, arrangement as defined in paragraph
required to take into account risk 2007. (f)(1) of this section.
tolerances, investments or other (vi) An investment fund product or (3) The administrator of an automatic
preferences of an individual participant. model portfolio that otherwise meets the contribution arrangement within the
An example of such a service may be a requirements of this section shall not meaning of paragraph (f)(1) of this
‘‘managed account.’’ fail to constitute a product or portfolio section shall be considered to have
(iv)(A) Subject to paragraph for purposes of paragraph (e)(4)(i) or (ii) satisfied the notice requirements of
(e)(4)(iv)(B) of this section, an of this section solely because the section 514(e)(3) of the Act if notices are
investment product or fund designed to product or portfolio is offered through furnished in accordance with
preserve principal and provide a variable annuity or similar contracts or paragraphs (c)(3) and (d) of this section.
reasonable rate of return, whether or not through common or collective trust (4) Nothing in this paragraph (f)
such return is guaranteed, consistent funds or pooled investment funds and precludes a pension plan from
with liquidity. Such investment product without regard to whether such including an automatic contribution
shall for purposes of this paragraph contracts or funds provide annuity arrangement that does not meet the
(e)(4)(iv): purchase rights, investment guarantees, conditions of paragraphs (a) through (e)
(1) Seek to maintain, over the term of death benefit guarantees or other of this section.
the investment, the dollar value that is features ancillary to the investment fund
equal to the amount invested in the product or model portfolio. Signed at Washington, DC, this 15th day of
(f) Preemption of State laws. (1) October, 2007.
product; and
(2) Be offered by a State or federally Section 514(e)(1) of the Act provides Bradford P. Campbell,
regulated financial institution. that title I of the Act supersedes any Assistant Secretary, Employee Benefits
(B) An investment product described State law that would directly or Security Administration, Department of
in this paragraph (e)(4)(iv) shall indirectly prohibit or restrict the Labor.
constitute a qualified default investment inclusion in any plan of an automatic [FR Doc. 07–5147 Filed 10–23–07; 8:45 am]
alternative for purposes of paragraph (e) contribution arrangement. For purposes BILLING CODE 4510–29–P
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