SEC Grants Relief to 403(b) Plan Auto-enroll Arrangements

While the focus of late has been on complying with disclosure requirements from the U.S. Department of Labor, the Securities and Exchange Commission has its own set of disclosure criteria that 403(b) plans must follow.

Specifically, 403(b) contracts that offer variable investment funds are subject to the jurisdiction of the Securities Act of 1933, the Securities Exchange Act of 1934 and the Investment Company Act of 1940. Because of this, 403(b) investment contracts must be “registered” with the SEC and are treated very similarly to mutual funds offered for sale to individuals outside of retirement plans.

One of requirements of being an investment company is that an individual’s financial interest in those companies must be able to be freely distributed at any time. However, this causes a potential problem with 403(b) plans. The Internal Revenue Code requires that certain distribution restrictions be placed on all contributions to a 403(b) custodial account and on elective deferrals made to annuity contracts.  In 1988, the SEC issued a No Action letter stating that it would take “no action” against 403(b) plans that impose these distribution restrictions, as long as:

1. the prospectus includes a disclosure about the distribution restrictions;
2. the sales literature includes information on the distribution restrictions;
3. anyone selling the product specifically to the participant brings the distribution restrictions to his or her attention; and
4. each participant signs an acknowledgement of the distribution restrictions before making a contribution.

The latest No Action letter from SEC  affecting 403(b) plans (dated Aug. 30, 2012) permits automatic contribution arrangements to operate without receiving the written acknowledgement required in requirement (4) as long as the funds are invested in a qualified default investment option as defined in U.S. Department of Labor rules implementing the Pension Protection Act of 2006, and requirements (1), (2) and (3) are met. The employer also may not impose any other distribution restriction on such funds.

The relief technically only applies to ERISA 403(b) plans. No mention was made in the No Action letter on how its interpretation affects plans not governed by ERISA.

For more details on what 403(b) plans sponsors need to do to comply with SEC requirements, see Thompson’s employee benefits library, including  The 403(b)/457 Plan Requirements Handbook.