Why Retirement Plan Sponsors Need a Fiduciary Advisor

Jun 21, 2018 |

Recent years have seen a sharp rise in the number of lawsuits in which employers were sued for violating their fiduciary duty to prudently select and monitor the investment options included in their retirement plans. Many of the suits have targeted large plans and garnered significant media attention, but small plans have not been immune.

What’s more, conflicts of interest in the retirement plan industry cost Americans up to $17 billion a year—dire news at a time when many are not on track to retire.

As a plan sponsor overseeing an employee retirement plan, you may be seeking ways to:

  • identify advisors who serve in a fiduciary capacity;
  • manage the risks associated with serving as a fiduciary; and
  • help mitigate the risks arising from investment selection and monitoring.

Hiring the right retirement plan advisor will not only reduce your risk as an employer, but it will also help your employees improve their retirement readiness. Unfortunately, everyone can call themselves an “advisor” or a “fiduciary,” but you need to peel back the onion to truly understand the distinct roles and responsibilities.

The “Prudent Expert” Standard

Unlike most fiduciary relationships in which an advisor must act in a manner consistent with that of a prudent layperson, retirement plan fiduciaries are held to a much higher standard—that of a “prudent expert.”

Under this standard, a plan fiduciary must act “… with the care, skill, prudence, and diligence under the circumstances then prevailing that a prudent man acting in a like capacity and familiar with such matters would use …”

In essence, a lack of investment knowledge or awareness of plan administration is simply unacceptable. In the absence of in-house expertise, plan fiduciaries are expected to partner with professional advisors who can assist with plan management and fiduciary oversight.

Types of Retirement Plan Advisors

Hiring an investment advisor can be murky, as there is no central authority governing the titles used by financial professionals. While many may call themselves advisors, their level of education and the capacity in which they serve their clients is often commensurate with that of an investment or life insurance sales representative.

Further muddying the waters, many of these financial professionals are only held to a suitability (non-fiduciary) standard while claiming fiduciary status. A fiduciary standard of care means an advisor is legally obligated to act in the best interests of those whom they are serving.

Most financial professionals are only held to a suitability standard and do not have this same obligation. They can recommend products that serve their own best interests even when the outcome is not aligned with the wishes or interests of their clients (personal investment clients, retirement plan participants, companies offering retirement plans, or those serving on the committees of those plans).

Even after plan committees have sifted through the myriad business models and pay structures of different financial professionals and settled on an advisor or set of advisors who seemingly serve in the best interests of the plan’s participants, there are still three types of advisors from which they must choose: consultants, investment advisors, and investment managers. Each role takes on a different level of fiduciary liability.

Consultants assume no fiduciary liability for investment recommendations associated with the retirement plan. On the surface, hiring a consultant may give the appearance that you have a concrete process in place to manage plan administration and investment selection and monitoring. However, because a consultant has no true authority and does not serve as a fiduciary, all legal responsibility remains in the lap of the plan sponsor.

ERISA 3(21) Investment Advisors take on co-fiduciary (limited) liability. In other words, while offering some protection, this role leaves open the possibility that the best interests of plan participants go overlooked or neglected. The conflicts that can underlie this type of advisory relationship (commission-paying investments, insurance, and annuities that are inserted into the plan, but not in the plan’s best interest, etc.) can result in excessive fees that ultimately diminish the retirement account balances of participants.

While an ERISA 3(21) advisor is still liable for the investment advice they provide, the plan sponsor retains oversight of plan assets, as well as the selection and monitoring of the plan’s investment options.

ERISA 3(38) Investment Managers assume full fiduciary liability for investment selection and monitoring. This advisory relationship offers you complete protection from claims related to poor investment selection and monitoring decisions. Your responsibility as a plan sponsor is limited to the selection and ongoing evaluation of the investment manager, no small task on its own.

Hiring an ERISA 3(38) Investment Manager

Of course, simply deciding to hire an ERISA 3(38) Investment Manager is not enough. As a plan sponsor, you must weigh several factors in your search for a professional best suited to your plan and needs. For example, not all investment managers offer the same services. Some offer both plan-level and participant-level services, while others offer only one or the other. Plan-level services include Investment Policy Statement (IPS) preparation and ERISA 404(c) assistance, while participant-level services include model portfolios and investment education.

As a fiduciary, you should implement the following best practices in the selection and retention of an advisor for your retirement plan:

  • Negotiate an asset-based fixed fee.
  • Obtain a written acknowledgment of fiduciary status (included in the investment manager’s service agreement).
  • Require experience, credentials, transparency and objectivity.
  • Determine the advisor fee based upon expertise and value, not sales skills.
  • Retain an advisor who acts as an investment manager to avoid conflicts and disclaimers.

Read the firm’s ADV forms to:

  • eliminate or obtain disclosure of all conflicts of interest in writing;
  • understand disclaimers of any fiduciary responsibility in writing; and
  • require an explanation of any potential conflict of interest.

Are you looking for advice specific to your situation? Contact  us today to learn more.

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