Retirement Plan Advisors as Fiduciaries
by Trey Fairman, AIF, J.D., LL.M. July 15, 2021
Expert Interview: Long Term Care Insurance
November 10, 2020
Fiduciary duties are found in many aspects of any workplace retirement plan; permeating the
plan, there is no escaping the responsibilities they impose. When a company or business owner
decides to start a retirement plan, they take on the role of a "fiduciary" - the legal term for a
person with control over a plan. A "fiduciary" is a person or organization that acts on behalf of
another, putting the other's interest ahead of their own.
To be clear, unless otherwise agreed to in writing, the default arrangement is that owners and
managers at small companies are the only fiduciaries - not the mutual funds companies, not the
recordkeeper, not the administrator, and not the advisor. Therefore, it's always good to view
your retirement plan through a fiduciary lens.
The fiduciary duty is considered the highest under the law and requires honesty, loyalty,
transparency, and good faith. When it comes to retirement plans, this requires prudence, due
diligence, and documentation. The process typically includes monitoring investment options,
reviewing plan fees, and following written governance documentation. To provide proof of
their process, plan sponsors and advisors should document their approach and decisions to
demonstrate due diligence.
Since it is the highest duty under the law, it's wise to be mindful of some of the required tasks
when labeled as a fiduciary. As the saying goes, "ignorance is no excuse." This is a complex area,
but here are some of the basics.
Fiduciary plan sponsors owe the plan participants a duty of loyalty and a duty of care. The duty
of loyalty requires the fiduciary to put the interests of the employees and the plan above their
personal interests when making decisions. The duty of care requires the fiduciary to exercise
"prudence" when making decisions regarding the plan. Those decisions should be based on
adequate information and a good faith belief that the findings are in the plan's and its
participants' best interests. Here are some tips to keep in mind when regarding fiduciary duties.
Do the homework – due diligence is critical when evaluating plan features such as investment
options, service providers, and plan structure. (see below about engaging experts)
Hold regular meetings – fiduciary oversight is not a "call me when you need me" situation.
Depending on the plan size, there should be regularly scheduled meetings (and special
meetings as needed) to review and discuss plan information and pending decisions regarding
Respect the process – use a thorough and thoughtful "prudent process" to assist when making
Document the process – while plan meeting minutes often don't include the nitty gritty of all
discussions, a description demonstrating the extent of the information presented and the
breadth of the analysis and conversation is essential for the record.
Engage experts – if not experienced in overseeing retirement plans, and most business owners
are not, hire outside experts. Understanding the nuances of the retirement industry, third-party
providers, ERISA, the Internal Revenue Code, fiduciary matters, retirement plan economics, and
investment strategy requires focus, dedication, and deep knowledge.
Since plan documents vary, other individuals or firms may be involved with the plan who are
also fiduciaries. However, it's often hard to tell who is responsible for what if you don't ask.
Here is a short story to illustrate the point...
Kevin had been dealing with his local car mechanic for years, so he was comfortable taking his
car in for service before his upcoming cross-country road trip. When he dropped off his car, he
told his mechanic he was going on a long journey and to please change his oil and spark plugs. A
few hundred miles into his trip, Kevin's transmission failed.
Upon his return home, Kevin went to see his mechanic - he was furious and couldn't understand
why his mechanic didn't check the transmission. The mechanic explained his job, per Kevin’s
request, was to change the oil and replace the spark plugs. The mechanic added he was not
asked to check the entire car and did not charge for that service. In other words, Kevin assumed
the mechanic was providing a comprehensive oversight service, but the mechanic was only
changing the oil and spark plugs.
When paying for work on a car or a retirement plan, it's good practice to understand what the
job entails and does not entail. To ensure clarity regarding the fiduciary status of each service
provider to your plan, ask each of them to verify, in writing, their fiduciary status concerning
your plan. Without that understanding, things may be overlooked – like checking the
Commonly neglected areas
1. Paying excessive fees
The top source of fiduciary liability is paying fees that are too high. High fees make it harder for
employees to save money for retirement. Of course, it costs money to run a retirement plan -
they are not free. Records must be kept for each plan participant regarding the flow of money
in and out of plan investments, websites must be maintained, and statements must be
provided. However, fees have been trending down in recent years, and fiduciaries must ensure
the cost of services provided to their plan are reasonable.
Benchmarking is the tool used to judge the reasonableness of plan fees. Even with updated
disclosure requirements, finding hidden costs buried in plan documents often takes more work.
Unfortunately, many service providers need to make it easier to meet this fiduciary
2. Not choosing prudent investment options
A prudent investment is one that meets plan investment objectives without charging excessive
fees. A good plan typically has a two-tiered structure that meets the varied needs of
employees. One tier has asset allocation funds such as target date funds and target risk funds
for the "do-it-for-me" type of investor, with the second tier offering core asset classes for the
"do-it-yourself" type of investor. These options may include active and passive managed funds.
Given the widespread availability of "passively managed" index funds, all plans should offer
these low-cost options. While it's permissible to offer "actively managed" funds or insurance
products that charge higher fees and are designed to beat an index, those active funds must
beat the index consistently to justify the additional expense. Evidence-based research shows
active funds rarely beat the index.
3. Ignoring plan documents
Under the rules, a 401k plan must operate under the terms of its written document to maintain
its tax-favored status. When a plan fails to act according to its written terms, the IRS considers
this an "operational defect" and a 401(k) plan can be disqualified for not fixing the defect. To
help, the IRS offers tips on its website for avoiding, finding, and rectifying common defects.
Working with Experts
Plan sponsors often seek to reduce liability by outsourcing plan oversight duties to qualified
experts to serve as co-fiduciaries. These experts help decide for the plan participants and their
beneficiaries' best interests. Below are three general types of plan fiduciaries – each one has a
different role and is named after the section of ERISA that defines their duties. An individual can
serve as a 3(21) or 3(38) fiduciary, but only a specialized third-party administrator ("TPA") firm
may act as a 3(16) fiduciary.
What is a 3(21) Fiduciary? Also called an "investment advisor," this typically applies to
individuals offering investment advice to the plan. Anyone who manages the plan assets or
renders investment advice for a fee is considered a 3(21) fiduciary. Acting as a co-fiduciary, they
help the business owner do a better job of running the plan and avoiding liability.
However, a 3(21) fiduciary does NOT have discretionary authority to add or remove funds from
the investment lineup – that responsibility remains with the 401k plan trustee.
What is a 3(38) Fiduciary? Often called an "investment manager," an individual acting in an
ERISA section 3(38) capacity has discretionary control of the plan's investment menu. They
select, monitor, and replace investments for the plan when appropriate; no additional approval
is needed. A 3(38) fiduciary must be a bank, an insurance company, or a registered investment
advisor ("RIA"). Fees are typically higher for this type of fiduciary.
Individuals acting as a 3(21) or 3(38) fiduciary accept responsibility and adhere to ERISA's
requirement to serve in the best interest of plan participants and meet the prudent standard of
care requirements. However, the plan sponsor and the 401k plan trustee are still responsible
for overseeing the 401k plan regardless of the experts they employ.
How is a 3(16) Fiduciary Different?
While both a 3(21) and a 3(38) fiduciary provide investment advice for the plan, a 3(16)
fiduciary has the administrative responsibility to ensure the plan is managed according to ERISA
requirements. A typical third-party administrator ("TPA") handles reporting and disclosure
requirements, summary plan descriptions, participant disclosures, and form 5500 filings but is
not acting as a fiduciary. A 3(16) fiduciary can insulate the 401k plan trustee from
administration errors to a greater extent than by just hiring a TPA.
In summary, employers have fiduciary responsibilities under the law, but meeting these
responsibilities can be easy. Some advisors overplay the fear card regarding ERISA lawsuits
when speaking to clients but there is no need to be scared of your shadow. Fulfilling fiduciary
duties does not need to be complicated, just use accepted best practices and continually strive
to improve your plan - or hire an expert to assist. By working with a 3(21) or 3(38) fiduciary, as
well as a plan administrator acting in a 3(16) capacity, plan sponsors and plan trustees can
improve plan compliance while reducing most, but not all, of their fiduciary liabilities.This is an almost final draft of a chapter from my upcoming book, The 6 Key Components of a
Good 401(k) Plan.