The rules that
govern the behavior of retirement plan fiduciaries are quite complex. Any
time we are required to deal with complicated subject matter, things can get
confusing, potentially leading to decisions based on a misunderstanding.
In this issue, we will try to clear up some common misconceptions that we
hear from time to time regarding fiduciary responsibility. (Cue the music
and flashing lights…) This is Fiduciary Fact or Fiction!
Statement: The fidelity bond that all plans must have that is reported on
the Form 5500 each year insures the plan itself and does not protect plan
fiduciaries from liability.
Fact or Fiction: Fact
An ERISA fidelity bond must list the plan, not the plan fiduciaries, as
the named insured and protects against losses due to fraud or dishonesty by
plan officials. The bond does not provide any protection to plan fiduciaries
who might face legal claims due to such losses. Only certain insurance
companies are authorized to issue fidelity bonds. A list of these approved
companies is available on the IRS website at www.fms.treas.gov/c570/c570.html.
Fiduciaries can obtain fiduciary liability insurance that provides
coverage for expenses such as legal defense or monetary judgments. Like many
other types of insurance, these policies differ based on features such as
deductibles, exclusions, etc., so it is important to work with a property
and casualty agent who understands the nuances of ERISA fiduciary liability.
Qualified Default Investment Alternatives (QDIAs)
Statement: All 401(k) plans are required to choose a QDIA into which they
direct contributions for participants who have not made investment
Fact or Fiction: Fiction
Ever since participant-directed investments came on the retirement plan
scene, there have been instances in which contributions are allocated to the
account of a participant who has not made an investment election. How are
those dollars invested?
The Pension Protection Act of 2006 (PPA) tried to provide an easy answer
to that question by creating the QDIA. Those rules basically say that plan
fiduciaries who follow the PPA guidelines in selecting and monitoring a
plan's default investment are deemed to have made a prudent decision.
However, there are other appropriate choices that don't fit within the QDIA
rules. For example, money market funds do not fall within the definition of
a QDIA; however, many investment professionals believe that in a volatile
economy, a money market fund is a prudent default. Just because it isn't a QDIA does not make it imprudent.
Some plans choose not to designate a default at all. Rather, they make
sure they have one-on-one meetings with each employee eligible for the plan
to ensure investment elections are made. If all participants make elections,
there is no need for a default investment.
Statement: A plan sponsor who appoints other fiduciaries or hires a
"co-fiduciary" service provider such as an investment professional can be
held liable for the actions of those other fiduciaries.
Fact or Fiction: Fact
Being a fiduciary is somewhat like being a parent. A mother is not any
less of a parent simply because the father is a "co-parent." Both are
parents in their own right, regardless of whether there is another parent
So it is with plan fiduciaries, which makes the term "co-fiduciary"
somewhat of a misnomer. If Jane Doe is a fiduciary, the fact that another
plan sponsor representative or a service provider is also a fiduciary does
not make Jane any less of one. When there are multiple fiduciaries, their
liability is said to be "joint and several." This concept is best explained
by a quick example. Assume a plan has four fiduciaries, and there is a
fiduciary breach claim that results in $1 million in damages. Each fiduciary
is responsible for the full $1 million, not $250,000 ¼
of the total) or some other pro rated amount.
There are several reasons this is important. First, it highlights the
importance of using caution when selecting those who will serve on plan
committees. While the idea of involving rank and file employees in plan
management decisions might engender positive relations, an employee who
doesn't understand all that is required of a plan fiduciary could create
liability for other committee members, trustees, etc.
Second, it emphasizes the importance of hiring service providers who are
truly experts in the field and are focused on acting in the best interest of
Participant Investment Direction and 404(c) Compliance
Statement: Compliance with ERISA section 404(c) is mandatory and ensures
that plan fiduciaries will not get sued.
Fact or Fiction: Fiction
As a quick recap, ERISA section 404(c) says that if plan sponsors meet
certain requirements related to the number of investment options available,
frequency of participant access and disclosure of information, the
fiduciaries are not responsible for any losses that result from participants
directing the investment of their own accounts.
Compliance with 404(c) is completely optional, and it does not guarantee
a fiduciary will not get sued. It simply says that in the event of a
lawsuit, fiduciaries use a different method to demonstrate they are not
responsible for the losses in question. The lawyers still get involved, and
the fiduciaries still have to defend themselves.
One of the core principles of fiduciary duty is to always act in the best
interest of plan participants. Some sponsors believe that allowing
participants with no investment experience to move their investments any
given day among 20 different options is definitely not in participants' best
interests. Anecdotal evidence suggests that more limited access such as
allowing participants to choose once each year from three professionally
managed, risk-based portfolios can lead to more favorable performance over
Daily access with 20 funds is 404(c) compliant (assuming all the
disclosure requirements are satisfied) while annual access with three
portfolios, by definition, does not qualify for 404(c) protection. However,
one could certainly argue that the latter alternative is in the best
interest of a participant population with no investment expertise.
Statement: Fiduciaries have an obligation to monitor their service
providers on an ongoing basis to ensure they continue to be prudent choices.
Fact or Fiction: Fact
Many articles focus on the due diligence that should go into selecting
those people or companies that provide services to a plan. What is sometimes
overlooked, however, is the requirement that plan fiduciaries monitor the
performance of those providers on an ongoing basis to make sure that all the
factors supporting the original selection continue to be present and
relevant. If circumstances change either with the plan or the provider,
fiduciaries must assess the impact on the provider relationships.
Consider a large institution that comes under new management that does
not share the previous commitment to servicing retirement plans. Fiduciaries
must decide whether it is prudent (in the best interest of plan
participants) to continue working with that institution. Sometimes, the
plan, rather than the provider, experiences a change that warrants looking
elsewhere. Any number of factors such as company growth or a recent
acquisition could suggest that it is prudent to consider other providers.
This is not to suggest that a provider change is a foregone conclusion
every time there is some extraordinary event. Maybe, a plan's growth makes
it eligible for slightly lower fees at a larger institution, but the current
investment advisor's familiarity with the company's culture, goals and
employees allows him or her to provide very personalized service. The
fiduciaries could very well determine that it is prudent to pay the higher
fee in order to retain the personal service and trust they have with their
The point is that fiduciaries should regularly assess their providers in
light of the relevant facts and circumstances and document their decisions
regardless of what that decision happens to be.
Statement: Fiduciaries must take steps to minimize the expenses related
to maintaining the plan.
Fact or Fiction: Fiction
With all the regulatory focus on fee disclosure over the last five years,
it would be easy to believe that every fiduciary's primary goal should be to
control costs. It is never a good idea to overpay for a good or service, but
there are two critical elements when it comes to retirement plan fees:
reasonableness and value.
A Department of Labor Advisory Opinion from the late 1990s indicates,
"…it is the view of the Department that a plan fiduciary's failure to take
quality of service into account in the selection process would constitute a
breach of the fiduciary's duties under ERISA…"
You would not want to save a few dollars by hiring the family's general
practitioner to perform your knee replacement surgery. Similarly, you do not
want to sacrifice quality and expertise to save a few dollars in plan
Consider a plan that has more than 100 participants and is required to
hire a CPA to audit the financial statements each year. The CPA that
prepares the sponsor's tax return has done other types of company audits and
offers to do the ERISA audit for one price, while several other firms
specializing in plan audits quote a fee that is three times higher. ERISA
plan audits have very specific requirements that call for unique expertise.
While the specialty firms' fees are higher, their expertise likely makes
them the more prudent option.
Articles that attempt to simplify the complex regulatory framework that
applies to plan fiduciaries are written on a regular basis. Marketing
materials can make it challenging to understand where "suggested" ends and
Fiduciary duty can be distilled into always acting in the best interest
of plan participants, but the devil, as they say, is in the details. That is
why it is important to work with experts who can help you separate Fiduciary
Fact from Fiduciary Fiction.
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