Three Types of Fiduciaries?And Why Plan Sponsors Should Care
Depending on the context, the term “fiduciary” can have different meanings. Although the Employee Retirement Income Security Act of 1974 (ERISA) defines six categories of fiduciaries, the three kinds of fiduciaries identified by the Foundation for Fiduciary Studies?Investment Steward, Investment Advisor, and Investment Manager?are typically the most relevant to 401(k) plan sponsors.
Plan sponsors fall into the “investment steward” category. You bear big responsibilities. However, the other two kinds of fiduciaries can ease your burden.
1. Investment Steward—This refers to people like trustees, investment committee members, and other representatives or employees of plan sponsors. If you are an investment steward, you must act in accordance with your fiduciary responsibilities under the Employee Retirement Income Security Act of 1974 (ERISA) or face the consequences, including possible financial liability.
Of these three types of fiduciaries, you probably have the least amount of investment training. Yet you are responsible for managing all of the fiduciary responsibilities for your plan’s investment portfolio. If you’ve learned anything at all about your role, you’re probably concerned about the complexities of your compliance with DOL regulations and meeting your fiduciary obligations.
2. Investment Advisor—Investment advisors give “big picture” advice to retirement plans. For example, they can:
- Help you to create an investment policy statement and asset allocation
- Screen, select, and monitor the professionals who manage your 401(k) plan’s investment assets, ensuring that you’re paying reasonable fees as defined under ERISA by the Department of Labor
- Advise you on topics such as setting up an automatic enrollment plan for your employee that helps them, while protecting you from financial risks
These types of fiduciaries are generally known as 3(21) limited scope fiduciaries. Often, there is a great deal of confusion surrounding this type of arrangement. Plan sponsors sometimes feel that because “the advisor is the expert” they have shifted their investment fiduciary liability to the advisor. However, this may not be true. It is critical to review your service agreement with this type of advisor. Why? Because it sometimes includes language stating that the advisor is not a fiduciary and only provides “recommendations.” In this case, the liability remains with you.
While your provider may in fact be a “functional” fiduciary, sometimes it denies fiduciary status. For example, this happened in the case of Charters vs. John Hancock, where the court found that John Hancock was in fact a fiduciary, even though John Hancock denied it. To avoid this problem, you’ll need to get the advisor to acknowledge in writing that he or she is a fiduciary before you engage their services.
3. Investment Manager—Investment Managers have discretion to select, purchase, and monitor the investment options made available to plan participants.
The Investment Manager’s service agreement expressly acknowledges in writing that it is a fiduciary and owes a Duty of Loyalty to the plan participants (the beneficiaries of the retirement plan trust). The plan sponsor can successfully delegate the investment management functions and the resulting liability exposure as long as the fiduciary has accepted these responsibilities in writing and is qualified as a bank, insurance company or registered investment advisor. Of course, the plan sponsor must document that it prudently selected and monitors the Investment Manager. This type of fiduciary is a prudent expert and generally known as a 3(38) Investment Manager.
A 401(k) plan sponsor needs to be able to identify the different types of fiduciaries. Failing to understand the difference between an investment steward, investment advisor and investment manager can result in a plan sponsor not meeting its fiduciary responsibilities, thus exposing itself to possible financial liability. If you’re a 401(k) plan sponsor, you should carefully review your written agreements with investment advisors and investment managers to make sure you know who is?and who is not?a fiduciary.