Reducing Fiduciary Liability for your Retirement Plan: The Designated Investment Manager Alternative
By Randall W. Cook
SAALFELD GRIGGS PC
As we have reported in past issues of Business Briefs, business owners who sponsor retirement plans are considered “fiduciaries” to the plan, and generally have a legal duty to protect the plan participants from unreasonable investment losses. Most plan sponsors attempt to meet this legal duty by hiring an investment advisor who guides the business owner in the selection of plan investments (in the case of a “pooled” plan), or in selecting the types of investments that will be made available to the participants on an investment platform (in the case of a “participant-directed” plan).
Unbeknownst to many business owners, relying on the advice of an investment advisor does not necessarily relieve the business owner of all liability to the plan participants should the investment selections prove to be imprudent. Rather, where both the business owner and the investment advisor participated in the ultimate selection of the plan’s investments, both are generally held liable as “co-fiduciaries.” As a practical matter, this means that when a participant sues for breach of fiduciary duty, the lawsuit is against both the business owner and the investment advisor. The two defendants, in turn, typically defend themselves by pointing fingers at one another. Because a successful claim for breach of fiduciary duty results in personal liability to the business owner, the stakes are high in these types of lawsuits.
An alternative to the liability scenario described above is offered under Section 3(38) of the Employee Retirement Income Security Act of 1974 (“ERISA”). Under that section of ERISA, a plan sponsor is permitted to formally designate a qualified “Investment Manager” who is charged with making all investment decisions regarding the plan. In the case of a pooled plan, this means that the Investment Manager decides where the plan dollars will actually be invested. In the case of a participant-directed plan, this means that the Investment Manager decides what investment options will be offered on the plan’s investment platform. In both instances, the business owner is relieved from any personal liability for how the specific investments perform.
In order to qualify for the liability exemption noted above, the designated Investment Manager must be a bank, registered investment advisor, or qualified insurance company. In addition, the plan document must empower the Investment Manager with complete power to manage, acquire, or dispose of the assets in the plan. Finally, the acceptance of the Investment Manager to serve as a fiduciary to the plan must be acknowledged in writing.
Unfortunately, appointing an Investment Manager to manage all plan assets does not completely relieve the business owner from all fiduciary duties under ERISA. Even when plan assets are invested by a designated Investment Manager, the business owner still has a fiduciary duty to monitor the Investment Manager’s overall performance. This is best accomplished by scheduling regular investment performance review meetings at which the Investment Manager compares the plan’s investment performance against industry benchmarks. These meetings should be documented with formal minutes. If the Investment Manager’s performance does not meet the requirements imposed under ERISA, the business owner has a duty to terminate the Investment Manager.
Appointing an Investment Manager to manage all plan assets can have a down side. Because the Investment Manager in such arrangements is taking on virtually all of the fiduciary liability of the plan, in most instances the Investment Manager will be unwilling to include investment alternatives suggested by the business owner. For business owners who have very specific ideas about how plan assets should be invested, this loss of control can sometimes strain the relationship. In addition, some investment advisors will charge a higher asset-based fee when serving as a designated Investment Manager than when serving as an investment advisor who takes ultimate direction from the business owner.
If you would like more information about appointing a designated Investment Manager for your plan, or information about fiduciary liability in general, please contact a member of the firm’s Employee Benefits Group.