What is Your Fiduciary Duty as a Plan Sponsor?

Fiduciary Duty as a Plan Sponsor

Written by Bradley Knowles

December 7, 2021

As a plan sponsor, you have a fiduciary duty to the participants in your plan. These responsibilities are outlined in the Employee Retirement Income Security Act of 1974 (ERISA). In general, as a fiduciary you are responsible for ensuring the plan’s investments are optimized in the best interest of the participants; i.e. diversified, free of poor-performing funds, and with reasonable fees. However, some plan sponsors fail to recognize this duty.

According to a recent survey by JP Morgan, 25 percent of plan sponsors believed they retained no fiduciary responsibility for selecting and reviewing investment options, and an additional six percent were unsure if they did. Unfortunately, failing to fulfill your duty as a fiduciary comes with significant risk. Since 2009, approximately 83,000 ERISA lawsuits have been filed, commonly for things like high fees or poor fund performance. Furthermore, if you are found to have breached your fiduciary duty, you can be held personally liable.

Additionally, the standard that you as a fiduciary are held to is called the Prudent Expert Standard, meaning that unless you have expertise at the plan sponsor level, you are required to consult with an expert.
There is good news however. That same survey from JP Morgan also found that 80 percent of plan sponsors who recognize that they are fiduciaries are either extremely or very confident they are meeting their obligations.

So What Exactly Are the Fiduciary Roles?

Section 3 of ERISA defines three types of fiduciaries pertaining to benefit plans. Paragraph 16 defines the plan “administrator”, who is typically responsible for things like reporting, filing the Form 5500, participant disclosures, and summary plan descriptions. You’ve likely already outsourced these duties to your third-party administrator (TPA).

Paragraphs 21 and 38 define two other types of fiduciaries, pertaining to investments. Paragraph 3(21) defines as a fiduciary anyone who (1) exercises any discretionary authority or control regarding the management of an employee benefit plan or the disposition of its assets, (2) renders investment advice in exchange for compensation with respect to any assets of the plan, and (3) exercises any discretionary authority or control over the administration of the plan. This definition applies to the plan administrator, the plan trustee, and any investment advisor the plan may use.

Paragraph 3(38) defines the term “investment manager” as anyone who (1) has the power to manage, acquire, or dispose of any asset of a plan, (2) is a registered investment advisor, bank, or insurance company qualified to provide these services, and (3) has acknowledged in writing that they are a fiduciary with respect to the plan.

So What Does That Mean?

Basically, you as a plan sponsor are responsible for managing the investments of the plan, but there are two specific ways you can outsource these duties to ensure you meet the Prudent Expert Standard and limit your risk as a fiduciary. You can hire an investment advisor, or co-fiduciary, under paragraph 3(21), or you can hire an investment manager under paragraph 3(38).

What is the difference?

There are a few key differences between the 3(21) and 3(38) fiduciaries. The first is their ability to act. A 3(21) co-fiduciary can make recommendations, but can’t change the investment lineup or dispose of plan assets. It’s up to the plan sponsor to act on their recommendations. In contrast, a 3(38) fiduciary will decide what the investment options will be, monitor performance, and make changes accordingly. Essentially, they take over completely the investment management of the plan.

Handcuffed to this is the difference in risk you retain with each of these scenarios. With a 3(21) co-fiduciary, you remain liable for the performance of the funds and the fees they charge. You also must ensure that you are not blindly following the recommendations of your advisor. You must evaluate their recommendations, monitor fund performance, and ensure you document these evaluations.

Hiring a 3(38) fiduciary, however, shifts nearly all this risk (and work) to them. They are solely responsible for any liability arising from poor fund performance, lack of diversification, and fees charged to participants. This doesn’t get you completely off the hook however. You are still responsible for the due diligence in selecting and monitoring this advisor, which you should be sure to document. They will also need to acknowledge that they are a fiduciary of the plan in writing.

Is an Investment Advisor Right for Your Plan?

We know that plan sponsors are generally not in the business of administering benefit plans or evaluating investment options. Outsourcing these responsibilities is a great way to increase compliance and reduce costs. However, it is key to the successful operation of an employee benefit plan to understand your role as a fiduciary, and the roles of those you hire; as well as how much control you are giving up, and how much potential liability you retain.

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Bradley Knowles
As an associate, tax and audit services to a variety of clients that include commercial entities, individuals, nonprofit organizations, and employee benefit plans.

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