401k Advisors MUST Educate Plan Sponsors on Two Numbers

Important difference between 3(21) and 3(38) providers

401(k) advisors must educate plan sponsors on 3(21) and 3(38).401(k) advisors must educate plan sponsors on 3(21) and 3(38).

With the advent of new and more stringent regulations from the Department of Labor and Securities and Exchange Commission, 401(k) advisors are well-aware the word of the day is “fiduciary.”

And while any regulatory change is likely to be met with nervousness and resistance, adherence to a new fiduciary standard can be a good thing for all the stakeholders— 401(k) plan sponsors, participants, advisors and service providers.

In an effort to deal with their enhanced responsibilities in as painless a way as possible, some plan advisors are considering outsourcing certain responsibilities to service providers who can act as 3(21) and 3(38) fiduciaries.

In order to choose the best solution for their plans, advisors must educate sponsors first so they understand the difference between being a fiduciary under 3(21) or 3(38).

Section 3(21) of the ERISA defines a fiduciary as anyone who makes decisions about managing the retirement plan, its investments, and administration along with who is paid to provide investment advice to the plan.

Fiduciaries, covered under this section, are responsible only for the actions under their power or control, but must still perform their duties in accordance with the plan participants’ best interest. If they lack the appropriate skill or experience to handle those duties, they must seek independent guidance.  A plan sponsor, even when using the services of a third party, retains fiduciary liability.

For plan sponsors the most important difference between 3(21) and 3(38) providers is the level of fiduciary liability. A 3(21) provider is a co-fiduciary who makes recommendations and shares liability with the plan sponsor, but it is up to the sponsor to make the final decisions relating to the plan’s investments. A 3(38) provider assumes all liability related to the plan’s investments.

The benefit of outsourcing investment responsibility to a 3(38) fiduciary is that it can free up the plan advisor to further assist the plan sponsor by monitoring the plan’s other service providers—custodian, recordkeeper, third-party administrator, along with offering better participant engagement.

In today’s highly litigious climate the assumption of fiduciary responsibility by the investment manager is one of the key advantages for plan sponsors choosing the 3(38) outsourcing option. It allows the sponsor to maintain control of certain aspects of the plan, while outsourcing the investment management component to a professional, which is likely not an area of great expertise for a plan sponsor.

Until recently the ability to outsource investment decisions to a 3(38) investment manager was limited to the largest of plans, but technology and scalability has helped to change that and made the benefits of 3(38) outsourcing available to the employer with a small retirement plan and therefore, many more plan participants.

And it’s not only the plan sponsors who stand to benefit when their advisor recommends use of a 3(38) fiduciary. Participants benefit because the advisor to the plan, now freed from any fiduciary responsibility for the plan’s investment options can give advice on retirement planning, rollovers and other retirement issues without having to worry about potential litigation.

The plan’s advisor can take a more holistic approach to helping participants manage their entire savings portfolio and is also able to offer wealth management services to those plan participants that need them. Being able to help participants plan for retirement during the early stages of their careers can help the advisor demonstrate additional value to the plan sponsor.

Bob Ward is chief revenue officer at Vertical Management SystemsBabu Sivadasan is group president of Envestnet | Retirement Solutions.+

1 Comment on "401k Advisors MUST Educate Plan Sponsors on Two Numbers"

  1. With all these proposed levels of outsourcing, it is important that the plan sponsor understand their continuing fiduciary duty to monitor the plan provider that they selected, which, it can be argued, includes monitoring the performance the service provider’s delagatees, including the 3(38) fiduciary. Plaintiff’s bar is going to allege liability for everyone connected in any way to the loss incurred by a plan and its participants. Far too many plan sponsors have a false sense of security when they outsource, not realizing their ongoing fiduciary duties to the plan and its participants.

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