Too Many Choices?


Some of the earliest investment advice given: “Don’t put all of your eggs in one basket.” Its value is enduring. An investor can minimize the risk of losing money by diversifying the allocation of money into different categories of investments. Even within a single category, an investor can choose investment vehicles, such as mutual funds, spreading ownership over an array of financial instruments. Are plan sponsors successful if they offer participants the highest possible amount of mutual funds and other investment choices?

Offering a large number of funds does not equate to success in either the realm of compliance with regulation, nor in achieving maximum levels of employee participation. It is important to offer the appropriate number of choices to empower participants to meet goals for retirement income. It is also important to do this in a manner that allows the employer to meet fiduciary responsibilities.

Fiduciary Responsibility

On one hand, participant-directed accounts, such as many 401(k) plans, give members control over their own investment accounts. On the other hand, the plan sponsor is generally still responsible for the fiduciary liability associated with selecting and monitoring the investment vehicles being made available to participants. Good processes with solid documentation of their application provide the foundation, enabling employees to make good decisions about investments. These factors also position the employer to face an Employee Benefits Security Administration (EBSA) audit without undo fear of negative consequences. Most employers will need to engage the services of a “prudent expert” as a guide along the path of selecting and monitoring appropriate investment opportunities.

A prudent expert financial advisor must be familiar with methods required to deliver comprehensive analysis of investment vehicles. Among these methods is the necessity to establish and track appropriate benchmarks to measure a particular investment’s performance over time. Understanding the purpose of a particular class of investments and how the particular fund being offered relates to its peers is more important than offering a large number of funds in that class.

Sponsors need to maintain an Investment Policy Statement outlining the categories of investments to be offered to participants. This document should also identify the committee and entities responsible for choosing, monitoring, and, when appropriate, replacing the individual investment options offered to participants. This tool will assist the sponsor in seeing when it is appropriate to replace an option instead of just adding new options. Beyond concerns about managing an employer’s exposure to liability, providing a reasonable, yet limited, choice of options can actually improve employees’ willingness to participate in the benefit plan.

Participant Behavior

Fewer choices are better when people do not come into a situation already knowing for sure what they prefer. This describes most employees in their relationship to employee benefit plans. They simply do not know what to do without education. Initially, it may seem logical to grant the widest possible range of options. If surveyed, employees may even indicate a strong preference for unlimited choices. However, the employer’s goal is not to merely capture interest — the goal is to make it easy for employees to participate in a benefit plan and see progress towards fulfillment of their own financial objectives.

The opportunity to make some choices is a good thing for participants. Indeed, it is necessary for employees with participant-directed accounts to be offered options so that they can achieve diversification of their investments. However, too much of a good thing is manifest when participants experience choice overload.

Behavioral scientists are finding choice overload to be a condition people experience when they withdraw from a situation out of fear of making the wrong decision. Often an individual starts off highly motivated as they begin to examine the choices they have been presented. As choice overload sets in, the extensive array of choices becomes demotivating, and the individual may put off a decision to commit or give up entirely.

Sheena S. Iyengar of Columbia University and Mark R. Lepper of Stanford University demonstrated the impact of choice overload when they studied the influence of choice on the purchasing habits of 502 people who were introduced to various selections of exotic jams. They found that 60 percent of the people given the opportunity to choose from 24 items were interested in investigating, but only 3 percent made a purchase. By contrast, only 40 percent of those given the limited choice of 6 items investigated, but 30 percent made a purchase. The average quantities of jam individuals were willing to taste test was less than 2, regardless of whether they were offered an array of 6 or 24.

Employers can promote participation in benefit plans by reducing the complexity of presentations to employees. Making use of competent advisors, employers can present employees with properly labelled choices packaged in a consumer-friendly manner.

DOL cracks down on employer 401(k) issues

Originally posted March 31, 2014 by Scott Wooldridge on

The press release headlines are sobering: “U.S. Labor Department files suit to remove trustees,” “Department of Labor files suit to recover unpaid contributions to 401(k) plan,” and “Judge orders trustees to restore losses.”

The Department of Labor website is overflowing with cases of regulators taking action against employers accused of mishandling employee benefit plans.

Among the most common cases: errors in administering 401(k) plans. Although Labor Department officials and experts in the ERISA field say the majority of cases are errors in reporting and do not result in civil lawsuits, the numbers of benefit plan cases investigated (of all kinds) are still impressive: the DOL closed 3,677 investigations in 2013, with nearly 73 percent of those resulting in monetary fines or other corrective action. Lawsuits were filed in 111 of those cases.

The department says it is working to educate employers about how to avoid errors, including conducting seminars and providing information on the DOL website.

In a March 21 blog post, Phyllis Borzi, assistant secretary of Labor for employee benefits security, noted that employers could find it challenging to administer benefits such as 401(K) plans.

“Most fiduciaries — people who have key responsibilities and obligations to an employee benefit plan — and employers want to do the right thing,” she said in the piece. “However, inadvertent mistakes can create significant problems for fiduciaries and participants.”

The problems can lead to substantial monetary fines and settlements.

In January, for example, the DOL announced that a Chicago-area manufacturing firm, Hico Flex Brass, would pay $79,000 to settle a case in which the company failed to properly distribute 401(k) earnings to employees.

A Jan. 10 complaint by the DOL asked the courts to rule that a machine shop in Santa Maria, Calif., should restore $58,000 in 401(k) contributions that the company improperly mixed with other business accounts.

For large companies, the costs are even higher.

A lawsuit brought by employees of International Paper resulted in a $30 million settlement in January, although that case was litigated by a law firm and not the DOL.

Even when the dollar figures aren’t as high, cases involving 401(k) administrative errors can hit small and medium-sized employers hard.

Lawyers who work on employee benefits cases say many employers don’t pay close enough attention to the complexities of administering retirement plans.

“It’s just difficult at times for employers to keep up and attend to all the details,” said John Nichols, an employment benefits lawyer with Minneapolis-based Gray Plant Mooty. “The rules are complex, and the administration of the plans is correspondingly complex.”

Plenty of room for error

“The reality is that running a benefit plan such as a 401(k) plan has a lot of room for error built into it,” said Stephen Rosenberg, an ERISA attorney with The McCormack Firm, based in Boston. “Many of these small and medium-sized companies are focused on running their business. They need to provide a 401(k) as an employee benefit but they don’t really have the internal resources to do this.”

Rosenberg said even large businesses often stumble with retirement plan administration. “Retirement plans, including 401(k) plans, are probably more regulated than anything in American economic life short of nuclear power plants,” he said. “It’s very difficult for any company not large enough to have a dedicated legal staff to hit every hurdle correctly.”

Nichols said that the DOL tends to investigate certain areas of plan administration pretty consistently. “You see a lot of similarity” of the cases, he noted. “One exercise (employers can consider) is to go down the list of typical cases and say, ‘How are we doing in each of these areas?’”

Common pitfalls

So what are the areas the DOL tends to investigate? The experts interviewed for this story agreed that there are several areas where problems may trigger a DOL investigation of employers.

One is failing to make a timely remittance to the 401(k) plan. Under federal rules, funds from an employee’s paycheck have to be submitted to their retirement account no more than 15 days after the money is withheld from the paycheck.

A second common issue is making sure employees get their statements in a timely manner. Proper disclosure of fees owed to the plan’s fiduciaries (the company in charge of administering the funds for the plan) is another area that DOL looks at closely. And some companies have been found noncompliant for failing to maintain fidelity bonds for their plans, a safeguard against misuse of funds.

“I do see companies who are loose about when they make deposits; they just treat it like the rest of the cash flow in the company,” said Rosenberg.

Avoiding costly mistakes

Rosenberg and Nichols said there are several steps employers can take to avoid trouble with DOL regulators.

They both said companies need to take their fiduciary responsibilities seriously, and not expect that a retirement plan will run itself. An important first step is keeping good records.

“If you have a committee that is responsible for the administration of the plan or its investments, make sure that they meet regularly and that you keep a good record of committee actions, what’s discussed, and how decisions are made,” Nichols said.

Getting help

Rosenberg said companies need to be realistic about whether they have the time, resources, and knowledge to administer and monitor retirement plans themselves.

“The key in many ways for smaller and midsized companies is really to find a very good outside consultant — and I don’t mean your vendor,” he said. “If you have a huge company you have a department to do this. If you’re not, bring in a consultant and outsource that role.”

Nichols agreed that the vendor — the financial services company that provides the investment plan — has a limited role. “Vendors are pretty good at allocating accounts and providing access to account information,” he said. “That doesn’t mean that the whole job is done. You didn’t get a totally turnkey product. There are things you need to do as well.”

Failing to watch, of course, could mean triggering a DOL action.

“There’s always a monitoring responsibility,” a DOL spokesperson said. “The criteria we use is, ‘You should have known. You might not have known, but you should have known.’”

3(21) Fiduciaries More Popular Among Plan Sponsors

By: Paula Aven Gladych

Plan sponsors are increasingly looking for investment advisors who can shoulder some of the fiduciary burden related to offering employee retirement plans. More frequently they are turning to companies that offer fiduciary coverage under section 3(21)(A) of the Employee Retirement Income Security Act.

“There’s definitely an uptick in having an independent entity sign off as a fiduciary along with the plan sponsor,” said Chris Reagan, managing director and practice leader for Mesirow Financial’s Retirement Plan Advisory Group. The number of plan sponsors interested in such an advisor has increased as the number of class action lawsuits filed by plan participants against their retirement plans has risen, he added.

In February 2008, the U.S. Supreme Court ruled in LaRue v. De Wolff, Boberg & Associates, Inc. that plan participants may take action against plan sponsors. Many lawsuits followed, which has scared many advisors away from becoming fiduciaries, he said.

“If you are a plan sponsor and a fiduciary to the plan, you have a duty to act in the best interest of your participants,” Reagan said. “You need to be a prudent expert. If you are not, you need to go out and find that expertise. In today’s environment, a 3(21) investment fiduciary is another expert that a plan sponsor can lay off or share some responsibility and liability with.”

Under the Employee Retirement and Investment Security Act, section 3(21)(A) states that a person is a fiduciary with respect to a plan to the extent he exercises any discretionary authority or discretionary control respecting management of such plan or exercises any authority or control respecting management or disposition of its assets, he renders investment advice for a fee or other compensation, direct or indirect, with respect to any moneys or other property of such plan, or has any authority or responsibility to do so, or he has any discretionary authority or discretionary responsibility in the administration of such plan.

“Not everyone in the marketplace will serve as a fiduciary. Some only act as a broker and won’t sign on as a fiduciary,” Reagan said. Most plan sponsors prefer 3(21) fiduciaries over 3(38) fiduciaries, he said. The difference between the two is that a 3(38) investment advisor “has discretion so they can act without really informing the plan sponsor. The plan sponsor has charged them with the duty to oversee the plan, whereas a 3(21) does not have discretion. They make recommendations but refer to the committee for final decisions,” he said.

Mesirow Financial acts as a 3(21) fiduciary for plan sponsors. “As a registered investment advisor and a fiduciary, we need to act in the best interest of a plan and its participants. Typically, we negotiate a fee upfront with our clients. We don’t work on a commission basis. We are not paid on product. It doesn’t matter to us who chooses what. It is all the same to us. What provider they are with, doesn’t matter. As long as we are working for the plan sponsor we are acting in the best interest of the plan,” Reagan said.

Transamerica Retirement Services announced in late October that it was partnering with the Investment Strategies group at Mesirow Financial to offer a new ERISA Section 3(21) fiduciary service to help retirement plan advisors and sponsors mitigate investment fiduciary risk.

As part of this service, Mesirow Financial is providing plan-level investment advice related to the selection and monitoring of the plan’s investment lineup. The company will act as an investment fiduciary to the plan along with the plan sponsor, who maintains ultimate control over the plan’s investment menu.

“We offered it both at the request of our plan sponsor clients and the schematic and trend in the industry to have somebody other than a plan sponsor to act as a fiduciary alongside plan sponsors,” said Jason Crane, senior vice president and national sales director for Transamerica Retirement Services. “Many of our distribution partners, our broker/dealer partners, allow their brokers to act in a fiduciary capacity. Many of our historic partners have chosen not to allow their advisors to act in a fiduciary capacity. In this instance, it acts as protection for our plan sponsors.”

Until the U.S. Department of Labor re-proposes its definition of “fiduciary” in 2012, many advisors are taking a wait-and-see attitude, Crane said. The partnership with Mesirow Financial is a “great offering for our clients who will not work in that capacity. [Mesirow] will review our portfolios and distill them down to an elite list. Those funds are scrubbed through Mesirow’s due diligence process.”

He added that the nice thing about the 3(21) service is that “Mesirow will defend any and all claims within its fiduciary duty.”

Transamerica’s financial advisors who have chosen not to act in a fiduciary capacity will remain “key contacts to our clients. They can help clients to mitigate their fiduciary risk without taking on a stated fiduciary capacity themselves. Our financial advisors can recommend a fund lineup using Mesirow’s elite list or they can suggest that a plan sponsor adopt one of three prefabricated portfolios constructed by Mesirow Financial based on the plan’s demographics,” Crane said. As long as a portfolio is constructed of Mesirow’s elite funds, the plan sponsor will get that additional fiduciary mitigation.

A July 2011 report by Diversified Investment Advisors predicted that by 2015, “advisors will no longer be in a position to receive compensation unless they assume ERISA Section 3(21) fiduciary responsibilities. This differs from the current regulatory framework, which allows plan sponsors to choose from other models, including broker/dealer, consultant and advisor models.”

The report, “Prescience 2015: Expert Opinions on the Future of Retirement Plans,” stated that the “need for ongoing holistic service from a third party is leading many plan sponsors to opt for a professional retirement plan advisor that services plans on a fee or retainer basis.”

Joe Masterson, Diversified senior vice president, said in a statement: “The emergence and organization of professional retirement plan advisors will have a profound impact on our business over the next five years. These professionals are dedicated to the retirement plans business, and therefore are well-suited to understanding plan compliance, designing appropriate fund arrays, positively impacting plan design and helping participants achieve funded retirements.”

David Wray, president of the Plan Sponsor Council of America, said that new rules regarding who is and isn’t a fiduciary will “clarify that the people helping shoulder the burden are actually doing it.” Most plan sponsors believe they have been getting that level of commitment from their advisors, he said. “Some plan sponsors would like to hire someone and actually have them make investment decisions for them and some want them to advise them on helping them make the decisions, but in both cases, the person helping the plan sponsor should be a fiduciary.”

Wray added that, “it’s best to have an advisor have their priority be the benefit of the participants rather than the interest of their employer.”