Such conflicts of interest are particularly apt to occur at small and midsize companies, where a senior executive is also likely to be a plan sponsor or sit on the sponsor board, says Robert Rachal, a defense attorney specializing in ERISA benefits and fiduciary claims with the New Orleans office of Shook, Hardy and Bacon LLC. "Executives get to be successful businessmen because they believe in themselves and they believe they can pull a company out of trouble," he explains. "When companies get into trouble, [wearing two hats] becomes an untenable conflict situation."
When that point comes, one way to limit a potential breach of fiduciary duties is to appoint an independent fiduciary that takes over entire responsibility for the plan, and over which the senior executives with insider knowledge have no control or oversight at all. But the chances of an executive's doing that are often slim. "It's completely counterculture for a senior executive to give up control," says Rachal. So far, courts have based decisions in this area on which "hat" a fiduciary was wearing when he took specific acts.
Even executives at the highest levels of global organizations can accidentally slip up on fiduciary issues and open their companies up to liability. But a sound fiduciary identification and education effort can go a long way to help all potential fiduciaries steer clear of future problems.
Kris Frieswick is a staff writer at CFO.
Leftover Paternalism
Under ERISA regulations, a fiduciary is relieved of responsibility and liability for any loss resulting from a participant's self-directed investment decision if the employee can choose from a broad range of investment alternatives (at least three meeting certain verification requirements); give investment instructions to buy or sell with a frequency that is appropriate in light of the market volatility of those investment alternatives; and obtain sufficient information to make informed investment decisions.
Nowhere, however, does ERISA require or even encourage employers to educate their employees about making good decisions. Quite to the contrary, ERISA restrictions on "prohibited transactions," or those transactions that ERISA prohibits between a party-in-interest and the plan, have created an environment in which employers are highly unlikely to provide real investment advice or meaningful education to employees. Instead, investment education often involves a lecture on how important it is to diversify your assets into a variety of asset classes, and to minimize risk as retirement approaches. Period.
This tends to result in employees who are, for better or worse, the ultimate buy-and-hold investors. A study by the Employee Benefit Research Institute shows that even during 2000, when equities showed their biggest declines in years, employees did not shift their plan asset allocation out of underperforming stocks. One reason for this, say experts, is that some employees may still believe that their employer would never provide them with a retirement vehicle that would lose money or put their personal assets at risk. This is clearly a hangover from the days when the vast majority of companies offered defined benefit plans, in which employees were guaranteed a retirement benefit of a specific amount upon retirement, no matter what happened to the company or the market.
"The thinking is that if the company offers these investment options, then they must be OK," says Mary Turk-Meena, a principal and employee-benefits specialist with Deloitte & Touche. "You hear people say that there's no employee loyalty these days, but there's clearly an expectation of leftover paternalism."
That may soon change, however. Some of the proposed legislative changes to ERISA seek to alter the fiduciary liabilities of plan sponsors that arrange for investment advice for their employees. These changes face some of the stiffest opposition of any of the reforms. There is serious concern among some observers that companies would most likely seek this investment guidance from the same third-party investment managers they use for investing plan assets, a situation ripe for conflict of interest — not to mention unintended consequences. For example, "if you're a plan sponsor with significant employee stock in the plan," says Curt Morgan, senior vice president of Pittsburgh-based Mellon HR Solutions, "are you going to be willing to pay a third party to tell your employees to diversify out of your stock?"
As fiduciary-risk mitigation becomes an ever more important focus of corporations, it is likely that the answer to that question will increasingly be yes. —K.F.
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