For 401(k) plan participants, finding the right balance between overly conservative investing (resulting in insufficient funds to fund retirement) and overly aggressive investing (risky as one gets closer and closer to retirement age with no time to recoup losses) is too often a challenge.
To ease that challenge, the Department of Labor recently ruled that 401(k) plan sponsors and committees may provide investment advice to plan participants, as plan providers and advisers that meet certain conditions have been able to do since enactment of The Pension Protection Act of 2006.
Under the new rules, investment advice from a “fiduciary adviser” is no longer prohibited if the advice is provided by computer modeling or a level-fee arrangement and meets several other requirements, such as sufficient auditing and disclosure. The regulations also include a model version of the disclosure that must be provided to participants before investment advice is implemented. The final regulations apply to transactions occurring on or after December 27, 2011.
A few highlights of the regulations:
- Computer Models. The regulations permit computer models to exclude from consideration various investment alternatives, most notably employer securities, asset-allocation funds (e.g., lifecycle or target-date funds), and in-plan annuities. The final regulations also permit the exclusion of investment alternatives that participants ask to be excluded. However, computer models must take into account employer securities and asset-allocation funds, if applicable. The final regulations contain a stated requirement to appropriately weight all factors considered in the model. The regulations also clarify that the person or entity that develops the computer model cannot serve as an “eligible investment expert” for purposes of certifying the model as required prior to its implementation.
- Auditing Investment Advice. In order to satisfy the regulations, an independent auditor must audit the investment-advice arrangement on an annual basis. The final regulations add new details to be included in the auditor’s report to the fiduciary adviser, and also specify that the auditor must not have had any function in the development of the investment-advice arrangement or the certification of the computer investment model. Also, the regulations include a requirement that the fiduciary adviser provide the plan fiduciary who is responsible for prudent selection and monitoring of the investment-advice arrangement (i.e., the employer, the plan investment committee, etc.) with written notification that the adviser intends to comply with the exemption and that the annual audit report will be provided to the responsible plan fiduciary within 60 days of its completion.
- Disclosure to Participants. Before providing the advice, the fiduciary adviser must give participants and beneficiaries a written notice. Fiduciary advisers may use the model disclosure provided in the final rules.
- Prudent Selection and Monitoring of Adviser. The guidelines list factors to consider when selecting an investment adviser. The plan committee is required to engage in a discreet and careful process by obtaining and reviewing “relevant” information and reaching a “reasoned” decision. Relevant information includes those pieces of information that one who is knowledgeable in such decisions would consider before making such a decision. The performance of the selected adviser must be monitored periodically. In addition, actual performance of the adviser and participant complaints are also considered. The process for both selection and subsequent periodic monitoring must be documented in writing and recorded in committee-meetings minutes. The committee’s due-diligence file should incorporate any documentation reviewed for selection and monitoring purposes.
The plan committee should also be careful to obtain the following, initially and on an annual basis: certification of computer model (if applicable), annual audit of investment-advice service, notice being given to the participants, and a written commitment by the adviser that it is satisfying regulation conditions. Most of the necessary documentation can be provided to meet specific requirements and can be verified quite easily. However, the plan committee should verify all documentation and information, and should be aware of the specific factors that need to be reviewed.
The quality of participant investing in retirement plans is a crucial aspect of planning for long-term investing. Fiduciary investment advice is one significant step an employer can take to help employees reach their investment goal of a financially stable retirement.
Jeff Mamorsky is co-chair of the global benefits practice at law firm Greenberg Traurig. He extends his appreciation to his associate Ira Reifer in the preparation of this article.