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How 401k Plan Sponsors Can Mitigate Fiduciary Liability Associated with Target Date Funds

How 401k Plan Sponsors Can Mitigate Fiduciary Liability Associated with Target Date Funds
April 02
00:03 2019

Previously, we outlined and examined the often unanticipated problems that can bedevil unsuspecting 401k plan sponsors (“5 Areas Where Target Date Funds Increase 401k Plan Sponsors’ Fiduciary Liability,”, March 26, 2019). If these represent the poison, what antidotes can be help save 401k plan sponsors from that unwanted fiduciary liability?

It turns out there are two strategic paths to use when it comes reducing liability. One approach occurs after the fact – after the target date funds are already in place. The other approach takes place before the target date funds are even placed on the 401k plan menu. It is in this “before” approach where most of the work is done. We’ll start with that.

Before: Due Diligence & Expert Advice
As with most fiduciary responsibilities, unless you undertake your duties on a full-time basis, it’s generally considered better to bring in an established professional with expert experience. These service providers can help in both the “before” and “after” approaches. “A plan sponsor could consider utilizing an independent 3(21) or 3(38) fiduciary resource to assist with the selection, monitoring and on-doing due diligence of their investment lineup,” says Matthew Zokai, Senior Advisor Retirement Services at 1st Global in the Dallas/Fort Worth Area.

Of course, this due diligence process extends to all service providers. It’s especially incumbent upon plan sponsors to determine if an affiliation exists between the investment products and any of the service providers hired by the plan. “Sponsors should carefully consider the conflicts of interest their providers have, especially when the advisers or the plan administrators earn a portion of the fund’s annual expense fee charged to the employees, “says Joshua Escalante Troesh, President of Purposeful Strategic Partners in Alta Loma, California. “Sponsors should research switching to a plan provider where the plan adviser, the plan administrator, and the plan custodian are three separate entities so as to hold each other accountable for keeping fees low.”

Once this service provider foundation has been established, the 401k plan sponsor, in conjunction with their fiduciary adviser, can look at specific target date fund families. Here, peeking behind the prospectus to inspect the people behind the fund is important. “Work with high quality, established investment managers, who have evidence-based, academic heavy approaches,” says Michael Tanney, Managing Director of New York City based Wanderlust Wealth Management. “The last thing a sponsor wants is for the underlying manager to blow the clients up and have no recourse because they turned a blind eye out of laziness.”

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Having been satisfied by the human component, now the plan sponsor can begin to pick apart the mechanics of the target date fund. Beyond the usual “smell test,” this is critical, as the plan sponsor should expect to have to explain those mechanics to employees. “When considering a target date fund series, plan fiduciaries can reduce their risk by evaluating several TDF options, and by asking questions,” says Robin Solomon, an attorney in the Benefits and Compensation practice of Ivins, Phillips & Barker, in Washington DC. “They should compare each fund family’s glidepath, fee structure, and investment philosophy. Fiduciaries also may wish to consider whether a custom target date fund is an appropriate option for their plan.”

Ronald Surz, President of Target Date Solutions in San Clemente, California, cuts to the quick when he says, “Choose a TDF with low risk at the target date. There are about 5 of these, so reviewing them shouldn’t take long.”

“Document, document, document!” says Zokai. “It is imperative for plan sponsors to document all research and due diligence in their decision-making process.” The entire due diligence process needs to be systematized, codified, and easily repeatable not matter who fills the various job titles assigned by the plan sponsor to administer the plan. Leaving these breadcrumbs not only helps future employees, but it may insulate the plan sponsor from future litigation.

The fun doesn’t stop when the decision has been made and the target date has been placed on the 401k plan’s investment option menu. The plan sponsor still has an ongoing unit of work to help prevent unwanted fiduciary liability to begin nosing its way under the plan’s tent.

After: Periodic Review & Education
Unlike employees, 401k plan sponsors can’t “set it and forget it” (although they may wish they could). They’re the folks on the hook to react quickly should the target date fund experience any “life-changing events.” John C. Hughes, an ERISA/benefits attorney at Hawley Troxell in Boise, Idaho, says that 401k plan sponsors should “continue to understand, select, and monitor TDFs just like other funds on the plan’s investment menu.”

It goes without saying the fiduciary duty to periodically review aspects of the plan goes well beyond the specifics of the target date fund. “To mitigate the liability,” says Troesh, “plan sponsors should also conduct regular fiduciary reviews of their plan providers to benchmark their plan fees and performance.”

That’s not all. Plan sponsors must help satisfy plan participants the plan meets their needs and concerns. This is accomplished through regularly scheduled employee seminars, 24/7 website portal, and various other methods of engagement. “Educating employees is one of the most valuable things an employer can do, not just to reduce liability but to improve the financial lives of the employees,” says Troesh. “Financial wellness programs and financial literacy seminars provided by advisers who are legally held to the fiduciary standard can go a long way to improve the lives of employees and to demonstrate the employer is actively working to educate plan participants.”

Offering target date funds on a 401k plan investment menu affords advantages to both plan sponsors and plan participants. But, it’s not a slam dunk. These popular QDIAs come in many flavors and can present prickly pitfalls to 401k plan sponsors who underestimate their fiduciary duties. Still, it is possible to mitigate much of this potential liability with the standard tools and techniques plan sponsors rely on every day.

Christopher Carosa is a keynote speaker, journalist, and the author of 401(k) Fiduciary SolutionsHey! What’s My Number? How to Improve the Odds You Will Retire in Comfort, From Cradle to Retirement: The Child IRA, and several other books on innovative retirement solutions, practical business tips, and the history of the wonderful Western New York region. Follow him on TwitterFacebook, and LinkedIn.

Mr. Carosa is available for keynote speaking engagements, especially in venues located in the Northeast, MidAtantic and Midwestern regions of the United States and in the Toronto region of Canada.


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Christopher Carosa, CTFA

Christopher Carosa, CTFA

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