From the January 2007 issue of Investment Advisor • Subscribe!

January 1, 2007

The Other Fiduciary Issue

If you--or your client--sit on a retirement plan's investment committee, know your responsibilities

Many members of company retirement plan investment committees are not fully aware of the nature of their fiduciary responsibilities. Given a variety of well-publicized fiduciary breaches within the financial services industry, federal Department of Labor regulators as well as many state attorneys general are focusing on holding fiduciaries accountable, making the atmosphere hazardous and creating a climate of tension. For actual breaches of fiduciary duty, possible results include disciplinary actions, regulatory censure, civil fines, personal liability, and potential criminal charges.

There are three main areas for concern for many company 401(k) plans. These specifically include: not having an investment policy statement; not following the provisions of an investment policy statement when one exists; and not understanding or knowing what is contained in the governing plan documents. Failure to comply with their provisions--such as missing crucial filings mandated by these regulations--is a breach of fiduciary duty.

Because the Employee Retirement Income Security Act (ERISA) is very complex, it is important for investment committee members to understand how the various provisions apply to their specific plan. One of the most important considerations in governing a retirement plan is the selection of investment committee members. These members should represent all of the various constituencies involved with the plan, including executive management, investment professionals, service providers or administrators, and participants. Each member will be knowledgeable in a specific area, but all members are responsible for the proper administration and management of the plan under ERISA.

Each investment committee member needs to understand what his or her responsibility is and how this extends to not only the investments in the plan but also to fees and other operational aspects of the plan. As such, each committee member should undertake the responsibility to gain the necessary knowledge for them to satisfy their duties under ERISA. This education is available from a wide variety of sources, including investment-consulting firms, plan sponsors, broker/dealers, trust companies, and third party administrators, as well as from individual financial advisors or investment management firms. In fact, because serving as an investment committee member is so important, financial services firms may be likely to turn this into the next sales or marketing opportunity.

Something to Protect You

The fiduciary responsibility of investment committee members is not limited to the documents or the investments, or any other particular provision. Fiduciary compliance is a total process that looks to the management of the entire plan.

Some of the specific duties of investment committees include reviewing plan documents; adopting and implementing an investment policy statement; holding regular, periodic meetings where there is an ongoing review of all aspects of the plan including investment results, fees charged, participant activities, compliance review of investment advisors and documentation requirements; and assuring that filings are timely and accurate and that the plan is in overall compliance with ERISA and other DOL mandates. While funds and fees are a big part of fiduciary responsibility, perhaps the bigger issue is the actual administration of the plan and whether that administration is "fiduciarily" compliant and prudent in operations.

In order to accomplish these tasks, the committee must be both competently run and include procedurally prudent processes. Some of the best practices of the best investment committees include having a strong and knowledgeable chairman; employing ethical and competent investment advisors; having a committee that comprises members representing many areas of expertise; and having an odd number of committee members so that there can be a majority vote. In addition, committee members should be diligent about attending meetings, reviewing the documents prior to the meeting, and understanding that their duties are considered to be one of their most important responsibilities on behalf of the plan participants.

Investment committee members must also be diligent about following the plan documents. Fiduciary responsibility is often regarded as only the prudent selection of investment options in the plan, but that responsibility goes beyond just approving those options; if you have late deposits in a 401(k) plan, that also is a fiduciary breach. If you have a prohibited transaction within the plan, then that is a fiduciary breach, and so on. If the plan is designed to qualify as a 404(c) plan, then all of the necessary disclosures and documents must be made available to the plan participants. In short, the best investment committee members understand that they must do everything to the best of their ability to protect the interests of plan participants.

A common belief is that offering all of the funds that are provided under a particular retirement product is a way to meet the requirements of 404(c). Yet, fiduciaries (committee members) cannot look solely to a product provider or a product salesperson for this assurance. Investment committee members must dig deeper to discover the underlying biases that may exist within each product.

Another best practice for investment committee meetings is to conduct periodic "update meetings" to discuss any legal changes that apply to retirement plans. A case in point is ERISA, which is dynamic. Originally passed in 1974 as a landmark piece of legislation, ERISA has undergone approximately 23 changes that (in addition to changes in other laws) govern retirement plans, not counting labor rules and regulations. Also, the Pension Protection Act of 2006 that was recently signed into law by President Bush represented the most extensive change to ERISA since its initial adoption. As such, the most prudent course of action is to stay educated and informed, which requires an affirmative action by the investment committee.

A final comment concerns the investment committee's responsibility to know, understand, and periodically review the fees and costs of the plan. In light of recent events, the issue of closely monitoring who is being paid and what the total costs are to the plan and the participants has taken on greater significance. Just recently, several lawsuits were filed against plan sponsors and investment management companies for making undisclosed payments that significantly affected the overall costs of the plan. In this era of heightened regulatory review and oversight, investment committee members must be capable of understanding all fees and then determining whether they are reasonable in light of the circumstances.

To sum up, recall that investment committee members are vested with a great deal of authority and responsibility for the proper and prudent administration of a retirement plan. The more educated and knowledgeable these members are concerning their duties, responsibilities, and potential liabilities, the better the plan will be for the participants. By adopting some or all of the best practices discussed in this article, retirement plan participants can only benefit. Helping investment committee members become better at their job is a great opportunity for financial and investment advisors to add significant value, grow their business, and contribute to a more healthy economic environment.

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