Tag Archive for: prudence

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Brokerage Windows–A Matter of Prudence

“Several of my plan sponsor clients are considering adding a brokerage window to their plans’ investment line ups. Is that a good idea?”

ERISA consultants at the Retirement Learning Center (RLC) Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, stock options, and Social Security and Medicare.  We bring Case of the Week to you to highlight the most relevant topics affecting your business. A recent call with an advisor in Georgia is representative of a common inquiry related to 401(k) plan investments.

Highlights of Discussion

Adding a brokerage window to a plan’s investment menu is not a question of good or bad, but of prudence and loyalty under ERISA’s best interest standards. As clearly stated in Q&A 39 of Field Assistance Bulletin 2012-02R, plan sponsors that utilize brokerage windows that enable participants and beneficiaries to select investments outside of their plans’ designated investment alternatives (DIAs) have a statutory and ongoing fiduciary duty to evaluate whether such options are prudent investment alternatives for their plans under ERISA Sec. 404(a).

Further, with respect to participant disclosures related to brokerage windows, a plan sponsor must provide a(n)

  1. General description of the brokerage window (or like arrangement) sufficient enough to enable participants and beneficiaries to understand how the window works;
  2. Explanation of any fees and expenses that may be charged against the individual account of a participant or beneficiary on an individual, rather than plan-wide, basis in connection with the window; and
  3. Statement of the particular service and dollar amount of fees and expenses that actually were charged during the preceding quarter against the participants’ accounts in connection with the window.

While the DOL, clearly, does not prohibit the use of brokerage windows within self-directed plans, neither has it given much regulatory guidance on the matter. The ERISA Advisory Council confirmed the lack of solid guidance in a December 2021 study, “Understanding Brokerage Windows in Self-Directed Retirement Plans.”  However, most Council members did not believe that additional guidance in this area was needed. “In this regard, the Council observed that the marketplace seemed to be functioning well.”  The Council did recommend the DOL consider further fact finding related to brokerage-window-only (BWO) plans (i.e., plans that have no DIAs and brokerage accounts are the sole investment option) out of a concern “… that those types of plans may not incorporate the spirit of ERISA’s intent and protections for financially inexperienced employees and may need the Department’s attention …”

With respect to brokerage windows, the question for plan officials is whether such an arrangement, as a whole, is a prudent option for a plan and its participants (not each of the investment alternatives within the window).  That said, it seems the DOL may begin peeking inside the window a bit further. In Compliance Assistance Release No. 2022-01,  the DOL commented to the effect that if plan participants can access investments the agency deems “risky” through a brokerage window, “… plan fiduciaries responsible for … allowing such investments through brokerage windows should expect to be questioned about how they can square their actions with their duties of prudence and loyalty in light of the risks  …”

Conclusion

The DOL will hold plan fiduciaries and other officials to the ERISA standards of prudence and loyalty with respect to offering brokerage windows within self-directed plans. Such individuals and their advisors should be prepared to offer documentation in defense of their decisions and actions.

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The Line Between Education and Fiduciary Advice

Does the industry have a clear definition of what the Department of Labor (DOL) would consider investment education (not advice) in a 401(k) plan so that a financial advisor would not have to follow the requirements of Prohibited Transaction Exemption (PTE) 2020-02?

ERISA consultants at the Retirement Learning Center (RLC) Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, stock options, and Social Security and Medicare.  We bring Case of the Week to you to highlight the most relevant topics affecting your business.

A recent call with an advisor in Minnesota is representative of a common question related to investment education.

Highlights of Recommendations

The DOL believes it provides a clear roadmap for determining when financial advisors are, and are not, investment advice fiduciaries under Title I of the Employee Retirement Income Security Act of 1974 (ERISA) and the Internal Revenue Code (IRC) in PTE 2020-02 and Interpretive Bulletin (IB) 96-1. 

“Oldie but goodie” DOL IB 96–1 identifies four categories (or “safe harbors”) of investment-related educational materials that advisors or others can provide to plan participants and beneficiaries without being considered to have provided fiduciary investment advice: 1) Plan information, 2) General Financial and Investment Information, 3) Asset Allocation Models and 4) Interactive Investment Materials.

Plan Information

Information about the benefits of plan participation, the benefits of increasing plan contributions, the impact of preretirement withdrawals on retirement income, the terms of the plan, the operation of the plan, or descriptions of investment alternatives under the plan would not constitute investment advice.

General Financial and Investment Information

General financial and investment concepts, such as risk and return, diversification, dollar cost averaging, compounded return, and tax-deferred investment; historic differences in rates of return between different asset classes (e.g., equities, bonds, or cash) based on standard market indices; effects of inflation; estimating future retirement income needs; determining investment time horizons; and assessing risk tolerance would not constitute investment advice.

Asset Allocation Models

Examples would include pie charts, graphs, or case studies that provide a participant or beneficiary with asset allocation portfolios of hypothetical individuals with different time horizons and risk profiles.  Such models must satisfy the following requirements.

  1. The models must be based on generally accepted investment theories that take into account the historic returns of different asset classes (e.g., equities, bonds, or cash) over define periods of time.
  2. All material facts and assumptions on which such models are based (e.g., retirement ages, life expectancies, income levels, financial resources, replacement income ratios, inflation rates, and rates of return) must accompany the models.
  3. To the extent that an asset allocation model identifies any specific investment alternative available under the plan, the model must be accompanied by a statement that
    • Indicates that other investment alternatives having similar risk and return characteristics may be available under the plan;
    • Identifies where information on those investment alternatives may be obtained; and
    • Discloses that, when applying particular asset allocation models to their individual situations, participants or beneficiaries should consider their other assets, income, and investments (e.g., equity in a home, IRA investments, savings accounts, and interests in other qualified and non-qualified plans) in addition to their interests in the plan.

Interactive Investment Materials

Examples in this category could include, but are not limited to, questionnaires, worksheets, software, and similar materials that provide a participant or beneficiary the means to estimate future retirement income needs and assess the impact of different asset allocations on retirement income.

Such materials must

  1. Be based on generally accepted investment theories that take into account the historic returns of different asset classes (e.g., equities, bonds, or cash) over defined periods of time;
  2. Contain an objective correlation between the asset allocations generated by the materials and the information and data supplied by the participant or beneficiary;
  3. Include all material facts and assumptions (e.g., retirement ages, life expectancies, income levels, financial resources, replacement income ratios, inflation rates, and rates of return) that may affect a participant’s or beneficiary’s assessment of the different asset allocations (Note: These facts and assumptions could be specified by the participant or beneficiary);
  4. (To the extent they include an asset allocation generated using any specific investment alternatives available under the plan), include a statement indicating other investment alternatives having similar risk and return characteristics may be available under the plan and where information on those investment alternatives may be obtained; and
  5. Take into account or are accompanied by a statement indicating that, in applying particular asset allocations to their individual situations, participants or beneficiaries should consider their other assets, income, and investments (e.g., equity in a home, IRA investments, savings accounts, and interests in other qualified and nonqualified plans) in addition to their interests in the plan.

While the provision of investment education is not a fiduciary act, the designation of a person or entity to provide investment educational services to plan participants and beneficiaries is a fiduciary act. Therefore, persons making this designation must act prudently and solely in the interest of the plan participants and beneficiaries.

Conclusion

The DOL provides examples of investment education in IB 96-1 that, when delivered, would not be considered investment advice, thereby helping the educator to avoid fiduciary liability for the information. However, the act of selecting the individual or entity to provide investment education to 401(k) plan participants and beneficiaries is a fiduciary act, subject to the standards of loyalty and prudence.

 

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