401(k) Fiduciary Guide


F is for Fiduciary

Who Is a Fiduciary?

I am sure the question has been on your mind all day. It probably keeps you up at night. You probably just finished a conversation about it with a co-worker. Or not. All kidding aside, a fiduciary may be familiar to you because of your position as an owner or executive for your company. It also could be a foreign concept. My hope is that I can shed some light on all the fiduciary minutiae and expand whatever knowledge you may already have. Then, I can provide you with real understanding and options when it comes to your 401(k) plan. In general, a fiduciary is anyone who exercises authority or control over the management of a retirement plan or its assets. If we expand that definition even further, this would mean that the 401(k) plan sponsor and plan trustee(s) are always fiduciaries. The 401(k) plan document usually identifies the fiduciary—either by name or through an appointment process described in the plan. Alternatively, it is not just tied to owners and executives as anyone may be a fiduciary if they act in a fiduciary role. For example, if they select the investments for a plan or hire an advisor for the plan; such a person is known as a “functional fiduciary.” Also, the president of the company may become a functional fiduciary by selecting investments for the plan, even if he or she is not formally given that responsibility by the plan. Most 401(k) plan documents provide for the appointment of a committee to oversee the plan administration and the investments. Typically, the committee members are appointed by the company’s board of directors. If this is the case, the committee is the plan administrator and its members are fiduciaries. If a committee is not appointed, then the officers who oversee the operation of the plan will be the administrator and plan fiduciaries.

Can Someone Else Be a Fiduciary for Me?

I wanted to make sure you knew that you were not alone in this. You do have the option of outsourcing some of these fiduciary responsibilities to other service providers. Please note, you will always have some skin in the game when it comes to sponsoring a 401(k) plan.
  • Financial advisors have fiduciary responsibilities when they assist with investments and guide you into certain choices (even if they are not necessarily making the choice themselves).
  • Third-party administrators who may advise you on how to correct certain mistakes or guide you through administration have fiduciary responsibilities.
(Keep in mind, having fiduciary responsibilities does not necessarily mean they are a fiduciary in the same sense as an owner or elected trustee for a 401(k) plan. In some cases you would consider these “functional fiduciaries” as they are performing a certain role to assist an actual fiduciary or “exempt fiduciaries.”)
  • 3(16) administrator is a fiduciary that is hired either to provide for a specific fiduciary role, or full service (handle everything from A-Z).
  • This can include reviewing and authorizing distributions
  • Maintaining the plan document and overseeing that it is being followed
  • Making sure payrolls are submitted on time
  • Providing for required annual notices (this does not always mean mailing them)
  • Reviewing compliance testing
  • Reviewing and signing the Form 5500 for filing.
  • 3(38) investment fiduciary fills the role of reviewing and selecting investments for your 401(k) plan, and making providing oversight of these investments on a regular basis and updating them as required. They would need to be diligent about having a diversified investment lineup for participants in the 401(k) plan.
The latter two are considered fiduciaries for a 401(k) plan, but their roles are still specific when it comes to what they cover. In most cases, any agreement for these services is detailed out on what is covered (and perhaps what is not covered). Ultimately, a fiduciary should be looking out for the best interest of the employees participating in the 401(k) plan. If you carry out these duties carefully and with the same selflessness as Mother Teresa, you can be sure that at least your focus is in the right place. After all, if the IRS comes knocking, it will be the fiduciary or fiduciaries that will need to respond. One subtle reminder to anyone that is looking to outsource their fiduciary responsibilities to a 3(16) or 3(38), this does not completely absolve you from liability. You should still be providing information accurately to them as requested and ensure there is not anything internally within your company that could cause a breach in their fiduciary services or vice versa. In other words, you should have controls in place and checks and balances with any employees interacting with the 401(k) plan to avoid potential missteps and make sure the service provider is legitimately qualified to provide such services. The next section is a real doozy when it comes to the rules and responsibilities of a fiduciary. So, if you need help sleeping, then I would suggest you dive right in. Otherwise, take a break and stretch your legs.

What Are the Duties of the Fiduciary?

As fiduciaries, following procedural prudence is crucial. What is procedural prudence, you ask? Well, it is the process to ensure decisions are in the best interests of participants and their beneficiaries. Remember the Mother Teresa example? That applies here. Plan fiduciaries must also be able to show they properly investigate and document each plan fiduciary decision. In short, following the right steps as a fiduciary can satisfy required responsibilities regardless of the outcome. So, if you document the process and make sure you are being a procedural prude, you’ve got this.

The Duty of Loyalty as a Fiduciary

So, I have a dog who is the epitome of NOT being loyal. Maybe it is because she is more of a “dog-cat-rat.” She naps like a cat, hides things like a rat, but is only a dog in name because she has no loyalty to anyone. In other words, if you are a fiduciary you should be like any other dog would be: loyal. Do not be like my dog. Unlike my dog, plan fiduciaries may not place their own interests, or those of the company officers, over those of the plan participants and beneficiaries. Fiduciaries may not engage in conflicts of interest or “self-dealing,” that is, acts that serve personal interests or those of the company sponsoring the plan. Fiduciaries must act solely in the interest of the plan participants and beneficiaries. Kind of like the first point, but emphasis on the NO with self-dealing. For example, if you had a CFO that had a close personal friend that was a wholesaler for a particularly seedy 401(k) provider that charged out of this world expenses through poor investment offerings (basically to participant accounts), and although it was clearly not the best option for the employees of the company to use that provider, the CFO convinced the CEO it was the best option to use them because it wouldn’t cost the company anything (it would instead cost those employees participating in the 401(k) plan tantissimo). Oh, and did I mention the friend also bought season passes to that one thing that the CFO really likes for joining their platform. Yeah, that would not be good. This is self-dealing. Again, no SELF-DEALING!

The Exclusive Benefit Rule

It is important that the plan fiduciary remember the primary purpose of the plan: to provide retirement benefits for the participants and beneficiaries. For example, the fiduciaries must ensure that the employee deferrals are promptly paid to the plan and not used by the sponsor for its business operations. Also, the fiduciaries should not allow the plan assets to be used for their benefit or for the company’s benefit, like a loan from the plan to the company. In other words, do not use the participant funds in the 401(k) plan for non-401(k) related purposes. Another thing to note is that the decision to pay expenses from plan assets is a fiduciary act. Fiduciaries must be aware of and fully understand all the expenses paid from the plan, and that the expenses are reasonable and are in the interests of plan participants and beneficiaries. If 100% of the cost of the plan is being paid by participants, is that reasonable? I would evaluate that and make sure you have specific and reasonable explanation for something such as putting all fees onto participants. WWTIRSD? What would the IRS do? Actually, I would not suggest going down that path of thought. The last thing you want is a participant seeing exorbitant amounts taken from their 401(k) account, and then calling the DOL. Trust me, it can and has happened.

The Rule of a Prudent Person or Prudent Person Rule

This rule applies when selecting investments and weighing issues related to investment activities, diversification, appropriateness, risk and anticipated return—as well as when assessing the need for and performance of outside service providers. For example, in selecting and monitoring the plan’s investment options, the fiduciaries must act with the prudence and skill of a knowledgeable investor. That means that the fiduciaries must thoroughly investigate the alternatives available to the plan and make a reasoned and informed decision about the investment options being offered to the participants. If the fiduciary does not have the expertise to perform certain duties, then guidance from others, such as financial advisor, investment professional, or a consultant, is necessary. Furthermore, fiduciaries cannot and should not blindly rely on the advice of outside professionals, and should still do their own due diligence with review and understanding the advice of professionals before relying on their guidance.

Investment Diversification

Plan fiduciaries must diversify the plan’s assets to minimize the risk of large losses to the plan—unless it is clearly prudent not to do so. Mutual funds and other pooled investment vehicles may meet this requirement, that is, if the mutual funds or the underlying assets of the pooled investment vehicles are diversified. So only allowing your employees to invest in magic beans or precious metals, might not be such a good idea. Diversification of investments involves the core investment options, and a broad range of prudently (there is that word again) selected investments. Each core fund must be adequately diversified to minimize the risk of unreasonably large losses. Hint: avoid large unnecessary losses. Most mutual funds are adequately diversified, but some are not. One example would be mutual funds that only include sector funds (technology, health care funds, etc.) and one-region international funds. Also, the participants must be provided with a slate of funds that constitutes a broad range, to allow them to assemble a portfolio adjusted to their individual risk and reward needs.

Plan Document

As a plan fiduciary, you must carefully follow the terms and provisions outlined in the plan documents and any trust agreement. The only exception is when these documents violate the provisions of ERISA. ERISA stands for Employee Retirement Income Security Act (from 1974), which is basically federal protections and minimum standards for retirement and health plans. Most importantly to protect the employees/participants. If the plan document conflicts with ERISA, then plan fiduciaries must follow ERISA’s rules—and probably get a better document.

Reviewing Investments

Frequent assessment of each fund’s performance should be made using specific guidelines established in the plan’s investment policy statement (IPS) and removing funds that are not performing satisfactorily. This is a critical job, equally as important as the process of selecting funds for the 401(k) plan. It acknowledges that things change over time, and that you have to respond to those changes in meeting your fiduciary obligations. This type of investment monitoring must occur at least annually.

Other Important Items

On Time Plan Contributions

Employee contributions must be paid to the plan on the earliest date as reasonably possible, but no later than the 15th business day of the month following the month in which the money would have been paid to the employee. Failure to deposit contributions in a timely manner is both a prohibited transaction and a fiduciary breach. The employer and responsible fiduciaries may be liable for the amount of contributions and lost earnings, plus prohibited transaction penalties. It is important to not delay the payroll submission process, and treat employee contributions with sense of urgency. Imagine if you submitted contributions for your employees late and the market had a huge upswing before your submission. How much did those employees miss out on? How much would that affect the total amount in their 401(k) account at retirement? It is hard to monetize exactly the cost, but it is definitely not something to overlook.

The Use of Plan Assets

Expenses that are necessary for the operation of the plan—investment management expenses, annual administration and government reporting costs—can be paid from the plan assets. The Department of Labor offers guidelines on paying expenses from plan assets in its Department of Labor Advisory Opinions 97-03A and 2001-01A. Expenses paid from plan assets should be consistent with ERISA standards of fiduciary conduct and the plan document. The DOL has taken the position that if the plan documents are silent—that is, the documents do not have language specifically authorizing or disallowing expenses—then reasonable (reasonable being a key word here) expenses for administering or operating the plan may be paid from plan assets. If the fees are unreasonably high, there is risk of breaching fiduciary duties and engaging in a prohibited transaction. Think about that. IF THE FEES ARE UNREASONABLY HIGH, THERE IS A RISK OF BREACHING FIDUCIARY DUTIES AND ENGAGING IN A PROHIBITED TRANSACTION. Expenses that cannot be paid from the plan include: costs for creation, design and termination of the 401(k) plan. These expenses are termed “settlor” or “employer” functions. The DOL has stated that because the act of terminating a plan—after the decision is made—is naturally a fiduciary position, reasonable expenses involved with implementing a plan termination are payable by the plan. This could include a plan audit, preparing benefit statements, calculating accrued benefits and other responsibilities to ensure that the plan termination is handled in a way that benefits plan participants and beneficiaries.

Co-Fiduciary Responsibilities

Is this like “Co-regional Manager?” No, Dwight. It is not. A co-fiduciary is outlined as the following:
  • Enables another fiduciary to commit an improper act by failing to carry out duties
  • Fails to take steps to correct a breach by another fiduciary when the breach is known
  • Knowingly participates in a breach by another fiduciary
  • Knowingly helps conceal an improper act or omission of another fiduciary
For example, if the trustee of a plan becomes aware that employee deferrals are not being submitted through payroll, then the trustee must take prompt (and reasonable) steps to protect the participants. If there is a failure to act, then the trustee could be PERSONALLY liable for any losses. Losses that could be avoided if timely action was taken. If you suspect that a fiduciary is not doing his or her job, you must take steps to address the problem and document those steps to protect the participants, the beneficiaries and the plan; however, it should be noted that a fiduciary is not responsible for directly overseeing the activities of other fiduciaries, unless the first fiduciary appointed the second fiduciary.

Documentation and Filing

There needs to be procedural prudence in selection and monitoring of plan investments and any outside experts or service providers. This means there should be a well-documented due diligence file. A due diligence file is helpful if a government agency investigates or audits the plan. With a properly documented due diligence file, there is access to required information.

Protection and Insurance

Plan fiduciaries may be personally responsible for any breach of their fiduciary duties. Plan fiduciaries may be sued for plan losses, benefit discrepancies, or compliance issues. Fiduciaries can manage their risk by following the rules, seeking expert assistance when needed and following prudent, well-documented procedures. In case errors occur it is important to have insurance.

ERISA Bonding

With a few exceptions, every fiduciary and person who “handles” funds or other plan assets must be bonded, according to ERISA Section 412. Section 412 basically requires a bond to reimburse the plan for losses resulting from fraudulent or dishonest acts by plan fiduciaries and others who handle the assets. (Certain entities, such as banks, savings and loan institutions and insurance companies, may be exempt from the bonding requirement.) Handling of plan assets is not limited to physical contact. Handling occurs whenever a person’s duties or activities present the risk that plan assets could be lost due to fraud or dishonesty, whether by an individual or group acting in collusion. The required bond amount is $1,000 or 10% of the amount of funds handled, whichever is greater, and it need not exceed $500,000. The DOL allows the use of plan assets to pay for an ERISA Section 412 bond, or fidelity bond.

Government Filing and Participant Requests

You could be fined as a fiduciary if the 401(k) annual tax filing (Form 5500) and other filings are not filed or are late. You also could be fined if you fail to respond to a participant request for benefit information. Both the DOL and the IRS may impose civil penalties for failure to file the plan’s annual report on time. Both agencies view Form 5500 filing violations to be serious and the penalties, which are typically measured daily, can quickly reach several thousand dollars. It is also important to note that the statute of limitations does not begin until the Form 5500 and related schedules are accurately completed and filed. The Internal Revenue Code contains a statute of limitations that permits only the IRS to challenge matters covered in the Form 5500 for three years from the date of filing, provided that the form and related schedules were completed properly and in good faith.

Replacements and Resignations

Plan and trust documents will usually include a provision for resignation and replacement of fiduciaries. Any agreements with service providers, including an investment manager, should also include resignation and replacement procedures. Resigning is itself a fiduciary act and must be done according to the procedures in the plan document. If there is no qualified replacement, the resigning fiduciary may be exposed to liability.

Failure to Respond to Participant Request

Unless a response is provided to the participant within 30 days, the plan administrator named in the plan document (usually either the employer or a plan committee) may be subject to a civil penalty of up to $110 per day. Ultimately, it is important to know the role of a fiduciary when it comes to employee benefits, especially when you are handling retirement assets. Although this is an extensive review of fiduciary responsibilities and how this applies to you, it is still important to do your own research and come to your own understanding. There are many 401(k) providers that offer some level of assistance with fiduciary services (3(16) and/or 3(38)), but they are not created equal. Again, it is your responsibility to do your due diligence when engaging any of these providers for these services. Might I suggest starting a 401(k) plan with 401GO in which both the 3(16) and 3(38) are covered under one easy-to-use platform. Visit 401go.com for more information.
Secure your future today. Enroll in your 401(k) plan now.

Jared Porter
Jared is 401(k) expert and early-morning basketball enthusiast. He enjoys explaining complicated retirement issues in simple ways.
Secure your future today. Enroll in your 401(k) plan now.