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The Different Roles and Responsibilities of 3(16), 3(21) and 3(38) Fiduciaries

Learn about different fiduciary roles and responsibilities governed by ERISA, duties of named, 3(16), and 3(38) fiduciaries, liability, penalties, and more.

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The Different Roles and Responsibilities of 3(16), 3(21) and 3(38) Fiduciaries

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  1. The Different Roles and Responsibilities of 3(16), 3(21) and 3(38) Fiduciaries Marcia S. Wagner, Esq.

  2. Introduction • Plan sponsors seek to outsource fiduciary responsibilities. • TPA Firms • Financial Advisors • Fiduciary roles and responsibilities governed by ERISA. • Considerations for service providers • Considerations for plan clients

  3. Who is a Fiduciary? • Named Fiduciary • Identified in plan document. • Has principal responsibility for plan. • Functional Fiduciary • Authority over plan management. • Authority over plan assets. • Investment advice for a fee. • Authority over plan administration.

  4. Employer’s Traditional Duties as Named Fiduciary • Definition of “Named Fiduciary” • Named in plan document. • Employer traditionally serves in this role. • Powers of Named Fiduciary • Managing investment menu. • Administration of plan. • Engaging service providers.

  5. Employer’s Traditional Duties as 3(16) Fiduciary • Definition of 3(16) Fiduciary • Also known as “Administrator” under ERISA. • Has ERISA reporting and disclosure duties. • Does not refer to traditional TPA firms providing non-fiduciary services.

  6. Reporting and Disclosure Duties of 3(16) Fiduciary • Special duties imposed on 3(16) Fiduciary. • Provide SPDs • Provide Benefit Statements • Provide 404a-5 Participant Disclosures • Provide Plan Document (upon request) • Sign and File Form 5500 • Arrange for Plan’s Financial Audit (as necessary)

  7. Employer’s Traditional Oversight Roleas 3(16) Fiduciary • Employer routinely designated as 3(16) Fiduciary in plan document. • Participant disclosures prepared by plan’s TPA. • But employer retains ultimate responsibility and should oversee TPA. • If TPA prepares Form 5500, employer must sign and remains responsible for filings. • Employer must arrange for audit (for large plans only).

  8. Overview of 3(21) Fiduciaries • Also known as Investment Advice Fiduciaries. • Includes any person who renders investment advice for a fee. • Definition of “Investment Advice” • Advice relates to advisability of investing; and • Either advisor has investment discretion, or non-discretionary advice is provided as follows: - on a regular basis, - under a mutual agreement or understanding that - advice will serve as primary basis for decisions, and - advice will be individualized to needs of plan.

  9. DOL’s Re-Proposed “Fiduciary” Definition • DOL released initial proposal in October 2010. • Broad expansion of functional fiduciary definition. • One-time recommendations and casual advice may also confer fiduciary status. • “Safe harbor” disclosures for non-fiduciary advisors. • DOL withdrew initial proposal. • New proposed “fiduciary” definition expected from DOL later this year.

  10. Overview of 3(38) Fiduciaries • Definition of “3(38) Fiduciary” • Also known as “investment managers” under ERISA Section 3(38). • Must have discretionary authority. • Must be RIA, bank or insurance company. • Must acknowledge fiduciary status in writing. • Plan sponsors can benefit from appointing 3(38) Fiduciary. • Named Fiduciary is not responsible for individual acts of 3(38) Fiduciary.

  11. Fiduciary Standard of Care Under ERISA • ERISA establishes same standard for all fiduciaries - “Prudent Man Standard of Care.” • Duty of Loyalty • Exclusive Purpose Rule • Duty of Prudence • Duty to Diversify • Plan Governance Rule

  12. Applying Fiduciary Standard to DC Plans • How Standard Applies to DC Plans • Duty of Loyalty: All decisions must be made solely in interest of participants. • Exclusive Purpose: Fees for investment menu and service providers must be reasonable. • Duty of Prudence: Providers and investment menu must be selected prudently and monitored. • Duty to Diversify: Menu must include broad range of investments. • Plan Governance: Procedures and guidelines must be followed.

  13. Fiduciary Liability and Penalties • Civil Actions Under ERISA • May be brought by DOL, participants or co-fiduciaries. • Breaching fiduciary is personally liable. • DOL Civil Penalty • Penalty amount is 20% of applicable recovery amount. • Excise Taxes

  14. Co-Fiduciary Liability • Fiduciary may be liable for co-fiduciary’s breach of duty. • If knowingly participates in co-fiduciary’s breach. • If own breach enables co-fiduciary’s breach. • If knows of co-fiduciary’s breach and fails to make reasonable efforts.

  15. Special Liability and Penalty Rules for 3(16) Fiduciaries • 3(16) Fiduciary cannot delegate disclosure and reporting duties. • In traditional arrangements, employer remains responsible. • Employer may be subject to potential liability, even if error caused by TPA. • Special Penalties • Form 5500 Failure - $1,100 per day. • Disclosure Failure - $110 per day.

  16. TPA Firms Serving as 3(16) Fiduciaries

  17. Plan Sponsor’s Advantage in Hiring 3(16) Fiduciary • Overview • Plan document is amended to designate third party as 3(16) Fiduciary or “Administrator.” • Plan sponsor no longer responsible for reporting and disclosure duties. • Potential fiduciary liability is transferred to third party.

  18. Transferring Reporting and Disclosure Duties to 3(16) Fiduciary • TPA serving as 3(16) Fiduciary may also agree to prepare disclosures and 5500 filings. • TPA alone would be responsible for any disclosure/reporting errors. • Employer would not have ultimate responsibility. • TPA’s service agreement may keep employer responsible for providing accurate information.

  19. Responsibilities Transferred to TPA as3(16) Fiduciary May Vary • Fiduciary responsibilities transferred to TPA may be limited to reporting/disclosure only. • Plan sponsor remains responsible for all other plan management responsibilities. • Illustration • TPA agrees to accept ultimate responsibility for participant disclosures already prepared by TPA. • TPA agrees to sign 5500 filings already prepared by TPA.

  20. 3(16) Fiduciary May Accept Comprehensive Fiduciary Role • TPA may agree to accept comprehensive level of fiduciary responsibilities. • Adjudicating benefit claims and disputes. • Manage menu of investments. • Ensuring operational compliance. • Selecting and monitoring service providers. • Ensuring plan fees are reasonable. • TPA may serve as both 3(16) Fiduciary and as Named Fiduciary.

  21. 3(16) Fiduciary with Authority to Hire Plan’s Service Providers • Named Fiduciary has authority to hire providers. • Employer may delegate this responsibility to TPA serving as 3(16) Fiduciary. • TPA may have oversight for non-fiduciary providers, such as recordkeeper or auditor. • May also have have oversight for fiduciary providers, such as 3(21) Fiduciary or 3(38) Fiduciary.

  22. 3(16) Fiduciary Considerations in Selection of Providers • Duty of prudence applies to selection of service providers. • Must engage in “objective process” designed to elicit necessary information to evaluate: (1) qualifications of provider, (2) quality of services, and (3) reasonableness of fees. • In event of fiduciary breach, 3(16) Fiduciary would be liable (or jointly liable) for any losses.

  23. Limits on Employer’s Ability to Transfer Responsibilities to 3(16) Fiduciary • 3(16) Fiduciary may accept broad range of responsibilities as Named Fiduciary. • But employer cannot eliminate all fiduciary oversight responsibilities. • Employer remains responsible for selection and monitoring of TPA serving as 3(16) Fiduciary.

  24. Employer’s Duty to Monitor 3(16) Fiduciary • Plan sponsor remains liable for monitoring 3(16) Fiduciary. • Employer’s authority to amend plan document represents power to replace 3(16) Fiduciary. • Employer should review performance of 3(16) Fiduciary at reasonable intervals. • No need for employer to monitor other providers if responsibility transferred to 3(16) Fiduciary.

  25. Financial Advisors Serving as 3(21) Fiduciaries and 3(38) Fiduciaries

  26. Working with Financial Advisors • Financial Advisors • May provide non-fiduciary or fiduciary services. • Two Types of Fiduciary Advisors • Traditionally, fiduciary advisors served as 3(21) Fiduciaries. • More fiduciary advisors are willing to serve as 3(38) Fiduciaries.

  27. Overview of 3(21) Fiduciaries • General Characteristics of 3(21) Fiduciary • Provide investment recommendations and non-discretionary advice. • Acknowledge recommendations will be “investment advice” under ERISA. • Relationship with Named Fiduciary • May hire 3(21) Fiduciary to assist Named Fiduciary. • But not permitted to blindly follow its advice. • Named Fiduciary retains duty: (1) To investigate qualifications, (2) To provide complete and accurate info, and (3) To ensure reliance is reasonably justified.

  28. Reliance on 3(21) Fiduciary Must be Reasonably Justified • Employer does not have to become an investment expert. • But must make effort to understand 3(21) Fiduciary’s analysis. • Must examine relevant factors: (1) extensiveness of advisor’s investigation, (2) whether advice is supported, and (3) whether advisor’s methods are appropriate. • Must consider whether advice is independent and impartial.

  29. Overview of 3(38) Fiduciaries • Plan sponsor may choose to hire a 3(38) Fiduciary. • Historically associated with DB plans. • Offers greatest fiduciary protection under ERISA. • Must have discretion to add or remove investments from DC plan’s menu. • Sponsor is not responsible for individual acts of 3(38) Fiduciary.

  30. 3(38) Fiduciary vs. 3(21) Fiduciary • When Plan Sponsor Relies on 3(21) Fiduciary • Both sponsor and 3(21) fiduciary are jointly responsible for plan’s investment decisions. • Both can be held liable for imprudent decisions. • When Plan Sponsor Relies on 3(38) Fiduciary • No fiduciary liability for sponsor if it prudently appoints 3(38) Fiduciary.

  31. Sponsor’s Responsibility for Selection of 3(38) Fiduciary • Fiduciary protection for plan sponsor is limited. • Sponsor remains responsible for appointment and monitoring of 3(38) Fiduciary. • Must act prudently. • Must monitor performance on ongoing basis. • Potential co-fiduciary liability: (1) knowing participation in a fiduciary breach, or (2) knowledge of breach, but failing to make reasonable efforts to remedy breach.

  32. Fiduciary Protection Unavailable If Advisory Agreement Is Defective • Named Fiduciary only permitted to transfer investment duties to “investment manager.” • No fiduciary protection if requirements of ERISA Section 3(38) are not met. • Advisory agreement must have written fiduciary acknowledgment. • Agreement should also define scope of 3(38) Fiduciary’s duties.

  33. Practical Considerations WhenWorking With 3(38) Fiduciary • Illustration • 401(k) fiduciary committee is responsible for reviewing plan’s menu. • Committee meets on quarterly basis. • If 3(38) Fiduciary is appointed, committee could continue to meet to monitor performance. • May also consult with 3(38) Fiduciary. • Committee is able to reduce its exposure to fiduciary liability.

  34. Retaining Effective Control Over 3(38) Fiduciary • Plan sponsor retains responsibility to terminate 3(38) Fiduciary as necessary. • Advisory agreement should have “at will” termination provision. • Should permit penalty-free termination on short notice. • Utilizing IPS to retain effective control. • 3(38) Fiduciary obligated to follow IPS guidelines under ERISA’s Plan Governance Rule.

  35. Requiring Notice from 3(38) Manager for Menu Changes • Notice requirement for proposed changes to plan’s investment menu. • Illustration: 60-day notice must be provided to fiduciary committee. • Cooperation is typically required to implement any menu changes in any event.

  36. Fiduciary Incentive to Comply with ERISA Section 404(c) • Fiduciary protection available if plan qualifies as Section 404(c) Plan under DOL reg’s. • Participants must have “opportunity to exercise control” and “sufficient information”. • Menu must have broad range of investment alternatives. • Fiduciary protection under Section 404(c) is highly valuable. • No fiduciary can be held responsible for any imprudent allocation decisions by participants. • Protection extends to 3(21) Fiduciaries and 3(38) Fiduciaries as well as plan sponsor.

  37. Conclusions • Important Considerations • ERISA transfers and allocates risk differently for different types of fiduciaries. • Plan sponsors need to make informed decisions when selecting TPAs and financial advisors. • Providers should prudently consider positioning themselves as 3(16), 3(21) or 3(38) Fiduciaries.

  38. Important Information This presentation is intended for sponsors of 401(k) plans and other types of defined contribution retirement plans with participant-directed investments that are subject to the Employee Retirement Income Security Act of 1974, as amended (ERISA), as well as the service providers that work with such plans. This information is intended for general informational purposes only, and it does not constitute legal, tax or investment advice on the part of The Wagner Law Group or its affiliates.

  39. The Different Roles and Responsibilities of 3(16), 3(21) and 3(38) Fiduciaries Marcia S. Wagner, Esq. q. 99 Summer Street, 13th Floor Boston, MA 02110 Tel: (617) 357-5200 Fax: (617) 357-5250 Website: www.wagnerlawgroup.com marcia@wagnerlawgroup.com A0097729

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