It's time to rethink retirement plans

Most investors would fare better if plan sponsors were responsible for investment decisions

Investment News

By Blaine F. Aikin July 12, 2009

An investment fiduciary's duty of loyalty demands that the investor's best interests guide the decision-making process. …

For participant-directed portfolios, such as most 401(k) plans, the investment fiduciaries are detached from the execution of investment decisions. They are not able to modify individual portfolios directly, even when circumstances suggest changes are needed to serve the investors' best interests. …

But, as the legal and regulatory evolution of 401(k) plans amply demonstrates, there is no simple formula that will reliably equip participants to make good investment decisions in preparation for retirement. Following the debut of 401(k) plans in 1980, the inability of participants to manage their own accounts effectively became clear.

In 1992, the Department of Labor introduced the 404(c) safe harbor, whereby plan sponsors can avoid liability for participants' investment decisions, as long as the sponsors provide investors a sufficient range of appropriate investment choices and adequate information to make informed judgments. …

The tinkering continued, as Congress created another safe harbor in the Pension Protection Act of 2006 to shield plan sponsors from liability associated with the advice given to individual plan participants by a professional fiduciary adviser. …

Even without safe harbors, cost and complexity are inherent concerns for participant-directed plans. Because a participant holds a separate account, rather than an interest in a commingled aggregate portfolio, the costs of participant-directed plans can be higher than they are for sponsor-directed portfolios.

Additionally, plan participants are likely to pay more of these costs than the plan sponsor, thus reducing plan sponsors' incentive to control costs. In fact, fees have become such an issue that participants have filed several lawsuits alleging breach of fiduciary responsibility by plan sponsors for being inattentive to fees in the selection of service providers and the specific investments included in the plan.

So, despite the tinkering of regulators and legislators, and the best efforts of most plan sponsors, participants continue to be generally ineffective in their investment behavior. …

Centrally administered portfolios, like those of foundations, endowments and defined benefit plans, are less complicated. Investment fiduciaries have direct control of the process and are accountable from design to execution. The investment committee or chief investment officer, usually with the support of professional advisers and money managers, makes asset allocation decisions, directs the investments, and can change the portfolio composition as needed.

Plan sponsors and their advisers should consider whether a fundamental change in their approach for 401(k) and other defined contribution plans from participant direction to investment committee or trustee direction of the assets would better serve the best interests of the investors they work for.

Blaine F. Aikin is president and chief executive of Fiduciary360 LP in Bridgeville, Pa.