Fiduciary Sudoku – Comprehending ERISA 3(16), 3(21) & 3(38)
April 28, 2017—As an employer, you may have heard the terms fiduciary and fiduciary support in relation to corporate retirement plans. Specifically, vendors who service retirement plans will use the terms 3(16), 3(21) and 3(38) to describe their service offering. The terms have often been taken for granted, and sometimes abused by service providers looking for a marketing edge. Regardless, as a plan sponsor you have a responsibility to understand exactly what level of service your plan participants are receiving from your plan’s providers. In this mini-series we hope to offer some clarification and understanding regarding the terms 3(16), 3(21) and 3(38).
But first, what is a fiduciary?
Simply put, a fiduciary is a person who manages (or helps manage) another person’s money. In practice, however, the law is not always so simple. For example, the law defines a retirement plan fiduciary as a person who:
1. “Exercises any discretionary authority or discretionary control respecting management of such plan, or exercises any authority or control respecting management or disposition of its assets.” – ERISA Section 3(21)(A)(i)
2. “Renders investment advice for a fee or other compensation, direct or indirect, with respect to any moneys or other property of such plan, or has any authority or responsibility to do so.” – ERISA Section 3(21)(A)(ii)
3. “Has any discretionary authority or discretionary responsibility in the administration of such plan.” – ERISA Section 3(21)(A)(iii)
So you see that ERISA 3(21) is the section that defines who is a retirement plan fiduciary, not 3(16) or 3(38). But they are related. Let’s go through 3(21)(A) one step at a time together:
(i) Notice the words, “discretionary”, “control”, “management” and “assets”. What the law is saying in layman’s terms is that if you have the ability to decide which investments will be included in your plan’s fund line up, initially or on an ongoing basis, you are fiduciary. This will include anyone named as a plan Trustee, anyone serving on the Investment Committee, or anyone at the employer who has a say in what investments stay and which ones go.
If a third party investment manager is willing to take on this role for the sponsor or part of this role, and they qualify as a fiduciary under ERISA 3(38), which we will cover another day, then they are also a plan fiduciary. So you see that a 3(38) fiduciary is one who qualifies by action under 3(21)(A)(i) and by definition under 3(38). When a service provider offers to act as a 3(38), they are offering to replace the employer’s employees, in some or all respects, in their role to select and monitor plan investments. Depending on the level of service the 3(38) provides, they can alleviate some or all responsibility and potential liability for plan investment decisions.
(ii) The key phrase is “Renders investment advice for a fee”. When a service provider offers to be your 3(21) they are agreeing to provide investment advice to the ultimate investment decision makers identified under (i) in exchange for a fee paid by the plan. So, certain employees at the employer are still the ultimate investment decision makers and the ones the DOL or a Court will chase after if there is a concern about the plan investments or investment costs.
The “3(21)” fiduciary is offering to go down with the ship along with you, the plan sponsor. But they are not relieving the sponsor of any potential liability. The benefit to the plan sponsor is that the third party service provider will help the sponsor’s employees make smarter investment decisions and help them properly document those decisions. In theory, the ship should not go down in the first place.
(iii) Key words: “discretionary”, “authority”, “management”, “administration of such plan”. In English, if you can affect plan administrative decisions or you are responsible for the management of the plan administration, you are a plan fiduciary (congratulations). Examples of fiduciary acts are enrolling employees timely, approving hardship or loan withdrawals, ensuring the Form 5500 is filed, providing participant disclosures such as the Summary Plan Description, obtaining a Fidelity Bond, etc.
This is where 3(16) comes in. Section 3(16) simply defines who is the named Plan Administrator. Every plan must have one and this entity or person is a fiduciary, per 3(21)(A)(iii), with a lot of responsibility and potential liability. A service provider offering to be a 3(16) is simply saying they will perform some of or the entire role of the Plan Administrator. How much of this role they will perform varies by provider and you must know what they are doing for you. We’ll discuss this in detail in our next article post.
Named versus Co versus Functional Fiduciaries
Some fiduciaries are named in the plan document; for example, the Plan Administrator or Trustee(s). Others are “Co-Fiduciaries” who are a fiduciary in their own right and have a responsibility to correct any fiduciary breach causes by another plan fiduciary should they be aware of the breach. When one plan fiduciary makes a mistake, they drag all the other fiduciaries who were aware, or should have been aware if they were performing their role properly, into the cross hairs of the regulators or courts. A functional fiduciary is someone who is performing the role of a fiduciary. For example, if you are the final sign off on participant distributions or you were involved in the investment selection process you get to be a fiduciary as well.
It is important to make sure each fiduciary, and his or her role in assisting with the plan, is clearly defined in plan documents, and that each fiduciary is crystal-clear as to what his or her responsibilities entail. In addition to this serving the best outcomes for plan participants, each fiduciary knowing and executing their role as prescribed will serve to ward off the arrows of a compliance investigation from the Department of Labor. For this reason, it is best that the plan’s fiduciaries schedule time to regularly meet and discuss the company’s objectives regarding the plan, as well as the plan’s performance.
Why do you care that you are a fiduciary?
You want to know that you are a fiduciary because if you are and do not perform your role at least to the “prudent man standard” you can be personally liable for any errors made which cost participants their retirement dollars. Remember my initial definition of a fiduciary. You are responsible for someone else’s money. The law places a high level of responsibility on you. If you fail in your role, say plan fees are too high, plan investments underperform, or employees are not timely enrolled, the Government or Court may ask you to kindly make your plan participants whole. Average Department of Labor awards per plan run between $250,000 and $450,000 depending on the year.
ERISA encourages delegation
Here is some good news for you. ERISA encourages delegation by employers of plan fiduciary roles to 3rd party service providers who will perform these roles in their place. ERISA sections 402(c), 403(a) and 405(c) allow delegation of fiduciary roles such that these entities take over the responsibility and potential liability. Congress understood that few plan sponsor employees are expert investment managers, for example.
We will discuss how third party service providers can accept delegation of fiduciary roles over the course of the next three blog, starting with the 3(16) fiduciary, followed by 3(21) and 3(38). As you will learn, the devil is in the details.