Hiring a 3(38) Investment Manager

In today’s volatile investing environment, selecting your company’s 401(k) or 403(b) plan investment options on your own can seem like more than a full-time job—not to mention potentially putting your organization at risk of litigation if these investments persistently fall short of their expected returns, have less than competitive fees or can’t be liquidated when employees retire. For many sponsors, shifting the fund selection process to an ERISA 3(38) investment manager can free up time and attention to focus on other aspects of the organization, managing employees, and many tough-to-outsource tasks. We review three key factors for hiring a 3(38) investment manager below.

Does a 3(38) Investment Manager Arrangement Make Sense for Your Plan?

Before deciding whether a 3(38) arrangement is the right fit for your organization, it’s important to understand some of the distinct differences between an ERISA 3(21) advisor and a 3(38) investment manager.

An ERISA 3(21) investment advisor works with a company’s “named fiduciary”—usually the CEO, CFO, COO, or a committee—to recommend suitable investment options for the company’s ERISA plan. Under this arrangement, the named fiduciary retains all liability for breach of fiduciary responsibilities, which means that in the event of an ERISA lawsuit, the fiduciary, and, in some cases, the company as a whole, will be named as defendant(s).

An ERISA 3(38) investment manager, on the other hand, is provided with the same level of fiduciary authority and investment-selection responsibilities as a named fiduciary without being an employee or officer of the company. This arrangement can significantly diminish a company’s prospective liability for ERISA-related lawsuits (which, for the last two years or more, have been on the rise) as well as provide some outside expertise on the investments your plan should offer.

Companies for whom a 3(38) arrangement can make sense include any whose investment committees do not possess the knowledge, expertise or resources to select their plan’s investments and ensure that these selections are performing as anticipated. Even if some members are comfortable selecting investments, they generally have other responsibilities with more pressing deadlines—often leaving committee work on the back burner. The time saved, the risk reduced, and the improved investment outcomes realized by using a 3(38) investment manager can make this a winning choice for companies of any size and type.

Three Factors to Consider When Selecting a 3(38) Firm

If outsourcing the investment fiduciary is the right choice for your organization, there are a few factors to keep in mind when interviewing firms and making a final selection.

Communication Styles

Some firms prefer an “on-demand” approach, communicating with their clients only when an issue arises that requires attention. Others are more attentive, scheduling regular check-ins and offering frequent updates on investment performance. The right fit for your organization will depend entirely on your needs and preferences.

Those who were intimately involved in the investment selection process before moving to a 3(38) arrangement may want a closer relationship with their 3(38) firm to assist in this transition. Others may want to take more of a “set it and forget it” approach. (If you opt for the latter, you’ll still want to monitor your investment manager as explained below.)

Size and Complexity of Available Investments

While there’s no one right answer as to whether it’s better to be a big fish in your 3(38) manager’s small pond or a small fish in your 3(38) manager’s big pond, it’s hard to go wrong by choosing an investment manager who works with other companies that are similar to yours in size, industry employee makeup, and other key metrics.

Investment Strategies and Goals

Perhaps the most important factor to investigate is the 3(38) firm’s investment philosophies, strategies, and general goals. For example, a company that’s focused on offering its employees stable, low-risk investments in their 401(k) plans may want to steer clear of a 3(38) firm that advertises its focus on aggressive growth by targeting new and potentially speculative investments.

Monitoring Your 3(38) Investment Manager

Although choosing the 3(38) route places fiduciary responsibility with the investment manager, sponsors still have some obligation to monitor the investment manager and ensure that this arrangement continues to provide employees with the best rate of service for their money. However, many sponsors are unaware of this obligation, which can lead to disengagement over time.

Plan sponsors have wide latitude to determine how best to monitor their 3(38) investment manager—a couple of options include scheduling semi-annual or annual meetings with the manager to review notable developments or setting up conference calls on an as-needed basis. This not only ensures your employees that you’re continuing to advocate for their interests, but also gives your 3(38) firm the information it needs to select the best investments.

Interested in an Outsourcing Your Investment Fiduciary?

If you are considering outsourcing your investment fiduciary or learning more about your fiduciary responsibilities, PlanPILOT can help. As an independent Registered Investment Advisor, PlanPILOT is not tied to any investment fund or record-keeper. We offer clients unbiased advice and assistance to control their retirement plan risks and deliver benefits effectively. We encourage you to contact us at (312) 973-4911 or info@planpilot.com.

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