Blog

By Mark Olsen, Managing Director at PlanPILOT

The number of class action 401(k) and 403(b) lawsuits in 2022 was significant, due in part to the U.S. Supreme Court decision vacating a Seventh Circuit decision in early 2022. The decision makes it easier for plaintiff lawsuits to survive motions to dismiss. As a result, in our Year Ahead in Review 2023 article developed last year, we shared that we expect the steady trend of plan monitoring and excessive fees to remain in focus. In this article, we provide actionable insights for plan sponsors to assist in taking steps to help in plan management.

What Can a Plan Sponsor Do to Mitigate Risk? 

We have some ideas…

The idea of litigation is a daunting one. While there is simply no way to insulate your plan from litigation, there are steps plan sponsors can take to mitigate circumstances. Overarchingly, let’s start with the main point: Plan sponsors must be vigilant in their plan oversight. But what does that actually mean? We list specific action items below to help the plan sponsor community be in good stead should litigation arrive at their doorstep.

Critical Plan Oversight Activities 

Document Decisions 

Document, document, document. We see this written and talked about often, but we can’t emphasize enough how documentation can be on your side if done right. Meeting minutes should not be considered a meeting transcript, but it is helpful to approach meeting minutes in a manner that captures the high-level review and decision activities of a meeting. It can also be greatly beneficial to incorporate key rationale. While a dissertation isn’t necessary, insight into the rigor and final decision could go a long way in helping represent the choices made by committees. 

Be Attentive to the Investment Policy Statement (IPS) 

First, while an IPS is not required, it can be informative in helping committees meet plan goals and objectives, as well as support documentation. An IPS should not be a prescriptive document. Rather, it should provide guidance and be written in the context of your plan specifications and oversight objectives. Using rigid language or absolute triggers in an IPS can set committees up for failure and make it challenging for committees to pivot and evolve as appropriate without introducing risk. Using broad language that enables latitude for committees to apply their informed judgment is a valuable approach to help committees shift as necessary and make decisions in the context of the circumstances at hand. Most critical is to ensure that the spirit of the IPS provides guidelines to support the committee in meeting plan objectives. Rigidity is not your friend.

Establish a Monitoring Pattern and Stick to It

Whether it is related to plan fees, investment fees, performance monitoring, or provider monitoring, having a schedule or a checklist that outlines the (general) timeline of monitoring activities and steps the committee takes in monitoring can be a way to not only conduct prudent plan oversight, but in equal form, in the event litigation comes knocking, your committee has a track record to point to showing the diligent work conducted. 

Be Consistent…and When You Aren’t, Document Why

Consistency in plan oversight is key; in fact, repetition can even be helpful as a means of maintaining consistency. (Side note: This doesn’t mean robotically conducting work where an assumption of apathy or lack of engagement could be assumed.) Still, it’s okay to change course. Markets change, plan and participant circumstances evolve, goals and beliefs shift, suitable new products and services come to market, and so on. 

Retirement plan oversight is not a static exercise and it should adapt to changing circumstances. However, it’s important that committees be clear about the drivers of change and ensure that evolution is grounded in sound decision-making connected to the best interest of your participants. And, of course, documentation (see first bullet point) should capture why changes were made.

Investment Beliefs and Understanding Value for Cost

Fees and costs have the attention of everyone—nothing new about that statement—but it should not be a race to the bottom for the cheapest fees (unless the selections suit the plan objectives). 

For example, skilled committees working with their advisors have likely established a point of view between active and passive investment management and use in their plan. Many litigation cases are rooted in casting a single (negative) dye that higher costs are bad, and, in turn, this can result in active investment options in the plan being considered “expensive.” 

However, this is a linear approach to a very complicated topic. One way a plan sponsor can thread this needle is to have their committee establish investment beliefs with their advisor. This helps committees center their decisions pertaining to active and/or passive investment management on what value is received for the services given in connection with their belief set. This turns the linear argument on its head and enables committees to be very clear about how and why they established their preferred choice. Neither active nor passive are right or wrong for everyone; rather, the decision should connect to what the plan sponsor is trying to solve and ensure a commensurate trade of value for cost. Having an evaluated, discussed, and documented view on this topic can go a long way in clarifying and perhaps thoughtfully contesting any litigation matters. 

Define Risk 

We published an article on risk literacy last year, which outlined the various forms of risk most common in defined contribution plans: volatility, downside, inflation, participant behavior, retirement shortfall, and interest rate risk. This topic is a critical one for committees to tackle to help clarify plan objectives that inform their choices. Plan litigation seems to take a linear approach to risk as well. Plan committees that have clarity as to what risks they are trying to solve in order of importance can use that insight to drive their decisions. In turn, this can be documented and help them navigate and explain their choices. 

For example, if a plan sponsor has done the work with their advisor and are most concerned about shortfall risk in retirement for their participants, this may lead them to select a glide path in their plan’s Qualified Default Investment Alternative (QDIA) with higher equity. 

A second example is, if a committee is most concerned about volatility relative to a benchmark, this may lead them to select a passive investment management strategy. There is no single right answer for committees on how to assess and prioritize risk. Rather, the point is to take the time to be clear on developing risk literacy, risk hierarchy for the plan, and letting that drive their decisions, which could go a long way in helping reinforce decisions if litigation appears.

Fiduciary Training and Education

This one can be kept short. Committees are wise to periodically receive ongoing education in plan oversight and specific fiduciary training. This helps keep them up to date on all matters related to plan oversight, litigation trends, and universal understanding among members regarding their fiduciary obligations. This single act can increase awareness and help keep plan decision-making grounded in sound fiduciary principles.

The Bottom Line

While this list is not exhaustive and no plan can be insulated from litigation, we believe it is possible to make the process smoother and maybe even less expensive if your committee takes an opportunity to address the above points. Vigilance is key, and these actions establish documentation, clarity, and informed pursuits.

Want to learn more? Call us at (312) 973-4913 or email mark.olsen@PlanPILOT.com.

About Mark

Mark Olsen is the managing director at PlanPILOT, an independent retirement plan consulting firm headquartered in Chicago. PlanPILOT delivers comprehensive retirement plan advisory services to 401(k), 403(b), and 457 plan sponsors. His specialties include plan governance, investment searches, investment monitoring, and plan oversight. Mark is recognized as a leader in the industry and speaks at national conferences, including those organized by Pensions & Investments, Stable Value Investment Association, and CUPA-HR.

By Mark Olsen, Managing Director at PlanPILOT

In our previous article, we discussed how retirement plan sponsors could navigate ESG investment options and what the fiduciary responsibilities look like for these types of investments. In this article, we’ll dive deeper into the conversation around ESG investing by discussing the latest guidelines from the U.S. Department of Labor. Read on to learn more about the final regulations and how incorporating ESG factors into your plan will affect your fiduciary responsibility, plan fees, and risk for litigation.

Importance of ESG Guidance

As a refresher, ESG is an investment strategy that depends on a system of ratings in three key areas: environmental, social, and governance. ESG looks at the ethical standards and practices of a company and attempts to understand how those will impact the company’s performance in the stock market. 

Because there is no central uniform body of criteria that scores or indexes companies based on ESG factors, private rating firms develop their own standards. Ratings are typically based on self-reported data from the companies they are grading, which can lead to a general lack of transparency and accuracy, making ESG a complicated investment strategy for fiduciaries.

This is where guidance is needed for plan sponsors seeking to add ESG to their investment offerings. As many sponsors are aware, ERISA imposes multifaceted obligations on plan fiduciaries. There are two key fiduciary responsibilities that impact investment decisions and ESG:

• Fiduciaries are required to act in a prudent way in selecting investments, and
• Fiduciaries must act for the exclusive benefit of providing benefits and paying plan expenses. 

With such important responsibilities that could lead to litigation and fines if not properly upheld, it is crucial that plan sponsors thoroughly understand the rules and regulations around how to incorporate ESG into their plans.

Overview of New Regulations

The final regulations issued by the Department of Labor offer fiduciaries concrete ways to consider ESG factors. First, ESG may be included, where appropriate, as one of the many “financial circumstances and considerations” used by prudent investors in performing a risk-reward assessment. As stated in the new final regulation:

A fiduciary’s determination with respect to an investment or investment course of action must be based on factors that the fiduciary reasonably determines are relevant to a risk and return analysis, using appropriate investment horizons consistent with the plan’s investment objectives and taking into account the funding policy of the plan established pursuant to section 402(b)(1) of ERISA. Risk and return factors may include the economic effects of climate change and other environmental, social, or governance factors on the particular investment or investment course of action. Whether any particular consideration is a risk-return factor depends on the individual facts and circumstances. The weight given to any factor by a fiduciary should appropriately reflect a reasonable assessment of its impact on risk-return.  

29 C.F.R. Section 2550.404a-1(b)(4) (emphasis added)

Additionally, the final regulations allow fiduciaries to use ESG factors as a “tiebreaker.” As stated in the final regulations:

If a fiduciary prudently concludes that competing investments, or competing investment courses of action, equally serve the financial interests of the plan over the appropriate time horizon, the fiduciary is not prohibited from selecting the investment, or investment course of action, based on collateral benefits other than investment returns. A fiduciary may not, however, accept expected reduced returns or greater risks to secure such additional benefits.     

29. C.F.R. Section 2550.404a-1(c)(2)

Essentially, plan sponsors are allowed to add ESG metrics to their investment decision-making, so long as other factors, namely risk and return, are also properly considered. As long as investments are not chosen solely because of ESG factors, to the detriment of risk and return, the practice will not be considered a breach of fiduciary responsibility.

Role of Participant Preferences

The new regulations also offer guidance on how fiduciaries can respond to participant preferences within ERISA’s fiduciary constraints. Remember: fiduciaries must act for the “exclusive benefit” of providing benefits and paying plan expenses. This requirement can sometimes conflict with what your plan participants want.

Under the final regulations, however, a fiduciary will not violate the ERISA “loyalty” requirement solely because the fiduciary takes into account participant preferences, as long as the fiduciary meets two requirements:

• The fiduciary reflects participant preferences in a way that is consistent with the general fiduciary requirements for using ESG factors. In other words, any ESG investments offered in response to participant preferences must still be based on the fiduciary’s risk-reward analysis applied to any investment (ESG or otherwise).
• Any ESG investment in response to participant preferences must still meet the ERISA prudence requirement.

What Does This Mean for Fiduciaries?

So, what does this mean for plan fiduciaries? Here are a few practical takeaways from the new final regulations:

• The new final regulations do not require that a fiduciary change investment decisions—or how a fiduciary makes its investment decisions.
• Look at ESG as simply one more potential financial factor to consider in assessing an investment. As noted by the DOL, “prudent investors commonly take into account a wide range of financial circumstances and considerations, depending on the particular circumstances.” 
• The framework used by the DOL is anchored in fundamental fiduciary principles—fiduciaries must act with the “care, skill, prudence, and diligence under the circumstances then prevailing that a prudent man acting in a like capacity and familiar with such matters would use in the conduct of an enterprise of a like character and with like aims.’’  
• The new final regulations are issued in response to the current focus on ESG—but are applicable to other, new investment practices and theories that may emerge.

Do You Have Questions About Adding ESG to Your Retirement Plan?

The final regulations are a step in the right direction for helping plan sponsors navigate the changing landscape around ESG investing, but there are still many factors to consider before updating your investment offering. If you’re a retirement plan sponsor with questions about ESG, or if you would like to learn more about how PlanPILOT’s comprehensive advisory services can benefit you, call us at (312) 973-4913 or email mark.olsen@PlanPILOT.com.

About Mark

Mark Olsen is the managing director at PlanPILOT, an independent retirement plan consulting firm headquartered in Chicago. PlanPILOT delivers comprehensive retirement plan advisory services to 401(k), 403(b), and 457 plan sponsors. His specialties include plan governance, investment searches, investment monitoring, and plan oversight. Mark is recognized as a leader in the industry and speaks at national conferences, including those organized by Pensions & Investments, Stable Value Investment Association, and CUPA-HR.