Since the 1980s, the 401(k) has become synonymous with worker retirement savings. Indeed, the 401(k) marketplace has become a massive one, with the savings vehicle representing nearly a fifth of Americans’ total savings for old age.
Unfortunately, according to the Government Accountability Office (GAO), in 2012 only 14% of small businesses (defined as fewer than 100 employees) offered any kind of employer retirement plan for their workers. While the fees for 401(k) plans and other qualified plans have been coming down in recent years, owners still name fees as an important reason for not sponsoring a retirement plan at work.
There is another reason small businesses tend to stay away from 401(k) plans, namely what we in the wealth management business call the “f-word”: fiduciary.
Acting as a fiduciary is the legal obligation of an advisor to always act in a client’s best interests. For individual clients, knowing whether your broker or money manager is operating as a fiduciary is an important distinction that goes to the heart of your advisor’s incentives.
While financial planners may or may not act as a fiduciary, brokers are held to what is called the “suitability” standard, which is a lower bar in the eyes of the law. They do not have to reveal some conflicts of interests, nor are they required to act in a client’s best interests.
The distinction should by no means be the sole reason for selecting one advisor over another, but we feel that being a fiduciary is a very important measure of trust in the client-advisor relationship. When it comes to small business and 401(k) plans, not knowing the “f-word” can be even more dangerous for an owner because of the increased possibility of lawsuits from plan participants.
I can see some small business owners thinking, “Wait a minute — I can be sued for wanting to do right by my employees and offering a 401(k) plan?”
That’s right. The reason is that as the plan sponsor, an employer who has a 401(k) plan becomes, legally, a fiduciary to the plan and to the employees who participate. A very limited list of these duties includes ensuring that money that is deferred by the participants is moved to their 401(k) plans in a timely manner, notifying employees about the plan and the plan’s fees and expenses, and, my favorite, selecting the available investment choices and monitoring those investments’ performance on a regular basis.
Do most small business owners have the education, energy and time after working a 12-hour day to go into their 401(k) plans and check up on their plan’s investment selections to ensure that their employees are getting value for the fees being paid? In my experience, they certainly don’t. The solution is usually to outsource these functions to some kind of broker or advisor.
However, most owners don’t realize that this does not relieve them of their fiduciary duties in the eyes of courts and the U.S. Department of Labor
Furthermore, many employers don’t understand that many brokers aren’t working with their 401(k)plan in a fiduciary capacity. While regulators are beginning to look into barring this arrangement, employers have been sued while mistakenly not realizing that the broker they hired was essentially acting in a sales role, and nothing more. In such cases, guess who the liability falls on? For a small-business owner, it can be goodbye to their life savings.
So what should you as the employer do? First, ensure that the advisor you are considering hiring will be a fiduciary to the 401(k) plan as well as to the participants. While it bears repeating that the business can probably never completely avoid being a fiduciary, hiring what is known as an ERISA section 3(38) investment manager should help share the liability. Further, since usually only a Registered Investment Advisor can, by law, provide investment advice for compensation, it is vital that the plan utilizes such a shop. If you aren’t sure if your investment person is a Registered Investment Advisor rep, just ask. The advisor could then offer employee investment education, advice and even financial planning. This prevents a situation where the employer starts the plan and then the employees are left to fend for themselves in terms of selecting investments that may fit their needs.
Indeed, while 69% of plans have an advisor attached to them, only 35% of 401(k) plans offer investment advice. Such a perk could help small-business owners further differentiate their benefits package in the eyes of the potential labor pool.
In the end, a 401(k) or other qualified plan is a complex yet versatile product whose foothold on worker savings is here to stay. That’s why it’s important that small-business owners looking to help take care of their employees (not to mention saving some profits on taxes) just be sure they have thoroughly researched their plan options and providers. Otherwise, they could find themselves muttering the real “f-word” while dialing their lawyers.