Accounting and Taxes | Archive

Fiduciary focus: Reducing risks of 401(k) plans

by W. Michael Howlett
for Virginia Business
March 2006

Employees investing in retirement plans today have access to a vast array of complex financial information, but they don't often have the specialized knowledge to understand and effectively utilize it. Many employers who sponsor 401(k) plans tend to err on the side of caution, providing only limited guidance to plan participants. Doing more, the employers fear, could add to their fiduciary liability. But by not offering pertinent and timely advice, employers may face a greater legal risk.

Even for employers with the best of intentions, identifying appropriate information and sharing with employees can be a daunting task. Typical employee questions, such as how to determine the amount of money needed for retirement and how to change investments, may seem overwhelming. But these administrative questions are usually answered in the Summary Plan Description (SPD) provided to employees when they become eligible for the 401(k).

The SPD is required by ERISA (Employee Retirement Income Security Act). It is a 20- to 30-page document that outlines, in layman's terms, the provisions of the plan. In addition to providing this document to employees, most companies with an intranet have found it helpful to post the SPD to the benefits or human resources sections of their site. ERISA also requires that, if a 401(k) plan allows participants to manage their own accounts, then adequate and timely information must be provided to allow participants to properly do so.

This need can be met through education and access to account information. Most 401(k) investment providers, such as mutual fund and insurance companies, allow participants access to their accounts through the Internet and toll-free phone services. Participants can obtain current balances broken down by fund and direct the transfer of money between investment choices. They also are able to access ratings and prospectuses, both typically prepared by Morningstar, for the funds allowed by their plan.

However, under current law, fund providers are barred from giving participants specific investment advice, and this situation can create a quandary for investors. Plan participants have access to timely financial information, but they normally don't have the training and resources to determine proper asset allocation, to rebalance their accounts effectively, or to decide if they are on track to meet their retirement goals.

Some 401(k) providers offer tools, such as retirement calculators, that can help participants see if they are on track. By entering their yearly contributions and current balance, plan participants can use these calculators to compute their potential retirement income. In addition, many providers also offer lifestyle investment choices. These options offer a set asset allocation and have a rebalancing feature. This feature automatically adjusts the investment allocation as the investor ages.

These tools can be very helpful. But unfortunately, calculators can only compute, not offer advice. And not everyone of a similar age requires the same asset allocation. Plan participants often don't have the proper training they need to help them best utilize these tools to manage their investments. Without access to this sort of advice, many employees may feel unsure of how best to meet their retirement goals.

Federal legislation is pending that may solve this problem. The House has passed a bill that would allow mutual fund companies to offer individualized investment advice to 401(k) participants. The Senate has passed its version that, while still barring mutual fund companies from giving advice, would indemnify employers from lawsuits for providing education and access to investment advice for their 401(k) participants. Currently this bill is in conference committee.

But until a legislative fix is enacted, employees will be left largely to their own devices. To comply with ERISA requirements, it is in the best interest of employers who sponsor retirement plans to seek professional business advisers that can offer a well-structured advice program for their plan's participants. Doing so will help employers fulfill their fiduciary responsibility to provide adequate information that enables their employees to properly plan for their retirement.

Mike Howlett is a Certified Public Accountant and a tax partner in the Hampton Roads office of Cherry, Bekaert & Holland LLP. He can be reached at mhowlett@cbh.com.