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5 Things Every 401(k) Plan Sponsor Should Do to Avoid Litigation

Business owners are the ones ultimately held responsible for their plans. Their top two allies: preparation and documentation.

By now you have heard about the Department of Labor's (DOL) new rules for retirement plans of all kinds. (They were announced almost a year ago.) And by now you have heard all sorts of rumors that the Trump administration will repeal the new rules, or not repeal them, or delay them or revamp them. … There are just too many rumors to keep straight!

Here's the bottom line: Anyone who is a plan sponsor has a fiduciary responsibility to the plan and the participants. You cannot delegate it away, you cannot hire somebody to do it for you. You can hire professionals to help you, but at the end of the day, you have fiduciary responsibilities that are much broader than you might think. The new DOL rules don't change this.

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Preparation and documentation are your allies. But where do you start? There are so many rules and regulations that most plan sponsors have no clue where to begin. Below are five things every plan sponsor should do immediately, just to comply with the old rules.

1. Have an independent third party evaluate your compliance.

Do you know what you are supposed to be doing and when? Do you have any idea what needs to be kept and what doesn't? How do you evaluate your custodial reports, and what do you do with them?

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Fiduciary excellence should be your goal. A fiduciary is supposed to be acting in the "best interest" of another, in this case, in the best interest of the plan and participants. To achieve fiduciary excellence, you first have to know where you are now. That is what a third-party evaluation will uncover.

2. Have an independent third party review your plan for performance, fees and fiduciary excellence.

Many plans receive an annual, sometimes quarterly, review of their investments from their custodian. The plan sponsor looks at it, says to himself, "Yup, that's my plan …" and files the document away.

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Maybe the report might mention that one or two funds are underperforming. Maybe the report might mention that one or two funds have higher-than-average fees. What does the plan sponsor do about it? Ask the broker? Ask the custodian? Where does he go for independent advice? Many plan sponsors look at the questionable funds and say, “A 6% return seems pretty good to me,” and that is the end of it, not knowing that the average for that sector might have been 12%.

And how does the plan sponsor review the funds for fiduciary excellence? On what basis will he determine this? Having an independent third party come in to evaluate the plan itself can answer many of these questions.

3. Write a specific and unique Investment Policy Statement (IPS).

Many plans do not have an IPS. When asked, the plan sponsor mutters something about the custodian having it, or it’s around here somewhere, or they gave it to their broker.

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The IPS determines how the plan assets are to be invested. It is the plan sponsor's guide to how THEY want the plan run. When should they replace a fund? How should they determine performance standards? On what basis do they select funds? This has to be determined by the plan's investment policy committee. You don't have one of those? Make that six things you need to do.

4. Determine your policies and procedures.

Joe the Janitor dies at age 42. He's been with the company for 20 years. Mrs. Joe the Janitor, after grieving the loss of her husband, turns her attention to the windfall she is about to inherit from Joe's 401(k). She knows he's been putting money away every year, so she figures, if he put away the max each year, and had it in the S&P 500 fund, she's going to be rich!

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Unfortunately, she gets a check for $21,000. Joe only put away $1,000 per year and left it in the money market earning next to nothing.

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Mrs. Joe the Janitor gets furious, hires an attorney and sues. And she wins. And the money comes out of the plan sponsor's pocket, not the plan or the company. Plan sponsors are personally liable.

So what happened? The company never had any participant educational seminars for the participants. And if they did, they didn't document them, which in the legal world is the same as not having them. The plan sponsor is responsible for educating the participants, even if it is a self-directed plan.

What are your policies and procedures for handling participant education? What is your policy for handling new hires? Retirees? Employees who leave the company? Your investment policy committee? Plan fiduciaries, and on and on and on? Plan sponsors have to have policies and procedures in place to handle just about everything that comes up.

5. Maintain a fiduciary file.

This is where you are able to prove you did what you said you did. If the company had kept a record of their invitations to participant education, a list of those who responded, and a list of those who attended the educational seminars, Mrs. Joe the Janitor would not have won.

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The fiduciary file is where the plan sponsor keeps everything from checklists to acceptance letters to plan documents. Prove to me you reviewed the plan's expenses four years ago. It will be in the fiduciary file. What are the roles and responsibilities of the plan fiduciaries? They will be in the fiduciary file. When was the last time you did an internal audit? Again – it will be in the fiduciary file.

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Plan sponsors are responsible for much more than they realize. Fiduciary excellence is up to the plan sponsor. This is not something your third-party administrator (TPA) can do for you. Their job is plan design and administration. It's not something your plan's custodian does: They just maintain the funds and make sure dividends get credited properly and other operational duties. It is not something your broker does. He may have an annual educational seminar, but he is not responsible for inviting the participants and documenting who attended and then maintaining that documentation.

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Some companies now offer limited and sometimes even full fiduciary services with regard to the selection and monitoring of the funds. But this is only limited to this area. They do not maintain the plan's policies and procedures, the IPS or the fiduciary file. And none of them are qualified to come in as an independent third party to review the plan sponsor's compliance and plan funds' performance and fees.

Depending on the services they offer, a plan sponsor consultant may be able to help you reach your goal of achieving fiduciary excellence.

John Riley, registered Research Analyst and the Chief Investment Strategist at CIS, has been defending his clients from the surprises Wall Street misses since 1999.

Note: Cornerstone Investment Services has a Plan Sponsor Consultant program that covers all of these areas.

Disclosure: Third party posts do not reflect the views of Cantella & Co Inc. or Cornerstone Investment Services, LLC. Any links to third party sites are believed to be reliable but have not been independently reviewed by Cantella & Co. Inc or Cornerstone Investment Services, LLC. Securities offered through Cantella & Co., Inc., Member FINRA/SIPC. Advisory Services offered through Cornerstone Investment Services, LLC's RIA. Please refer to my website for states in which I am registered.

About the Author

John Riley, AIF

Chief Strategist, Cornerstone Investment Services

In 1999, John Riley established Cornerstone Investment Services to offer investors an alternative to Wall Street. He is unique among financial advisers for having passed the Series 86 and 87 exams to become a registered Research Analyst. Since breaking free of the crowd, John has been able to manage clients' money in a way that prepares them for the trends he sees in the markets and the surprises Wall Street misses.

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