In other articles, we've been discussing the new fee disclosure regulation and now it's time to chat about retirement plan conflicts of interest. Consider these circumstances when designing your plan to avoid conflicts of interest that could hinder your retirement savings efforts.
Big NO-NO! Avoid arrangements where the employer receives payments or incentives from the provider.
Quid pro quo transactions. Steer clear of arrangements where the plan sponsor or fiduciaries receive anything in exchange for plan transactions, assets or services. In an effort to create transparency, the U.S. Department of Labor proposed a regulation in 2007 which would require fiduciaries to declare any conflicts of interest. Though this regulation has not been finalized, it reflects the goal of the DOL to provide security for participants against conflicts of interest.
According to C. Frederick Reish and Joseph C. Faucher in their 2009 article on Fiduciary Duty, "The fundamental fiduciary duties are set forth in the so-called 'prudent man' rule, the duty of loyalty and the 'exclusive benefit' rule. These duties require fiduciaries to carry out their duties as would 'a prudent man engaged in a like capacity and familiar with such matters,' to act 'solely in the interest' of plan participants and to act for the exclusive purpose of providing retirement benefits to participants."
Additionally, revenue sharing creates an incentive for providers to suggest funds with higher revenue sharing payments, even if those funds are poor performers or have higher participant costs. Revenue neutral funds will avoid this conflict of interest.
Biased advice. A fiduciary with a conflict of interest may steer 401(k) plan sponsors toward investment funds that increase the service provider's compensation. Another big NO-NO!
I'm not a fiduciary. The Employee Benefits Security Administration can recover losses related to conflicts of interest when the service provider functions as a fiduciary. Many service providers structure their contracts with 401(k) plans to attempt to avoid meeting one or more of the five parts of the current definition of a fiduciary.
Recruiting rollovers. Conflicts of interest also arise when 401(k) providers sell non-plan products and services, such as IRA rollovers, to participants outside their 401(k) plan.
Miseducation. Fiduciaries who offer education materials and brochures to 401(k) participants may have financial interests in the investment options available.
Bundled funds. A provider that suggests its own investment funds or has an affiliated brokerage arm has an incentive to steer 401(k) plan sponsors to select their proprietary funds.
Brokerage repayments. An investment adviser can direct a broker-dealer to use commission revenues to pay the fees of other service providers or to purchase services of value to investors. These arrangements can create an incentive for the service provider to recommend a more active trading strategy to increase the number of transactions and consequently the amount of commissions.