James W. Watkins, III, J.D., CFP Emeritus^TM, AWMA®

President recently released an excutive order requesting that the DOL and other relevant regulatory bodies create guidelines and other measures,  including safe harbors, that would allow plans to offer unnecessarily risk investments, such as private equity and crypto, inside 401k plans.

1. As a fiduciary risk management counsel, one of the most noticeable aspects is that ERISA does not mandate that any specific types of investment be offered within an ERISA plan.

The key requirements of Section 404 of ERISA are:

• a fiduciary shall discharge that person’s duties with respect to the plan solely in the interests of the participants and beneficiaries; for the exclusive purpose of providing benefits to participants and their beneficiaries and defraying reasonable expenses of administering the plan;
  
• with the care, skill, prudence, and diligence under the circumstances then prevailing that a prudent person 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.
  
• With regard to the consideration of an investment or investment course of action taken by a fiduciary of an employee benefit plan pursuant to the fiduciary’s investment duties, the requirements of section 404(a)(1)(B) of the Act set forth in paragraph (a) of this section are satisfied if the fiduciary:
  
• (i) Has given appropriate consideration to those facts and circumstances that, given the scope of such fiduciary’s investment duties, the fiduciary knows or should know are relevant to the particular investment or investment course of action involved, including the role the investment or investment course of action plays in that portion of the plan’s investment portfolio or menu with respect to which the fiduciary has investment duties; and

• (ii) Has acted accordingly.

• For purposes of paragraph (b)(1) of this section, “appropriate consideration” shall include, but is not necessarily limited to:(i) A determination by the fiduciary that the particular investment or investment course of action is reasonably designed, as part of the portfolio (or, where applicable, that portion of the plan portfolio with respect to which the fiduciary has investment duties) or menu, to further the purposes of the plan, taking into consideration the risk of loss and the opportunity for gain (or other return) associated with the investment or investment course of action compared to the opportunity for gain (or other return) associated with reasonably available alternatives with similar risks;

The arguments can be, and have been, made that the alternative investments set out in the executive order are not only unnecessary, but are too risky and inconsistent with both the spirit and letter of ERISA’s provisions with the prudence process described under ERISA.

Prudent plan sponsors would be best served by totally ignoring the Presient’s executive order and just continue to monitor their plan’s existing internal process to ensure that their plan is ERISA compliant.
2. “”it is by now black-letter ERISA law that “the most basic of ERISA’s investment duties [is] the duty to conduct an independent an independent investigation into the merits of a particular investment….’The failure to make any independent invstigation and evaluation of a potential plan investment” has repeatedly been held to constitute a breach of fiduciary olgigations.”  Liss v. Smith,  991 F. Supp. 278. 297 (S.D.N.Y. 1989), citing In re Unisys Savings Plan Litigation, 74 F.3d 420, 435 (3d Cir 1996), and Whitfield v. Cohen, 682 F. Supp. 188, 195 (S.D.N.Y 1988).

In In re Citigroup ERISA Litigation, 112 F. Supp 3d 156 (S.D.N.Y. 2015) (2017), the federal court for the Southern District of New York emphasized that a plan sponsor acting as a fiduciary under ERISA has a duty to independently and thoroughly investigate and evaluate each investment option offered within a 401(k) plan.

The court stated that fiduciaries cannot simply rely on the mere presence of an investment option or general market reputation but must conduct a careful, ongoing review to ensure the option is prudent and aligns with the plan participants’ best interests. This includes analyzing fees, risks, performance, and any other relevant factors that affect the value and suitability of the investments.

The ruling underscored that fiduciaries must:

• Perform an independent due diligence process rather than blindly following advice or defaulting to common offerings.
• Continuously monitor the investments, removing imprudent ones if necessary.
• Ensure investment decisions are thorough, deliberate, and documented to meet ERISA’s standard of prudence.

Failure to meet these fiduciary duties can lead to liability for losses to plan participants.

Given the lack of transparency associated with the alternate investments set out in the executive order, is it even possible for a plan sponsor to comply with the independent investigation and evaluation requirement? The lack of transparency typically associated with alternative inevsments would clearly require  a plan sponsor to rely on the information and value estimations of these conflicted and legally unreliable vendors.  Gregg v. Intern’l Trasportation Workers of America, (reliance on commissioned salespeople is never legally justifiable}.

Since neither ERISA not any any laws/regulations require a plan to offer such potentially liability ridden investments, the obvious question from a fiduciary risk management standpoint – “Why go there?

3. We teach our fiduciary risk management clients that the best risk management strategy is to avoid risk altogether whenever possible. The Executive Order suggested that the DOL and other agencies create safe harbors for plan sponsors recommending alternative investments.

Why is it that whenever Congress or the President support unecessarily risky investments that could undermine the financial wellness and retirement security of American workers, they always seek to include a safe harbor to protect plan sponsors, but totally frustrate the very focus of ERISA, protecting the American workers? The financial services industry needs a helping hand, so we’re going to recommend these risky investments…and to Hell with American workers.

Think that’s unduly harsh? Ask an annuity peddler to provide a properly prepared written breakeven analysis, factoring in both present value and mortality risk. I am often asked to sit in on a plan’s investment committee meeting where an annuity peddler is scheduled to make a presentation. Ask the annuity wholesaler to provide a written breakeven analysis. Typicall response is that they are not legally required to do so. I quickly offer to provide such a breakeven analysis after the meeting.

In my opinion, a refusal to provide such a properly prepared, written breakeven is the equivalent to what the legal profession refers to as an admission against interest and/or an example of the what the law refers to as res ipsa loquitor (the facts speak for themselves). That should be the red flag to end the meeting.

The written breakeven analysis is also prudent in that it demonstrates due diligence on the part of the plan sponsor. Fiduciaries have a duty to disclose all “material facts” to plan participants.

Quite often a properly prepared breakeven will indicate that the odds of benefitting from an annuity heavily favor the annuty issuer rather than the plan participants. With regard to investments, the law described a “material information” as any fact or information that an investor would find beneficial in making an investment decision. I’m guessing that most investors would consider information suggesting that they are unlikelly to break even on a certain annuity, that the odds favor the annuity issuer at the investor’s expense, would influence the investor’s investment decision.

I’m also guessing that few plan sponsors have the skill or knowlege to properly create their own annuity breakeven analysis. I’m also guessing that few plan sponors have the experience or skill to properly investigate and/or evaluate alternative investments.

Going Forward
Fortunately, there is no obligation under ERISA or any other law to offer any specific type of investments in an ERISA plan. Nothing about the Executive Order changes that fact.

President Trump suggested safe harbors for plan sponsors who decide to offer alternative investments within a plan. I have read the executive order several times and still cannot find a provision addressing the best interests and financial wellness of the plan participants. Until such such concerns are properly addressed, prudent plan sponsors and their plan participants would be well advised to ignore the Excutive Order and follow the sage advice of jack Welch – “Don’t make the process harder than it is.”

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