, Editorial director
Executives of companies sponsoring 401(k) plans seem to be caught in no-man's land. They may eventually be sued by plan participants if they do not give the participants investment advice. But they also may be sued if they provide investment advice, and the employees have unfavorable outcomes.
For now, the employers seem to believe there is greater danger in giving advice than in not giving it, apparently a reason third-party advice firms such as Financial Engines, 401k Forum and Investment Technologies have not yet broken through to wide acceptance. Each of these companies reportedly has fewer than a dozen clients after two years of marketing.
Plan sponsors are not convinced they can insure themselves or their companies against fiduciary liability by hiring one of these firms to provide advice, or even recommending the firms to their employees.
Mike Henkel, president of Ibbotson Associates, Chicago, one who believes lawsuits are inevitable in the event of a bear market, reports a pension executive said her company was not willing to pay even $40 a year per employee to an outside advice provider. That $40 a year for each of the company's 30,000 employees represented an additional $1.2 million in expense.
It doesn't sound like a lot. In fact, it seems like fairly cheap insurance to protect the company against the potential of a class-action law suit where the legal bill alone would quickly top $1 million. It certainly is far less than most companies spend on medical insurance for their employees. And it's a fraction of what companies have saved by switching to 401(k) plans from defined benefit or even other defined contribution plans.
This seems to be a disservice to the employees, and to the companies. While many employees have learned about investing their 401(k) plan assets from the companies' educational efforts, most still need advice on how to allocate their assets. And it seems that in the event of a lawsuit over investment advice, companies would be in a far more defensible position if they have carefully selected a qualified advice provider than if they have not.
Companies might be complacent now. There have been no lawsuits over 401(k) investments. But that's probably because we have experienced a bull market since 401(k) plan growth began to blossom; when the next bear market begins, employees who find themselves inappropriately invested for their life situations may well look to the courts to make them whole, encouraged by lawyers.
The Labor Department should get involved. A regulation spelling out that employers can insulate themselves from liability for providing investment advice by hiring qualified third-party advice-givers would encourage more employers to spend the money for the advice.
The situation is similar to that of venture capital investing after the passage of the ERISA. Employers, although tempted by the high returns of venture capital investing, stayed away from it because they were unsure how prudence would be interpreted.
A 1979 DOL regulation specified the prudence of any investment would be determined not by how risky the individual investment was, but by how much risk it added to the overall pension fund portfolio. This regulation opened the doors to venture capital investing, which helped finance the technology revolution that now drives the economy.
A regulation on employer-sponsored investment advice might save employees and employers millions, even billions, of dollars. And it would seem the DOL would want employees to have not only investment education, but also independent investment advice.