I drafted the following article for the DCPI Weekly Exchange as the first of an ongoing series of comments on fiduciary issues. DCPI's newsletter can be accessed (with a free subscription) at http://www.dcpinstitute.com.
Okay, I will admit it. I have not spent my entire legal career focused upon ERISA. In fact, before joining National Retirement Partners as in-house counsel to its broker-dealer and registered investment advisory firm, I served as counsel to an insurance company and, yes, as a plaintiff's attorney.
However, having such varied experience can sometimes provide a more nuanced perspective. Take, for example, the ongoing debate regarding the benefits and drawbacks of serving as an investment advisor to ERISA-qualified plans under section 3(21)(a)(ii) or as an investment manager under section 3(38).
If you were to merely read ERISA, you would likely conclude there are significant differences in the potential liability being assumed under each role. After all, an investment advisor, by definition, merely provides advice to the ultimate decision-maker. By contrast, an investment manager manages the fund's assets on a discretionary basis. In fact, section 405(d)(1) of ERISA specifically provides immunity to plan trustees for the acts or omissions of an appointed investment manager.
Unfortunately, some commentators have attempted to use these statutory differences to assert that investment advisors have no legal liability because they are providing nondiscretionary advice, while investment managers completely shield plan sponsors from legal liability by acting with discretion. Upon closer inspection, however, these theoretical distinctions quickly break down.
To begin with, while section 405(d)(1) does provide plan trustees with immunity from the investment manager's acts or omissions, subsection (d)(2) makes it clear that immunity does not extend to any act taken by the trustee. More importantly, the Department of Labor has held that:
If an employer appoints an investment manager the employer is responsible for the selection of the manager, but is not liable for the individual investment decisions of that manager. However, an employer is required to monitor the manager periodically to assure that it is handling the plan's investments prudently and in accordance with the appointment.1
As a result, it would be erroneous to maintain that the appointment of an investment manager under section 3(38) completely absolves a plan from any potential responsibility and, thus, liability for the plan's investment decisions. Instead, consistent with the standards set forth in the Uniform Prudent Investors Act, ERISA plan sponsors have a duty to prudently select an investment manager and periodically review the manager's activities. As with any legal duty, a breach may result in liability.
Conversely, it is equally absurd to claim an investment advisor incurs no legal risk in providing advice to a plan. If that were true, advisors who focus solely upon assisting ERISA qualified plans should immediately cancel their E&O coverage - a stance I would certainly not encourage.
In reality, most plan committee members have little or no expertise with investments. In fact, you may be surprised by the sudden transformation of the company's CFO, who tried to convince you he was the second-coming of Warren Buffett before the plan's participants filed the class action suit, but now asserts in deposition he knows nothing about investing. After all, if the committee members had the requisite expertise, why would they need to hire an investment advisor?
Under the "prudent man standard of care" which can be found at section 404(a)(1)(B) - any plan fiduciary is required to act with the care, skill, prudence, and diligence under the circumstances then prevailing that a prudent man acting in a like capacity and familiar with such matters...(emphasis added). So what is the prudent response when you lack the requisite expertise to perform your duties? You hire an expert for advice.
However, as the courts have noted, securing an independent assessment from a financial advisor is not a complete defense to a charge of imprudence. Instead, The fiduciary must: (1) investigate the expert's qualifications, (2) provide the expert with complete and accurate information, and (3) make certain that reliance on the expert's advice is reasonably justified under the circumstances.2
Therefore, just as with the delegation to an investment manager, the plan must conduct proper due diligence before retaining an investment advisor and evaluate the reasonableness of the advisor's proposed plan of action. Assuming these requirements are met, the court will likely find the plan satisfied the prudent man standard and then evaluate the advisor's recommendations based upon the higher standard applicable to an investment expert.
As a result, from a practical standpoint, while a plan may be have slightly more cover in relying upon an investment manager as opposed to an investment advisor (given the difference between monitoring decisions after they have been made as opposed to approving them in advance), in either instance, the court will likely look to the professional who was paid for his expertise as the party most responsible for a plan's investment losses.
1 Meeting Your Fiduciary Responsibilities at
http://www.dol.gov/ebsa/publications/fiduciaryresponsibility.html
2Howard v. Shay, 100 F.3rd 1484, 1489 (9th Cir. 1996).
