The great 401(k)-or-not debate: RIABiz webinar lays out the perils and rewards for RIAs thinking of wading into the fast-moving 401(k) stream

Brooke’s Note: We went into this webinar (sponsored by The Hartford Funds — thank you) with the bias that RIAs should err on the side of advising 401(k) plans and/or their participants. I still think that’s the case. It’s a monster, underserved market, growing fast and there for the taking, especially by advisers accustomed to acting as fiduciaries. See: How RIAs can rule the 401(k) realm by becoming advocates for plan sponsors — and start by eliminating eight marketplace conflicts. But after hearing what these experts in the field had to say, I also better realize the level of knowledge and commitment involved in making a good 401(k) business work. We hope this transcript makes the conversation accessible to people who weren’t able to attend, and makes for a good reread for those who listened in.

LISA SHIDLER: Greetings everyone and welcome to our webinar, “To 401(k) or not to 401(k): That’s Not the Only Question RIAs Must Answer.”

First, opening remarks by Rick Meigs, who is going to help set the context for the discussion around RIAs entering the 401(k) arena. Then we will open up to our full panel and we will discuss some key questions and issues around the topic of RAs getting into the 401(k) arena. Finally, we will cover your questions and we really do want to get to as many questions as we can. So please start submitting your questions any time. First, we want to share a little brief information about RIABiz and why we chose the 401(k) topic. I am going to hand it over briefly to our founder, Brooke Southall.

BROOKE SOUTHALL: I wanted to say a word or two about what RIABiz is and why we are doing a 401(k) webinar. We were founded five years ago when we perceived a palpable paradigm shift in the industry from sales-based, commission-based, non-customer-first-based industry to one that now has a business imperative of putting the customer first. While that was pervasive throughout financial advice, it was particularly the case in 401(k) business, which has made it an area of great opportunity.

At the same time we wanted to start a new publication because trade publications were in their own time warp. They were primarily print publications and they were not necessarily putting things in a modern context of where the business is heading. We have had a lot of headlines recently that have jumped out at me in the 401(k) business that suggests the big changes that are going on.

Even today we had an article about Voya essentially deleting one of its big executives but we’ve also had a Great West shake up. We have had Fidelity settling a lawsuit with its own employees and we have had some of the RIAs that have come into this business with just staggering gains in assets. See: A $103 billion AUA RIA storms TIAA-CREF’s Northeast stronghold by poaching a hotshot from a $30-billion RIA in Greenwichland. These all have a common denominator of a shift in power and fortunes, but also with this giant engine for the 401(k) in flows to drive the dynamism. So at that I will turn this back over to you, Lisa.

Rick Meigs: Planned sponsors are now
looking at your size to judge
whether you have the depth they
perceive necessary and many small firms
are losing out on new business
result.

LISA SHIDLER: I will introduce our panelists. First, I am Lisa Shidler and I have been covering the financial services industry for the past eight years. And now on to our all-star panel. Jessica Maldonado is the vice president of Searcy Financial Services Inc. She began working for the firm in 2001 after she earned her bachelor’s degree in Business Administration from the American University in Washington, D.C. She has spoken at many industry conferences on topics such a 401(k) plans and leveraging technology to improve retirement plan participation and participant outcomes. She has been included in the Kansas City’s Star’s prestigious list of “Women to Watch.” She was also named a 2001 “rising star” by KC Business Magazine. Jessica serves as an alumni member on the TD Ameritrade Institutional Operations Panel.

Next we have Michael Francis. Mike has been delivering financial consulting services to institutional clients since 1985. He holds a degree in economics from Carlton College, a certified investment analyst designation through the Wharton School of Business through the University of Pennsylvania and a juris doctorate from Marquette University Law School specializing in Employees Benefits Law. In 1994, Mike was singled out among more than 10,000 consultants by Morgan Family to be “Retirements Plan Advisor of the Year.” In 2006, Plan Sponsor Magazine named Mike one of the top 25 retirement plan advisors. Mike is also a frequent public speaker on retirement plan investment issues.

Lastly, we have Rick Meigs. Rick is the founder and president of 401khelpcenter.com LLC, a Portland, Ore.-based company. The company is a leading provider of information, opinion, analysis, and other 401(k) resources for plan functions, retirement, professionals, small businesses and employees. Rick is a nationally recognized authority on 401(k) retirement plans and has a practical working knowledge having successfully founded and run a number of retirement companies. Rick is co-author of the 401(k) Plan Participant Survival Guide, co-editor of the 401(k) Sponsors Fiduciary Tool Kit, and was co-host of the radio show, The Retirement Hour, for more than three years.

So Rick, I think we are going to start with you to give us the setting of the scene, if you will, on the 401(k) arena and how things have dramatically changed here in the last five years so Rick, we would love to hear from you now.

Help wanted

RICK MEIGS: Great and thank you, Lisa. Let me just briefly frame our discussion today by reviewing some of the opportunities within the 401(k) market, and then the challenges. Here is a flavor for the tremendous opportunities and possibilities. There are more than 515,000 401(k) plans with 52 million participants — many who will roll their assets over at retirement. 401(k) assets are over $4 trillion dollars and growing at a rate of about $26 billion a month.

And, this is key, plan sponsors want help. Many are looking for someone that is independent that they can trust to help them manage their plan. They want someone on their side. That being the case, there are many challenges, too. In the past investment skill and expertise were important, but that is no longer enough. Plan sponsors want help on factors like understanding their fiduciary obligations, educating the plan fiduciaries and committee members. They have concerns about plan design issues and want input there. And they want knowledge about trends, regulations, lawsuits and above all best practices.

Further, there has been a substantial increase in regulation and more is coming. So that’s a key challenge, not just in regulations related to the RIA business side, but also connected to 401(k) plans themselves. And the DOL is just getting tougher by the year. This causes your available work time to quickly get diluted in dealing with these types of issues. Regulation also increases your compliances and insurance costs. Competitiveness in the 401(k) arena is another challenge. There is a quickening of mergers and acquisition activity among RIA and other players. But there are still thousands of regional players looking all at the same prospects that you are.

To be in this market you have to be aggressive in your selling and know your value proposition. And finally, size is becoming a factor because of these and other challenges it is becoming harder for smaller RIAs to afford the necessary investment to create depths and width and skilled people on staff, state-of-the-art operational systems, and competitive sale and marketing schemes. Planned sponsors are now looking at your size to judge whether you have the depth they perceive necessary and many small firms are losing out on new business result. This just gives you a little bit of flavor for the opportunities and the challenges that RIAs are facing in the 401(k) market. I will turn it back to you, Lisa.

Exacting ERISA standards

LISA SHIDLER: Thanks very much, Rick. That sets this theme and I know we are going to be talking about those very topics. Mike, I want to throw the first question to you. What are the most important factors that every RIA should know then they decide to embark on the 401(k) space?

MIKE FRANCIS: Thanks, Lisa. I guess I get to play the heavy here and start this conversation about things to know, things to be weary of, etc. I think that big picture, RIAs are looking at this area and wondering if it was something they want to get actively involved in.

You have to understand that the rules of the game are different. When you work with a 401(k) plan you are working with a large pool of other people’s retirement assets that are specifically protected by a 40-year-old law called ERISA. See: 9 things advisors to 401(k) plans must do to keep clients out of hot water.

And ERISA places some very specific duties on any registered investment advisor who endeavors to get involved in either providing advice or guidance in a nondiscretionary way or if someone decides to become a discretionary advisor to retirement planning. If you put ERISA on paper and put it on its end, it is taller than I am and it is a lot of information to know. But particularly I think RIAs have to know about two things, first, the duty of loyalty.

ERISA does have some very stringent rules that are unique to 401(k) plans or retirement plans, or, I should say, qualified retirement plans, that if you’re not aware of can cause a well-meaning investment advisor to get into some trouble. So I would certainly suggest that any advisor who is looking this area for the first time understand the duty and loyalty rules and the conflict of interest rules that are currently enforced and have been since 1974 with regards to the advice that they are giving, the fee arrangements that they are entering into etc.

Secondly, the standard of care under ERISA is higher than any other known to the law. It’s called the duty of prudence. Courts have described that as the Prudent Expert Rule. In other words, if someone were to ever challenge the advice that you as an investment advisor gave to them, a participant of the plan in general, the question would not be: Was that reasonable or was that well thought out? The question would be: What would a panel of experts in the field have done under a similar set of facts and circumstances? And so it is a pretty high standard of care. There is a lot written on all of this stuff that I would strongly urge registered investment advisors to make themselves aware and familiar with before they step down this path.

Two other quick points I’d make that separates this business from most other investment advising business. The second is lead-time. What we find, the time between you call up Mr. Plan Sponsor and say, “Hi, I am john or Joanie Smith, and I am a 401(k) Plan expert and I would like to help you.” And the time between that first discussion and them signing a service contract at some time is often measured in years not months. It really is a long lead-time kind of business and requires a lot of patience.

If you are interested in hanging out a 401(k) expert shingle, the service model that you must adopt is quite service intensive. These are very lucrative clients and their prospects and I am sure Jessica will talk about that in the next segment on all these benefits going into this direction. But with that comes responsibility to provide a pretty significant amount of hands-on service. And so one has to be ready, willing and able to put a lot of energy into it.

The karma effect

LISA SHIDLER: Thanks, Mike, very much. That leads right into the question that I was going to ask you, Jessica. What are some of the biggest unintended benefits to being in the 401(k) business for your practice?

JESSICA MALDONADO: I think there are only four main areas. One of them I am going to call the business development effect. There are certainly business opportunities that have arisen from participants to me planning. So in our firm, for example, we do the ERISA business, the defined contribution planned market, not market, but we will also help individuals and there have been a lot of opportunities that have arisen as a result of working with retirement plans.

And I don’t just mean in terms of rollovers. For example, there is law firm that we work with, it has very well paid lawyers, all of them would qualify to be wonderful clients of ours. And because of the fact that we’re managing their retirement assets, when they decided that they needed an advisor on their personal wealth, they reached out to us first. So it was a tremendous opportunity there on the business development side. And the second part of that would be what I am going to call a networking effect, that RIA retirement plan’s base is pretty small and it tends to become a pretty tightly knit community.

I have been able to make quite a few friends over the years who have opened some doors that might not normally have otherwise been opened. For example, we’re all sharing a lot about the potential conflicts of interest when you’re managing a retirement plan in fiduciary capacity. At the plan level there is some discussion about whether or not you can then take rollovers from participants and there has been issues and concerns there. There have been situations where other advisors in the community have reached out and said, “Hey, I am at the plan level. I don’t want to take it, it could be a conflict of interest; would you be willing to take it?” See: Borzi: Exemptions from conflict of interest will be part of new fiduciary proposal.

So it has opened up some doors beyond a way with a networking affect. The third area I am going to call the legacy effect. If you’re in this business and you really enjoy helping people, there is a tremendous amount of opportunities in detail in the retirement plan base because of the fact that there are so many participants who don’t know what to do, they don’t know who to trust. They really want someone to help them figure out how much they need to save and how much they need to invest and what they need to do. So I would say using that market is an awesome opportunity to make it a long-lasting legacy. You can all it the karma effect, if you want.

And then the fourth area is from a practice management standpoint. It’s a beautiful thing. I am going to call it the volatility insulation effect. We have the markets they go up, they go down. And for most of us as advisors our compensation is tied to those assets in our management. And so when we have market volatility it creates the scary conditions form a cash flow standpoint. But in the 401(k) world, you’ve got participants making ongoing contributions regularly and routinely and it’s growing at such a pace to where even if the market drops quite significantly your assets under management may in fact actually be up, which means that your cash flow may in fact be up and that’s a nice thing form a business owner’s perspective.

Mandatory comp disclosures

Michael Francis: You have to be
very careful to carve out that
piece where the conflict exists and
make sure that the client understands
that.

LISA SHIDLER: Jessica, you were talking a bit about the ways a 401(k) business has helped your RIA practice and you mentioned assets under management and things like that. Are there any other new sources of revenue for advisors and retirement accounts that you can speak to?

JESSICA MALDONADO: Not directly. There are other opportunities where especially, with some of the rules and regulations, that Rick was talking about earlier, where things are changing at such a rapid pace. I think there will be opportunities because most of the time when you’re talking with business owners or committees of individuals that are higher-level VP-type people who are making decisions on the plan. I think there will be directly, as a result of some of these legislation, changes an opportunity to do some more advanced planning type things that can really open up a window of opportunity for advisors. The revenues down the road, I think, will be abundant.

LISA SHIDLER: Mike, maybe you can speak to this topic too because you have a different strategy for how you manage assets and things like that in the 401(k) business.

MICHAEL FRANCIS: Sure, I think a key point that RIAs looking at this area should be aware that a couple of years ago the Department of Labor passed a new regulation. It is really not a new regulation they just amended an old one. But it is called a 408(b)(2) disclosure regulation. It is very important that people understand if you’re giving investment advice to a plan or a plan sponsor getting paid some type of compensation whether it be direct compensation or some kind of indirect compensation, under the law that fees needs to be disclosed on an annual basis. Not only what the fee is but what the services are being provided to justify that fee. See: Why 408(b)(2) is a flop for the 401(k) business and how RIAs can turn it around.

It used to be best practices, it is now the law. So annually all investment advisory firms that provide services for 401(k) plans are required to give this disclosure to the plan’s sponsor and outline the expected fees and the expected services that they are going to provide. It is then the plan sponsor’s duty to evaluate those fees. You get all direct and indirect fees relative to those services provided and they ascertain if those fees are reasonable. So if one wants to increase their fees from servicing the marketplace then one must decide what other types of services they can provide. And so you could talk in terms of investment consulting services, you can talk in terms of employee education, or employee advisory services.

LISA SHIDLER: And those are some of the things that you do, right, Mike?

MICHAEL FRANCIS: Correct, we do all of the above. Project work such as vendor search projects, things of that nature. There are all kinds of services that can and should be provided to plan sponsors; things that they need and, generally speaking, are willing to pay for. You just need to be able to price them fairly and then get paid for providing them.

RICK MEIGS: This is Rick. There are some RIAs as a result of their retirement practice that are finding opportunities for additional revenue and outside the 401(k) plans with their clients. They have built this relationship of trust with the client and a lot of these clients are turning to them when they have issues. For example on the non-ERISA, deferred comp plans and things of that nature where they might be able to generate additional revenue getting into those aspects.

MICHAEL FRANCIS: There are well known firms in the industry that specialize — in other words they get involved in providing — buying — into 401(k) plans, sponsors, and fiduciaries and the real end game is to build that relationship so that they can get into the stuff where they can really get paid like bank-qualified deferred compensation and that type of thing.

RICK MEIGS: Yes, exactly.

Rollover conflicts

LISA SHIDLER: Mike, to your point when you were talking about fiduciary and we discussed rollover. We have an audience question: As a fiduciary can an RIA legally handle the rollover of a participant?

MICHAEL FRANCIS: That question is going to be answered forthwith by the Department of Labor. The DOL and those that are in their, shall we say, intellectual corner have suggested for a number of years that there needs to be separation between the two. In other words to ask the question: Should I roll my money out of this plan or should I leave it this plan? To someone who gets compensated only if you roll the money out of the plan, this is inherently a bad situation. And the rule should be clarified to protect plan participants form clearly conflicted adviser guides to this question.

So our belief is that the answer to that caller’s question is no. It can and is being done currently under what I would call a gray area of the law. And it is our hope that the Department of Labor finally clarifies this. They were supposed to do it in August and then pushed it back again for the third or fourth time to January or February of 2015. Needless to say there was a tremendous amount of pressure coming upon the Department of Labor from Congress. And Congress is feeling the weight of the insurance company lobbies, the bank lobbies, the brokerage lobbies, etc. which are pretty persuasive lobbies. So we have to wait and see for a few more months until we know the answer to that question. See: Fidelity sees potential 401(k) rollover magnet for RIAs: retirement income plans.

BROOKE SOUTHALL: If the ruling came down that an advisor to a plan could not take the rollover dollars wouldn’t that just change the whole economics of the industry?

MICHAEL FRANCIS: What I think it would do, Brooke. is it would separate the industry. The industry would decide what side of the fence do they want to be on. Do we want to be on the side of the fence that is giving advice to plans and plan participants or do we want to be on the side of the fence that is accepting and helping individuals with the rollover questions and issues? The problem is that there are too many firms that are doing or trying to do both and there are just so many conflicts inherent in that relationship that Department of Labor is trying to stamp it out.

BROOKE SOUTHALL: Jessica, it sounds like you’re not in this business to get rollovers per se like you hear that some people are in the 401(k) business almost as a loss leader to get rollovers.

JESSICA MALDONADO: Right.

BROOKE SOUTHALL: But I didn’t hear that in anything you said.

JESSICA MALDONADO: We manage money and that’s what we do on the ERISA side of the business. We’re helping plans and plan sponsors and participants in the ERISA phase and we are taking discretion. So I have control over some lineups and over models and overqualified people that’s an alternative. I have full and complete control over all of that. So when plan sponsors are engaging my services they are basically pushing that responsibility over to me. Where it becomes fun and interesting and exciting for me is I am now running into situations where other advisors are saying, “Look, my bread and butter comes from rollovers.” And I don’t want there to be a conflict of interest. I really just want to do the rollovers and it has created an opportunity for us to then have the conversation with those advisors and say, “Then why don’t you have your plan and engage our services for the money management. We’ll be the fiduciary on the plan, you can do the non-fiduciary dog-and-pony show, education, shake hands and kiss babies and be the nice guy capturing the roll over.” And then it eliminates that conflict. So they’re happy because continue dealing with what is their bread and butter and they can retain a relationship. And we’re happy because on the money management side of it we feel like we bring the highest value and it is the most scalable.

Small firms and 401(k)s

BROOKE SOUTHALL: Interesting. And the other thing that jumps out at me is as Rick was setting this up he was scaring me to death. Maybe it was Mike, too. This stack of ERISA documents, the fact that this is getting harder for a small firm to deal with and yet you, Jessica, are not a big firm, right?

JESSICA MALDONADO: No, I am a small firm.

BROOKE SOUTHALL: Maybe you just want to give people a sense of that because we talk about big firms and small firms. We don’t define that necessarily very well. But talk about your size and where you come from and where you are now and the degree to which being a small firm is as hard — or not — as it might sound.

JESSICA MALDONADO: I work for a firm that is about 38-years old. We started out on the institutional wealth side, on the high- net-worth side, working with families and individuals on their personal financial planning and investment management means. Over time as we brought on clients who were perhaps business owners or they were thinking about starting a practice or thinking about starting an entity, the questions surrounding retirement plans kept popping up.

We decided that we needed to solve the problem for our existing clients and in so doing ended up carving out another division, if you will, within our firm. And so the area where I focus the bulk of my time is on the retirement-plan side of the equation. And we are very small firm. There are seven of us in my firm and five of the seven of us work exclusively on the traditional wealth management side and then myself and an assistant are the ones working on the retirement side. So everything that I am doing for our 25-plus plans and our 500 or so participants, I am doing on my own.

Small-market fees

LISA SHIDLER: This I Lisa again. We were talking about fees of the big and small players and Rick I wanted to ask this question to you: We keep hearing about these shrinking margins and the 401(k) arena and Jessica has told that she is able to make it work for her, but maybe you can let us know how true is this for larger vs. smaller players. Is it a sign of a opportunity or a settling into the new norm? Are we going to keep seeing these shrinking margins in the 401(k) phase?

RICK MEIGS: Jessica and Michael are going to have really good firsthand knowledge on this and I would be interested to hear their perspectives. But what I think they are going to say it that it really depends upon the market segment that you’re in. As a general observation, fees are compressing because of competitive forces, the new fee disclosure regulations, which has brought about an increased scrutiny by plan sponsors of fees. See: 401(k) industry flummoxed over Yale professor’s 6,000 'threatening’ letters to plan sponsors.

But again. that really depends upon the market segment that you’re wanting to be in. For example, an extremely large plan, I don’t think you’re seeing a great deal of fee compression there because they have always been on top of that and have pressed it down and they value very highly the level of expertise that a RIA needs in order to be engaged by one of those types of plans.

On the real small market, Jessica would be good to speak to that you probably are not seeing as much fee compression there, either. At least I haven’t seen it. So on the questions of margins, are they shrinking? Yes. And that’s not because of fee compression in a lot of these market segments, but more importantly it is due to the increasing costs of hiring more qualified staff on your firm, all the compliance issues that you now have to deal with, and a lot of the new systems and development and operational systems and stuff that you have to develop and invest in.

LISA SHIDLER: Jessica do you want say something?

BROOKE SOUTHALL: Can I interrupt on second? Can we put any — even rule of thumb hard numbers on — the different kinds of advice that can be given on a 401(k) plan?

RICK MEIGS: I have never seen any study that attempts to quantify because most people keep that pretty close to their vest.

BROOKE SOUTHALL: Right, okay.

MICHAEL FRANCIS: I think Wall Street operates in a 20% to 25% range is what they’re shooting for in the high-net- worth area. I would say institutional consulting is definitely lower than that.

BROOKE SOUTHALL: In 20 to 25 basis points?

MICHAEL FRANCIS: No 20% to 25% margin.

BROOKE SOUTHALL: We all threw around the 1% benchmark for wealth management fees and I was trying to get an equivalent benchmark for managing 401(k)s.

RICK MEIGS: It’s substantially less than 1%.

JESSICA MALDONADO: Yep. But I think it depends on the market you’re in.

LISA SHIDLER: Talk about the small plan.

JESSICA MALDONADO: We focus exclusively in the micro- or small-plan market. What I mean by that we’re specifically shooting for plans that are in the $1 million to maybe $6- or $7- million range. I am exclusive in that space by design and because the margins are higher you can get to the decision makers faster so it shrinks that timeline between when you start initially having the conversations and when you actually get the plans through the door.

Just for me from an overarching business plan I want to be able to be routinely talking with the plan sponsor who is also the business owner, who is also the person ultimately going to be selling a business or retiring out of a business who would also be a high-net-worth type of client for me. So it is a very intentional strategy and I will say that at least for our firm margins on the high-net-worth side as far as profit is concerned are closer to 45% to 50%. On the retirement side of that equation. On the 401(k) side it is more like 35% to 40%. So they are squeezed a little bit.

LISA SHIDLER: Mike, I know you’re in the more middle market, right?

MICHAEL FRANCIS: Yeah, our average client has about $100 million dollars in planned assets and you’re right in the middle —not huge but it’s not small. And in that category we see everybody. We see the big coast-based consulting firms and we see all of the regional RIAs as well. There in the pure investment consulting area, I was just talking about consulting, plan sponsors, I mean you are talking about margins in the 10% to 15% range, conservatively. See: TD Ameritrade launches a 'Goldilocks’ 401(k) approach aimed at competing with big wolves — like Fidelity and Schwab.

Shouldering the fiduciary burden

LISA SHIDLER: I am getting a lot of audience questions, so please keep them coming. I’m going to move us to the fiduciary issue because I know that’s a hot topic. One listener is asking — and they are obviously not that new to the 401(k) space because their question is: What gets sponsors to move more [things like a 416 or a 421 or liability help. Mike or Jessica, what type of fiduciary responsibility do you want to try to provide to plan sponsors? What makes the plan sponsors make a decision to move away from an employer?

JESSICA MALDONADO: It’s interesting because I was actually at a retirement conference type thing this week, earlier this week and I think you’re going to get a different answer between where in the country you are and what kind of culture and what kind of organizations you’re going after. For me, in that micro-plan phase where you are dealing with business owners who really just want to focus on their business. They don’t want to have to deal with the administrative hassles of anything and they are looking to push off the liability and the responsibility and really delegate it more to an expert just like they would do with their accounting or any other business-related function. See: The RIABiz list of winners and losers in the wake of the SEC’s fiduciary study.

In my experience, they’re really looking more for somebody who is more full-service doing this discretionary and investment management because that’s where their perception of the risk really lies is in the investment and in a few of the expenses. And as long as they can evidence that they did some quality due diligence in hiring us then they are feeling like they are pretty validated.

LISA SHIDLER: And Jessica, you also share a type of fiduciary responsibility with the employer, right, as part of your strategy?

JESSICA MALDONADO: Yes, we are always a fiduciary on the plan.

LISA SHIDLER: Right.

JESSICA MALDONADO: By nature of what we do and by nature of the fact that we have discretion we are always the fiduciary on the plan. What we don’t take off the plan sponsor; they are still ultimately going to be responsible for processing their payroll on a timely basis. They are still going to be responsible for maintain a current and correct and complete census. They are still going to be responsible for pushing those uploads to the records keepers to get the funds from their checking accounts to the record keeping or custodian’s platform. But beyond that we are really trying to take all of the best practices in the retirement phase, all the stuff that the DOL is looking for, anything that they would be looking for in an audit and provide that full audit report and the full comprehensive package of being a number one stop shop for taking care of everything else.

LISA SHIDLER: We’re getting another question coming in directly on the 3(38) investment advisory service. And that is one of the fiduciary responsibilities you take on, right? Our question, our audience really wants to know is that really the gold standard as it relates because you know it lowers the employer’s liability to the lowest level. Do you think that is becoming a gold standard?

JESSICA MALDONADO: It’s an interesting question because that’s our business model that is what we do, I am an ERISA 3(38) money manager. But right now if I walk into a room of a hundred retirement plan advisors who are all legitimately in the space and working with quite a few different plans sponsors, there is only three or four that are taking 3(38) responsibility. So I think it is shifting in that direction and I think that’s probably ultimately what most plan sponsors want especially in the smaller-plan space, but we are not there yet. I would still say 95% are doing the nondiscretionary limited scope or a 321 type of a status where they are not taking the thresh in on the trading and investments.

Monitoring the monitor

MICHAEL FRANCIS: Let me chime in here. I think there is a reason we are not there with significantly higher percentage of plans going the 3(38) route, or plan sponsors, I should say. When you’re trained as an attorney you’re always taught to think about worst-case scenario. And when you’re talking to a client about this arrangement of old plan oversight and who is fiduciary and who is not, you always have to come back that. What if the market falls by 70% and everybody has lost money and wants to get it back and they are going to sue; are you covered and how?

When it comes to a 3(38) an advisor needs, at least in our opinion, to go to the same level as any other fiduciary decision goes. That is to say if a plan sponsor says, “Hey, I don’ know enough about running my plan or picking investments so I am going to delegate this to a registered investment advisor and let them make the decisions for me and be the 3(38).” They are not going to be held unresponsible, or said the other way, they will be held liable if that 3(38) investment advisor is shown to make either imprudent or self-dealing decision.

Therefore, there is a very strong and ongoing duty to monitor that 3(38) advisor. Imagine the court saying, “Okay, Mr. Plan Sponsor, you didn’t know enough to run this plan or to pick investments so you delegated it to this firm over here. But you did know enough to understand if they were doing a good job or not or charging the appropriate fee or not? I think the answer to the second question just like the first one is “No.” So the gold standard is okay, I want to hire a 3(38) investment advisor and delegate all of those day-to-day investment selections and fee monitoring to them, but you better reach out to a second expert to monitor that 3(38), at least in our opinion. See: Do 401(k) assets require all fiduciary care all the time?.

And that’s what the big guys do. If you go to $100 million, $200, $500 jillion dollar pension plan or 401(k) plan, it has delegated fees and investment managers duties to like a Frank Russell or an SCI etc. who are out there pick fund managers on their behalf. They almost always have a second expert on their side of the table evaluating performance, evaluating fees making sure that it is all above-board reasonable, etc.

So in reality, the 3(38) approach is a very valid one and Jessica’s firm I am sure adds a lot of value. But what it really does is add an additional layer of cost, and at a certain level that cost is very easy to justify. In the smaller plan marketplace you are either flying naked not overseeing a 3(38) manager or you’re incurring another set of costs that you are going to have to be able to justify to participants.

Intelligent plan design

LISA SHIDLER: That is a good debate. I keep hearing more and more about the 3(38) and I wanted to just take a quick moment to remind everyone to please submit questions. We want to get to as many as we can. While I am waiting for a couple of more for you to submit questions, I do want to thank our sponsor, the Hartford Fund, and for more information you can request Hartford Funds’ newest white paper from Nanette Abuhoff Jacobson, asset allocation strategist at Wellington Management Company LLP and Global Investment Strategist for Hartford Funds, titled “No Market is An Island.”

One audience member is asking: What does the RIA marketplace look like for those who focus on plan designs for closely held businesses? Mike or Jessica?

MICHAEL FRANCIS: There is a big market for plan design. Now again if you are talking actual plan design, writing a plan document, that typically crosses a line over into the legal area. Plan document creation, modification, amending is really a legal function. So I am not sure if that question was about plan design as much as it was maybe investment design or bigger picture plan, plan features I should say. But clearly plan sponsors, whether be closely held or publicly held need help understanding what the latest trends are, what the latest solutions are, best practices in the industry. This marketplace is evolving, it is changing every day. And when I got started in this industry nobody knew what a target date model was. Ten years, fifteen years later everybody got target date models. See: What led to Vanguard allowing its 401(k) plan sponsors to shop around for non-Vanguard target-date funds.

In 2001 nobody knew what auto-enrollment was or auto-escalation was. Now everybody knows it and most people are using it. So these things come along and they are advancements, they are evolutions, they are improved. If you’re a plan sponsor busy trying to make money building widgets you probably are not going to know about this stuff so you need somebody who can tell you about it.

And quite frankly, in our experience most, not all, but most platform plant record keepers might not be all that interested in keeping you apprised of all the changes. I am appalled at how little the industry has adopted Roth 401(k). It has been eight years and still nearly half of all plans don’t offer that feature. Why? Because it costs the record keeper more money to do it and they don’t get to make any money on the feature. So guess what? They don’t say talk it up, they don’t talk about it, and it doesn’t happen. So advancement like that only happens if a plan sponsor gets help, gets advice form an expert that know what’s going on in the industry and can keep the apprised and abreast of best practices.

RICK MEIGS: I might jump in on the closely held question. I will just take the question at face. If you’ve got a 100-employee closely held corporation or a 100-employee publicly traded company, the K plan is the K plan. There is really no distinction between the two. So there is probably some caveat there that isn’t specifically in the question that is driving that.

Can. But should?

LISA SHIDLER: Rick, thanks. We have another nuance question: Can an RIA manage an collective investment trust that an ERISA plan uses and an advisor from that RIA also be the advisor of that ERISA plan? So the person is saying the advisor is getting some compensation or maybe a traditional percentage of assets, which the RIA is getting a cut of and the RIA will also be compensated an internal fee form the collective investment trust?

MICHAEL FRANCIS: Big picture, I say the answer is, “No.”

LISA SHIDLER: Right.

MICHAEL FRANCIS: Because if that RIA is getting paid a fee to guide a plan sponsor or guide the participants on where to place plan assets and one of those options on that plan menu they make money from, there is a clear conflict there. It is not that it can’t be done. You can recuse yourself from commenting on or advising on that specific investment option where you have an interest. So it is something that can be done, you just have to be very careful to carve out that piece where the conflict exists. And make sure that the client understands that. That you can advise them on all these other funds and assets over here and tell them if they are doing well and tell them if they are priced correctly and tell them if they are a good idea or not. But when it comes to this one over here, where your firm has an interest, that they are going to seek a separate opinion for.

RICK MEIGS: I guess my answer to it would be, “Yes, it can be done.” But then I would say the identical things that Mike has just mentioned. So the Fidelity lawsuit that they just settled is a similar circumstance. It is their own internal 401(k) plan in which they have their own funds in which they are generating income off of and the genesis of — I am being real simplistic here but the genesis of the suit is: Can they do that? See: Fidelity Investments wins huge in the 'biggest 401(k) case in decades’ — but bearing battle scars.

MICHAEL FRANCIS: Let’s not pick on Fidelity, right? Mass Mutual has the same thing.

LISA SHIDLER: I was going to say, they are not the only ones.

MICHAEL FRANCIS: For years, for decades, all of that was going on and it was: Hey no problem, nothing to see here, keep moving. But in reality when the conflicts are that clear it is a lawsuit waiting to happen, So your best advice is just to steer clear of those kinds of conflicts and keep yourself as the registered investment advisor and your firm out of harm’s way by not engaging in those kinds of conflicted arrangements.

Outsourcing the pain

LISA SHIDLER: We have another question I want to shoot over to Jessica. I think this is perfect for you. The question is: What is the biggest reason to not dabble in the 401(k) business for a small RIA with little ERISA expertise?

JESSICA MALDONADO: The biggest issue there is actually twofold. One piece of it is the compliance piece. I can’t tell you how many hours we have spent developing disclosure and then running them up the flagpole and then making sure the ERISA attorney agrees with the language. And then you have got all your engagement agreements and everything else. So all has to be tweaked and modified. So if you’re going to get in this business you better be serious about it because it is going to be very sensitive on the front end to get everything situated just right from a legal and compliance and regulatory standpoint.

The other side of that I think also is one of scalability. I have the same 24 hours in a day. Is my time better spent doing this or doing that? And if there is something that you do that would provide a greater value, a bigger revenue stream, a better opportunity down the road then being focused on that might make a whole lot more sense than dabbling in something that may make you feel a little weak and may not be the highest investment of your time.

BROOKE SOUTHALL: A follow-up question: Jessica, to that which is you mentioned some of these pain-in-the neck upfront things, can any of that be outsourced these days? I know the custodians are getting more sophisticated. Are there TAMPs that call themselves 401(k) TAMPs or is there certain things that you got to swallow yourself? See: Charles Goldman rolls up a TAMP that handles clients with concentrated equity positions and 401(k) accounts.

JESSICA MALDONADO: Absolutely and I think it depends on the route that you go. There are certainly custodians that are offering platforms earlier this year — Ameritrade for example — and now that they were coming out with a solution that was an open architect but bundled solution. They were trying intentionally to make it advisor-friendly so that more advisors could offer retirement plan solutions to more of their clients. Obviously they have a vested interest in doing that because it is a wonderful cost-sell offer [indiscernible], right? See: Not without criticism, TD Ameritrade opens an 'insurance agency’ for RIAs that want to provide annuities.

But you still have all the time, energy and effort associated with doing all the due diligence on them making sure that that’s reasonable, contracts, and all of those things because at the end of the day if you are recommending that route to your client you better make sure that it is in their best interest.

Rely on the experts

RICK MEIGS: One of the questions deals with all the new regulations and how daunting it seems to be in the 401(k) space and how can an advisor drive into that space and not spend three year memorizing all those rules? And so I think it would be appropriate for me to touch on that now.

LISA SHIDLER: Please do, Rick.

RICK MEIGS: So my response is you can’t. You need a working knowledge. That is what Jessica is saying. You have got to have a working knowledge of these rules and regulations. That being said, there are some steps that you can take and she has alluded to a few of them and I just made five quick bullet points her while she was talking.

One, you can hire the expertise internal; try to bring on staff, people who have it. You can create a network of smart people that you can turn to that are in your existing region — ERISA attorneys, CPAs, custodians, all those types of people. You can join some of the national associations that are out there and take advantage of their conferences and educational opportunities like NAPFA and Center for Due Diligence.

You can join any number of elite study groups that are out there and available like the Revere Coalition. You can merge or join with one of the — and we are seeing a lot more of this now — what I call these national retirement consulting networks or consolidators that are occurring out there. So those are some additional steps that you might potentially look at.

LISA SHIDLER: Rick thanks very much. Actually we had a questions about that too so you took care of a couple of issues with one response. Unfortunately, we are out of time. This was a wonderful discussion. I do wish we had more time. I know we are going to try to answer some of the questions that we weren’t able to during the hours. I really do want to thank our panelists for an insightful conversation. I want to thank the Hartford fund as our sponsor and I am going to turn it over to Bob Hanson who is going to conclude today’s webinar.