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Including a retirement plan provider’s affiliated funds as part of the plan’s investment lineup is not necessarily a fiduciary conflict of interest, a paper authored by lawyers at Drinker Biddle & Reath in Los Angeles and commissioned by Great-West Retirement Services found.
The paper, co-authored by Drinker Biddle's Fred Reish, Bruce Ashton and Summer Conley, found that including such plans do not constitute a conflict of interest and that excluding them could potentially raise more questions than excluding them.
“Simply dismissing from consideration the funds offered by an affiliate of a record keeper is potentially a breach of one’s fiduciary responsibility,” Reish said in a statement. He noted that affiliated funds may provide benefits like guaranteed minimum withdrawal benefits or investment education to participants.
When recordkeepers are affiliated with investment managers for affiliated funds, they generate additional income for the recordkeeper. As a result, the paper found, these funds are sometimes offered at a discounted price.
“Given the potential for cost savings and other advantages, it is prudent to at least consider affiliated funds when making investment selections,” Reish said.
Section 406(a) of ERISA prohibits fiduciaries from entering transactions with a party of interest, according to the paper; however, such a transaction is exempt if it is for plan services such as investment management, and compensation to the service provider is reasonable.
Section 406(b) prohibits fiduciaries from using “the authority, control or responsibility that makes him a fiduciary” to receive additional compensation.
As such, the authors conclude, when fees received by a record keeper and affiliated fund are reasonable and the fiduciaries do not receive a personal benefit from selecting the fund, there is no prohibited transaction.
The paper notes that the key for measuring fiduciary conduct is not whether an investment succeeds or fails, but whether the fiduciary sufficiently investigated the investment. The authors cite one case, Donovan v. Walton, which said, “ERISA § 404(a)(1)(B) requires only that [fiduciaries] vigorously and independently investigate the wisdom of a contemplated investment; it matters not that the investment succeeds or fails, as long as the investigation is ‘intensive and scrupulous and … discharged with the greatest degree of care that could be expected under all the circumstances by reasonable beneficiaries and participants of the plan.‘”
The authors referred to court cases Tibble v. Edison International and Braden v. Wal-Mart Stores, Inc. which found that choosing a retail share class rather than a cheaper institutional share class constituted a breach of fiduciary duty.
“Thus, these cases suggest that if, like an institutional share class, the affiliated funds will result in lower fees for the participants, they should at least be considered as part of the prudent process of reviewing and selecting investment options,” the authors write.