The Advantages And Disadvantages Of Hiring A 3(38) 401(k) Retirement Plan Adviser


There comes a time in the life of all successful business owners when it’s necessary to start considering ways to delegate duties. Before that can be accomplished, however, it’s necessary to take an inventory of all those duties and prioritize them.

Once you see which duties have the least impact on revenue generation and profit maximization, you’ll know the duties you can comfortably delegate.

For many, high on the list of delegating is the administration of the company’s 401(k) plan.

There are several methods when it comes to delegating the management of this employee benefit. For example, you can hire dedicated staff. If that cost is prohibitive, you may find it less expensive to hire out the job. There are two common choices when it comes to delegating specifically the investment functions of the 401(k) plan.

While in the past a popular choice has been to hire an adviser as a co-fiduciary (i.e., a 3(21) adviser), there may now be a trend towards hiring a different type of provider: an adviser that takes on nearly all the fiduciary liability associated with the investment process.

This is the 3(38) adviser.

“A 3(38) is an investment fiduciary who has full discretion with a retirement plan’s assets including research, selection and continuous monitoring with the guidance and oversight from the plan sponsor’s investment committee,” says Deborah Castellani, a Senior Fiduciary Strategist and Sales Trainer at Akros Fiduciary Management in Austin, Texas.

Just as hiring a 3(21) adviser has advantages and disadvantages, so, too, does hiring a 3(38) adviser. Before you make the decision to go the route of the 3(38), you must familiarize yourself with the advantages and disadvantages of that choice.

Advantages of hiring a 3(38) adviser:

Reduces fiduciary liability. This, by far, reigns as the top reason for making the decision to fully delegate this duty. “The major advantage to hiring a 3(38) adviser is a 3(38) will monitor and select investments if properly appointed by the plan fiduciaries,” says Ryan Barnett, VP of Retirement Services at Heritage Retirement Plan Advisors, Oklahoma City. “The liability associated with making these decisions would shift from the plan sponsor to the 3(38).”

An experienced fiduciary takes the lead. Why reinvent the wheel when you can turn to someone who has been down this road before? Castellani says, “A 3(38) is a fiduciary by law, just like a plan sponsor, and thus plan sponsors can gain knowledge of the importance of fiduciary processes and documentation – the key to mitigating their fiduciary liability. The shift in fiduciary responsibility also means much of the process, research and documentation is also shifted to the 3(38).”

Investments can be personalized for individual participants. With the independence of a 3(38) adviser, it is easier for employees to receive investment advice tailored to their unique situation. “Plan offerings can be customized to the specific characteristics of its participants,” says Anna Dunn Tabke, Principal at Alpha Capital Management in Atlanta. “The more the plan participant behaviors or characteristics deviate from the average, the more likely the plan sponsor is to find that off-the-shelf options fall short of their participants’ needs.”

Continuous investment oversight. A 3(38) works 24/7 on behalf of the plan. It’s their only job. It’s their career. With a 3(38) adviser, “plan sponsors get professional investment services in all aspects of the investment process,” says Castellani. “Since the 3(38) is responsible for all aspects including choosing the right investments, the plan sponsor has fiduciary oversight and services continuously.

Frees up time. This, ultimately, represents the most economically powerful reason to delegate retirement plan responsibilities. “Hiring a 3(38) adviser will free up the time and resources you would otherwise have to devote to the process,” says Barnett. “Most plan sponsors fill their day with responsibilities of their core business and it makes sense to take advantage of the ability to outsource this task by hiring an expert.”

With the 3(38) adviser now taking on the bulk of otherwise time-consuming and non-essential duties (i.e., those activities that do not pertain to corporate revenues and profits), plan sponsors can focus on their business. “By invoking the powers of a 3(38),” says Daniel R. Hill, president of Richmond, VA-based investment advisory firm D.R. Hill Wealth Strategies, LLC, “these companies can remain focused on the three main revenue generators such as client relations, budget discretions and employee performance.”

Alas, as with any option, nothing is perfect…

Disadvantages of hiring a 3(38) adviser:

Higher cost. You get what you pay for, and with a 3(38), you’re getting more than other alternatives. “Typically, there is an additional cost associated with hiring a 3(38) adviser,” says Barnett. “The 3(38) adviser is taking on the liability and responsibility for selecting, monitoring and changing plan investments.”

Gives up control. This is the most difficult reality facing the entrepreneur. If you’re used to being the master of your domain, giving that power to someone else may have unsettling consequences. “If plan sponsors are no longer responsible for making investment decisions, they must give up control over what funds will or will not be included in the lineup,” says Barnett. “Although there is usually a dialogue between the 3(38) adviser and the plan sponsor, the final decision is up to the 3(38).”

You won’t necessarily get to have your favorite investment. This is the most unsettling of those consequences. “When working with a 3(38) adviser, by definition, plan sponsors grant discretionary authority related to investment decisions to a third party,” says Matthew Zokai, Senior Advisor Retirement Services at 1st Global in Dallas. “Plan sponsors have removed themselves from the decision-making process. If they, for example, have a particular fund family they would like included in the plan lineup, that input will not part of the 3(38)’s screening methodology.”

Requires trust. Any time you delegate your responsibility to someone else, trust is critical. “There has to be complete confidence between the 3(38) and the plan sponsor,” says Hill. “Without it or even if there is a perceived question as to why the 3(38) adviser made a modification to a fund, then subsequent actions done by the 3(38) could create further mental fracas within the sponsor.”

Requires timely communication. When a plan sponsor hires a 3(38), that adviser has the duty and obligation to act unilaterally. This is how the plan sponsor benefits from the advantages. But independence do not mean solitude. Keeping the line of communications open takes effort to avoid problems. “The 3(38) needs to act swiftly to maintain the fund, yet also needs to communicate what actions were done in a timely manner,” says Hill. “It’s not advised to make a change to a fund and then wait several months to communicate this change to the sponsor.”

You can never really delegate 100% of your fiduciary liability. This is a reality all too often forgotten by plan sponsors who think they can just delegate their entire responsibility for their company’s 401(k). “Plan sponsors retain fiduciary responsibility for selecting the 3(38) and monitoring performance,” says Barnett. “They must make sure the decisions are consistent with the investment policy statement and objectives of the plan. As a fiduciary, you still must review fees and ensure they are providing the scope of services outlined in the agreement.”

While there are many advantages t0 hiring a 3(38) adviser, there are trade-offs.

Are you willing to lose control over your investment choices in exchange for reducing your fiduciary liability and freeing up more of your time?

That is the key question you will need to answer before deciding whether or not to hire a 3(38) adviser.

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