Fiduciary Services Rules 3(21), 3(38), and 3(16): What Does It All Mean and What Do Your Clients Need to Know?

The regulations governing employee retirement plan administration can be confusing for clients. Add in the tendency to refer to plan administrators and those who provide advice to them by the sections of the Employee Retirement Income Security Act of 1974 ("ERISA”), the law that regulates those administrators, and clients can feel lost at sea adrift in a wave of numbers. So what does it all mean and how can you tell them all apart? One helpful approach is to look first at what a fiduciary does, who can advise them, and what the intention behind ERISA. and the regulations and other guidance issued under it.

First, in general, a fiduciary is someone who is authorized by an agreement, express or implied such as a trust or a defined relationship, to act on behalf of another.  The person or group who receives the benefit of the fiduciary’s efforts is called a beneficiary. But a fiduciary is more than a label; it carries a certain set of obligations with it. Under general legal principles, a fiduciary owes a high duty of care to the beneficiary. That duty of care usually requires that the fiduciary inform themself or themselves of all material and available information prior to making a decision, and to make prudent decisions based on that information. Fiduciaries also owe their beneficiaries a duty of loyalty. That duty requires that a fiduciary avoid conflicts of interest and not use their position of confidence to further their own interests. Fiduciaries must also act in good faith, maintain confidentiality and communicate with complete candor by disclosing information.

The intention behind ERISA was to ensure that those who manage retirement plans or their assets do so solely in the interest of plan participants and make good choices about investing plan assets. Those drafting the law defined ERISA fiduciaries based on the general fiduciary rules discussed above.

Section 3 of ERISA contains the definitions that apply to the statute and defines ERISA fiduciaries in three separate sections. Section 3(21) of ERISA generally defines an ERISA fiduciary as someone who exercises any discretionary authority or control regarding the management of an employee benefit plan or the disposition of its assets. A fiduciary under section 3(21) also refers to someone who renders investment advice in exchange for compensation. Finally, section 3(21) also defines a fiduciary as someone with the ability to administer the plan. A section 3(21) fiduciary includes the plan trustee and plan administrator as further defined below.

An advisor who renders discretionary investment advice to an employee benefit plan is defined as an investment manager in Section 3(38) of ERISA. An investment manager is one who has the power to manage, acquire, or dispose of any asset of the plan,  and has acknowledged in writing that they are a fiduciary with respect to the plan. Thus, while a section 3(21) investment fiduciary recommendations investments and investment strategies to plan fiduciaries who either approve or reject them, an investment manager is authorized to implement those recommendations and strategies without the approval of other plan fiduciaries. Because of the increased reasonability of an investment manager, ERISA requires that this function be performed by a registered investment adviser under federal or state law, a bank or an insurance company.

A Plan Administrator is defined in ERISA section 3(16) as the person designated by the employee benefit plan, the plan sponsor, or, in the absence of such designation, someone the Secretary of Labor determines. A plan sponsor is defined in that section as the employee organization (for a single employer plan) or the association or group of representatives of the organizations or parties making the plan (for a multiple employer plan). The Plan Administrator is the named fiduciary responsible for all plan administrative functions, including hiring and monitoring other plan service providers. The plan sponsor is often the named plan administrator, but an employee or committee of employees may also be named. Alternatively, a third party may be designated to provide some or all plan administration services. Note that a third party administrator, or TPA, is generally not a section 3(16) administrator, although the TPA may agree to take on fiduciary responsibility for some or all of the plan administration services.

How should a client choose among the different types of third party plan fiduciaries.  That should be governed by their own ability to meet the requirements of ERISA as a fiduciary and, regardless of their own abilities, whether they want to mitigate their personal risk by hiring one or more third party fiduciaries.

By choosing a 3(21) investment advisor, the plan administrator or trustee shares fiduciary responsibilities with the advisor. Some call this creating a co-fiduciary relationship. However, a plan administrator or trustee may generally rely on an investment advisor for advice or recommendations, and thereby avoid fiduciary liability for those investment recommendations.

If your client needs someone to control the investment of some or all of the plan assets, then your client would look to engage an investment advisor under 3(38). A 3(38) investment manager makes investment decisions. In contrast, a 3(21) advisor provides investment recommendations. In the context of a participant-directed plan such as a 401(k) plan, this means recommending or selecting the plan’s investment menu.  In selecting the investment menu, however, a  3(38) investment manager must follow an Investment Policy Statement that is prepared by the plan administrator or trustee in consultation with the investment manager . Take heed though, a client cannot hire a 3(38) manager and wash their hands of involvement in the plan: ERISA requires that plan administrator or trustee exercise prudence and judgment in choosing the 3(38) manager.

If your client needs someone to actually handle some or all of the plan administrative functions, including meeting ERISA reporting requirements, disclosure requirements, filing the correct paperwork with ERISA and making the required disclosures to plan participants, then your client would need a third party plan administrator that would fit the 3(16) definition. That person also has responsibilities to the plan participants as beneficiaries of the administrator’s efforts, making them fit into that general concept of fiduciary. The plan administrator under 3(16) would make some or all of the day-to-day decisions for the plan, including distributions and interpreting documents. This can reduce the administrative burden on the person named as fiduciary under the plan, and shift liability for the delegated administrative functions to the outside plan administrator. Those who do the record keeping for the plan are generally not considered 3(16) plan administrators because they work for the 3(16) administrator and do not have discretion to act on their own.

Finally, a client with a complex plan, or a plan with specialized needs, may want to ensure proper compliance with ERISA’s reporting and disclosure requirements by looking engage a plan administrator, but also need to improve plan performance or mitigate investment risk by engaging an investment advisor or investment manager. In terms of understanding the various definitions under ERISA your client should keep close to the general concept of a fiduciary, in terms of what degree of involvement and direction your client needs over the retirement plan, as well as the requirements to disclose, act with loyalty, invest and manage assets prudently and avoid conflicts of interest.