3(21) vs. 3(38): Determining an Appropriate Fiduciary

Retirement plan sponsors have a legal fiduciary responsibility to put plan participants’ interests first. Failure to do so could land the plan sponsors — both individuals as well as the company itself — in hot water, which could include personal liability for fiduciaries.

What’s more, it may be that people working within the plan sponsor are actually fiduciaries, based on their responsibilities.

Success in a plan’s fiduciary functions is often a matter of hiring the necessary support, as plan sponsors are required to be experienced in investments or hire expertise from a third party.

There are two types of plan investment consultants: 3(21) investment advisors, and 3(38) investment managers, named after the sections of the Employee Retirement Income Security Act (ERISA) regulations that discuss their responsibilities.

Plan sponsors need to know the differences between 3(21) and 3(38) fiduciaries when deciding on the type of investment advisor for its plan.

Discerning the differences

Working with the plan sponsor as a co-fiduciary, 3(21) investment advisors suggest and monitor the plan’s investment choices. In addition, a 3(21) advisor helps evaluate and choose other plan service providers, such as a third-party administrator or investment custodian.

In working with a 3(21) advisor, a plan sponsor stays highly involved in the decisions related to managing the plan. This might suit some sponsors who seek to retain more control and want to be more hands-on in operations.

However, in the 3(21) arrangement, a plan sponsor acts as a co-fiduciary, sharing the responsibility with the investment advisor.

In comparison, 3(38) investment managers, have far greater control and responsibility in managing the plan. These managers have full discretion over the fund lineup and related investment choices.

Perhaps the most important distinction between the two types of managers is that 3(38) advisors assume the fiduciary responsibility. The sponsor retains the fiduciary responsibility of selecting an experienced 3(38) fiduciary and periodically reviewing their performance, but the sponsor is not responsible for investment decisions.

Plan sponsors need to be able to demonstrate that they acted prudently in hiring the 3(38) investment manager, but nothing more in terms of fiduciary responsibility.

Investment brokers are not fiduciaries

It’s important to note that investment brokers are not fiduciaries: Unlike a fiduciary, brokers are not legally obligated to put the interests of the plan or its participants first. Instead, brokers are subject to a “suitability” standard, which does not necessarily ensure they are acting in the best interests of the client.

It’s also critical for plan sponsors to know how the investment professional or firm will be compensated. Typically, investment brokers are compensated via commissions or other payments from the funds sold in the plan. However, fiduciaries’ compensation is fee-only or fee-based.

Which is the right fiduciary model?

Choosing between a 3(21) investment advisor and a 3(38) investment manager requires guidance on the following:

  • Control: A plan sponsor wanting to have a high level of control of its retirement plan may want to hire a 3(21) advisor.
  • Involvement: Some plan sponsors welcome the opportunity to have daily involvement in operations; many (if not all) do not. Hiring a 3(38) manager requires less involvement from the plan sponsor.
  • Time: An organization to be involved and have a high level of control takes time. Even if the plan sponsor wants to do so, it may not be realistic; in this situation, a 3(38) manager may make sense.
  • Comfort: If the plan sponsor desires less isn’t comfortable with certain risks regarding investment selection and monitoring, a 3(38) manager is probably the appropriate choice.

This material was created for educational and informational purposes only and is not intended as ERISA, tax, legal or investment advice. If you are seeking investment advice specific to your needs, such advice services must be obtained on your own separate from this educational material.

HUB Retirement and Private Wealth offers institutional and retirement services to for-profit and not-for- profit organizations and customized private wealth management services to individuals and families. HUB Retirement and Private Wealth employees are Registered Representatives of and offer Securities and Advisory services through various Broker Dealers and Registered Investment Advisers, which may or may not be affiliated with HUB International. Insurance services are offered through HUB International, an affiliate.

HUB Retirement Services provides ongoing guidance on your plan’s structure and management to ensure it meets regulatory compliance guidelines and the interests of your employees.

Securities offered through LPL Financial, member FINRA/SIPC. Investment advisory services offered through Global Retirement Partners, LLC (GRP), a registered investment advisor. Insurance services offered through HUB International. GRP, Washington Financial Group and HUB International are separate and unaffiliated with LPL Financial. Washington Financial Group is the approved name under which LPL Financial business is conducted.

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