The Use of ERISA § 3(38) Investment Managers in Defined Contribution Plans

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The plan sponsor must be willing to transfer discretion for fund selection to the investment manager. The best plans will allow only model portfolios for their employees. The employees only choice will be the risk level assumed for their portfolio. The result is more of a pension fund like plan.

Following the form of ERISA § 3(38) without the substance is likely to result in a breach of fiduciary duty. The two ways that the named fiduciary committee can end up in “ERISA jail” are: 1) when its investment consultant does not actually manage an investment portfolio, but is hired over other consultantswho won’t accept manager status; and 2) when the consultant is being paid more — again without actually managing a portfolio — on the theory that liability is being shifted to the consultant / manager. The reason that either of these situations may be a breach of fiduciary duty is that the named fiduciary committee is making decisions primarily to benefit itself, and letting these hoped for benefits govern how much to pay the investment consultant, or who to hire as an investment consultant.Bottom line, ERISA § 3(38) should be used in a DC plan in much the same way that it is used in DB plans; namely, with real investment managers who actually manage portfolios. This article will give you a head start in understanding why this common sense approach should be used, and why this approach reduces the liability of a named fiduciary committee precisely because it puts the interest of participants first. You may also wish to read a more in-depth treatment of this whole subject that I published on the Social Science Research Network here: .

There will be service providers which will try to take advantage of this provision. When a service provider hires a investment manager as ERISA 3(38) for a portion of the portfolio but not all the plan sponsor will remain liable. This provision is only effective when full discretion of funds is formally transferred.

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