Fiduciary Liability Risk: The 3 Main Areas of Concern

Got five minutes? The topic of this blog post is covered in our Fiduciary Five Podcast series hosted by Chuck Hammond of the 401(k) Study Group. The Fiduciary Five Podcast…your fiduciary questions, answered in about five minutes.  To listen to the related podcast, click here.

A favorite quote of mine is by Mark Twain, “Never try to teach a pig to sing. You waste your time, and you annoy the pig.” While this quote has nothing to do with this post, it is funny. Mark Twain was, however, well known for his wisdom and this other quote is apropos.

“I’ve had a lot of worries in my life, most of which never happened.”

We discuss risk in many contexts in the retirement plan industry. It comes up as sales tactics, it comes up as good counsel from trusted advisors preaching procedural prudence and it comes up in the form of intimidating industry vernacular. Words such as fiduciary liability, fidelity bond or the big bad of our industry, the Department of Labor (DOL), are often thrown around.

Notable 20th Century Artist, Kurt Cobain once said,

Just because youre paranoid doesn’t mean they aren’t after you.”

I think he actually lifted this quote from Joseph Heller, but I digress. In our industry, this sentiment of paranoia is an underlying motivation that drives the risk conversation with distribution partners, prospects and clients.

Recently, I spoke on a Fiduciary Five podcast with Chuck Hammond of The 401(k) Study Group where he asked me the question, “Will the DOL ever audit my plan?” Over the course of the conversation, we discussed the statistics around this topic.  In short, it is a small percentage, but it can happen.

When it does happen, it usually occurs because someone invited them to investigate. Think about that disgruntled former employee who lashes out at their now former employer. We also discussed what could further trigger an audit,  trip up an employer to fail the audit, as well as what we as practitioners can do about it.

A few years ago, on there was an article that discussed this very topic (What triggers a Form 5500 Audit).  I found particularly interesting the list of actual 5500 responses deemed likely to trigger an audit or investigation.  Specifically listed were:

  • line items that are left blank when the instructions require an answer
  • inconsistencies in the data disclosed on the Form 5500 schedules
  • a large drop in the number of participants from one year to the next
  • a large dollar amount in the “Other” asset line on the Schedule H

Other red flags include hard-to-value investments, non-marketable investments, and consistent late deposits of deferrals.  Included in this category would be Self Directed Brokerage Accounts and Employer Stock.

As a Discretionary Trustee, one of the primary reasons we are hired, although not the exclusive one, is to provide relief from exposure to fiduciary liability risk. When we view retirement plans in terms of risk, we view it as a spectrum.

Generally, we view risk as falling into three main areas of concern;

1.) High Risk/Low Probability – This is the risk of law suit.  It is unlikely to occur, but if it does, it will be unpleasant, expensive financially to defend and there will be a reputation cost as well.

2.) Low Risk/High Probability – We’ve found that in the vast majority of the plans we take over, we catch some kind of administrative, fiduciary or document breach up front and correct them.  These types of issues are likely to pop up from time to time and are a quite common problem.  They are relatively inexpensive to correct but do cause aggravation to clients.

3.) Medium Risk/Increasing Probability – This is the audit risk we’ve been discussing.

If you read the article or listen to the podcast, the lesson for employers is to make sure that 5500’s are completed with the same care and attention to detail that a person would use when filling out their IRS 1040. It’s important that the plan is being governed properly and run compliant to both the governing plan documents and ERISA so that all of the above risks can be mitigated.

Advisors are in a perfect position to add value in this area as they are in a position of trust. They have the expertise and training to help the employer implement the appropriate structure to keep the DOL (and the IRS for that matter) out of their offices. Right away, advisors can implement a few simple services to help:

  • Providing a 5500 review to help clients avoid potential audit triggers.
  • Coach clients to eliminate some of those difficult to value assets like employer stock or Self-Directed Accounts because those plans are the low hanging fruit from an auditor’s perspective.
  • Work with competent fiduciary service providers, like Unified Trust, that can put the appropriate guardrails in place.

While Mark Twain’s quote holds true for most of us, it’s a good idea when running a retirement plan to think more like Kurt Cobain.

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