More and more companies these days are offering participant-directed investment retirement plans such as 401(k) plans rather than traditional, pooled-investment retirement plans such as trustee-directed profit-sharing and pension plans. However, many of those same employers are hesitant to offer education programs for fear that it might be interpreted as offering investment advice, which could make them legally responsible for participants' investment decisions.
So why should an employer offer an investment-education program? Actually, a well-designed investment-education program can enhance employees' investment performance and minimize employers' liability under ERISA guidelines through tactics designated as so-called Safe Harbors.
A participant-directed investment retirement plan, as opposed to a traditional pooled-investment retirement plan, requires employees to make decisions not only on participating and the amount they want to contribute, but on asset allocation among the plan's investment options as well. Educating employees will help them gain a better understanding of risks and returns. This will provide them with more incentive to improve their understanding of the plan and make them less likely to blame the employer for disappointing investment performance. One caveat: The trustees of the plan are responsible for offering competitive investment options. Even a good investment-education program will not keep employees happy if the investment options are mediocre.
Educated participants also will be better equipped to meet their retirement income goals and limit the employer's liability for the consequences of their decisions. And if the education program encourages lower-paid employees to participate in the plan, higher-paid employees may be able to contribute more money without violating nondiscrimination rules.
In June 1996, the U.S. Department of Labor published guidelines helping employers keep their education programs from violating ERISA rules concerning advice and employers' liability. The DOL bulletin states that employers are providing investment advice, and are therefore liable under ERISA, if both of the following statements are true:
1. The person running the education program gives advice concerning the value of securities or other property or makes recommendations as to the advisability of investing in, purchasing, or selling securities or other property.
2. The person running the education program controls the purchasing or selling of securities or other property for the plan participants or gives advice to the participants on a regular basis, and this advice serves as a primary basis for the participants' investment decisions.
Upon determining whether the education program rings true or false with the above statements, the next step to address is so-called Safe Harbors. Following are four categories of investment-related information and materials that employers can use in their programs, and, according to the DOL, will not be considered "advice-giving" under ERISA.
1. Plan information. This is information on benefits available to the participants, how they can increase their retirement-plan contributions, the impact of pre-retirement withdrawals on their retirement income, terms and operations of the plan, and the investment alternatives available to them under their plan.
2. General financial and investment information. This is information on risk and return, diversification, dollar-cost averaging, compounded return, and tax-deferred investment. General financial and investment information also covers differences in return rates among stocks, bonds, cash investments, etc., based on: standard market indexes; the effects of inflation; estimating future retirement income needs; determining investment time horizons; and assessing risk tolerance.
3. Asset-allocation models. This is information and materials concerning hypothetical cases given to plan participants so they can compare and study cases that are similar to their own situations.
4. Interactive investment materials. This includes questionnaires, worksheets, software and other materials that participants can use to plan their retirement investment strategies.
Lastly, it doesn't matter how these four categories, or Safe Harbors, of information are presented to plan participants-meaning that anyone can present the information, including the plan sponsor, fiduciary, or service provider. It also doesn't matter how often the information is presented. The bottom line is that it's in the plan sponsor's best interest to educate employees on how they can reach their retirement goals through their participant-directed plan.
Next month we'll look at developing a participant investment-education program and selecting someone to run it.
Louis P. Stanasolovich is founder and president of Legend Financial Advisors Inc., a North Hills-based, Securities and Exchange Commission registered investment advisory firm that provides asset management and comprehensive financial planning services on a fee-only basis to individuals and businesses. Legend Financial Advisors Inc.'s Website is located at www.legend-financial.com. Stanasolovich can be reached by phone at (412) 635-9210.