The DOL’s proposed regulation on selecting investments, including alternative assets, 2026-06178.pdf, identifies six factors that should be considered in the process of selecting any investments for participant-directed plans, such as 401(k) plans and private sector 403(b) plans. The six factors are: Performance, Fees, Liquidity, Valuation, Performance Benchmark, and Complexity. The proposal describes each of those factors and provides 20 examples of their application.
In earlier posts, I discussed the first and second factors that the proposal says fiduciaries should consider, Performance and Fees. At this point, I want to jump over the factors on Liquidity, Valuation and Performance Benchmarks, and go straight to the Complexity factor. Here’s how the proposal describes that factor:
(l) Complexity. The plan fiduciary must appropriately consider the complexity of the designated investment alternative and determine that it has the skills, knowledge, experience, and capacity to comprehend it sufficiently to discharge its obligations under ERISA and the governing plan documents or whether it must seek assistance from a qualified investment advice fiduciary, investment manager, or other individual.
(The bolding in this article is mine…just to emphasize the points that I consider the most important.)
Comment: I’m intrigued by this factor. For example, I wonder if fiduciaries—particularly of small and mid-sized plans—really understand the allocations and glide paths of target date funds. Do they know why there are allocations to international funds, to emerging market funds and, in the future, to private funds. Do they know why the allocations are what they are (e.g., 10% or 20%)? Do they know if the allocations and glide path are conservative, moderate or aggressive as compared to other target date fund families? Or do they blindly rely on the perceived expertise of the mutual fund managers?
In all likelihood, the answers to those questions—at least for most plan fiduciaries—is that they don’t know.
But what if they rely on fiduciary advisers? If the adviser is non-discretionary, a so-called 3(21), and the adviser studies the funds and makes a recommendation, are the fiduciaries protected? Not necessarily. The law is that fiduciaries cannot rely blindly on recommendations from their advisers. Instead, fiduciaries must ensure that they understand the recommendation so that they can intelligently adopt it as their own decision. (In other words, where there is a non-discretionary adviser making recommendations, the fiduciaries (e.g., committee members)”own” the decision, not the adviser. That raises the question of whether, after a discussion of the reasons for the recommendation by the adviser, and follow up questions and answers, the fiduciaries have a sufficient grasp of the subject matter to be able to justify making the decision. I think that it is possible that some fiduciaries will not understand some of the considerations (for example, the allocations to private funds) well enough to be able to make knowledgeable decisions about target date funds (and other investments) even after being educated by an adviser.
For that reason, I believe that the Complexity factor will, or at least should, lead to greater use of 3(38) investment manager fiduciaries, where the advisers will be responsible for satisfying the Complexity factor and the plan fiduciaries’ job will be to prudently select and monitor the 3(38) investment manager.
The discussion of the Complexity factor in the preamble is:
10. Complexity
10.1. The Standard
Proposed paragraph (l) addresses the impact of an investment’s complexity on a fiduciary’s prudent selection of the investment as a designated investment alternative for a plan’s participants. It would make clear that plan fiduciaries are not precluded from prudently selecting sophisticated investment strategies that may be complex. In doing so, the paragraph provides that the fiduciary must appropriately consider the complexity of the designated investment alternative and determine that it has the skills, knowledge, experience, and capacity to comprehend it sufficiently to discharge its obligations under ERISA and the governing plan documents or whether it must seek assistance from a qualified investment advice fiduciary, investment manager, or other individual. In this regard, the Department has previously stated in the case of complex investments, plan fiduciaries are responsible for securing sufficient information to understand the investment, and its attendant risks, prior to making the investment.
If a plan fiduciary determines to seek assistance in selecting a designated investment alternative, the fiduciary must make a prudent selection of an investment professional. The named fiduciary should consider all the relevant circumstances, including the knowledge, skill, and compensation of the investment professional. Seeking assistance from a professional that is an ERISA fiduciary—such as an investment advice fiduciary as defined in section 3(21)(A)(ii) of ERISA or an investment manager as defined in section 3(38) of ERISA—can provide important benefits to the plan’s participants and beneficiaries, as those professionals also must comply with ERISA’s fiduciary duties. Moreover, if a named fiduciary appoints an investment manager within the meaning of ERISA section 3(38), the named fiduciary is responsible for the prudent selection of the manager but is not liable for the individual investment decisions of that manager.
As noted in proposed paragraph (l), a plan fiduciary must seek assistance from a qualified investment advice fiduciary, investment manager, or other individual if the plan fiduciary determines that it does not have the skills, knowledge, experience, or capacity to understand an investment sufficiently to discharge its obligations under ERISA and the governing plan documents. See, e.g., Chesemore v. All. Holdings, Inc., 886 F. Supp. 2d 1007, 1041–42 (W.D. Wis. 2012), aff’d sub nom. Chesemore v. Fenkell, 829 F.3d 803 (7th Cir. 2016) (stating that when fiduciaries ‘‘lack the requisite knowledge, experience and expertise to assess the prudence of an investment, the duty of care may require them to hire independent professional advisors’’); Harley v. Minn. Mining & Mfg. Co., 42 F. Supp. 2d 898, 907 (D. Minn. 1999), aff’d sub nom. Harley v. Minn. Min. & Mfg. Co., 284 F.3d 901 (8th Cir. 2002) (‘‘[(‘‘[I]f ]f a fiduciary lacks the education, experience, or skills to be able to conduct a reasonable, independent investigation and evaluation of the risks and other characteristics of the proposed investment, it must seek independent advice.’’); Liss v. Smith, 991 F. Supp. 278, 297 (S.D.N.Y. 1998) (‘‘[(‘‘[W]here ]here the trustees lack the requisite knowledge, experience and expertise to make the necessary decisions with respect to investments, their fiduciary obligations require them to hire independent professional advisors.’’). The Department notes that with respect to the other safe harbors proposed herein, to the extent a plan fiduciary reasonably relies on recommendations of a prudently selected investment advice fiduciary within the meaning of section 3(21)(A)(ii) of ERISA, or prudently delegates compliance to an investment manager within the meaning of section 3(38) of ERISA, that fact will be indicative of a prudent process. However, none of the safe harbors require a plan fiduciary to seek assistance from an investment advice fiduciary or investment manager, regardless of whether such assistance is referred to in the factual discussion of the safe harbor. Rather, the standard is whether the fiduciary has the skills, knowledge, experience, or capacity to understand an investment sufficiently to discharge its obligations under ERISA and the governing plan documents.
Comment: This discussion from the preamble amplifies the importance of the Complexity factor. Keep in mind that the fiduciaries must satisfy this factor as a part of obtaining the proposal’s fiduciary safe harbor. This discussion also emphasizes the benefits of using competent advisers; in fact, it points out that the use of advisers Is “indicative of a prudent process.” Given the complexity of some investments, my view is that plan fiduciaries should seriously consider transferring the responsibility for complying with this factor to a 3(38) discretionary investment manager.
Concluding Thoughts
I view this factor as a warning to plan fiduciaries. I suspect that plaintiffs’ attorneys will assert that plan committee members are not entitled to the fiduciary safe harbor because, among other things, they lacked the “skills, knowledge, experience, or capacity” to make informed decisions about complex plan investments. Can you imagine committee members being cross-examined about the allocations and glide path of a suite of target date funds? Questions such as, Why was there an allocation to emerging markets? Why was that particular fund used for that allocation? Why was the allocation in the percentage? I’m not saying that it is necessarily a fiduciary breach to not know the answers to those questions, but I am saying that plaintiffs’ attorneys know how to make fiduciaries appear to lack knowledge about a plan’s investments.
