A Plan Sponsor Hires a 3(38) Investment Manager

As is true for many small business owners, selecting and monitoring retirement plan investments wasn’t Hollis Lamon’s full-time job. He needed to focus on running and growing his business.

“Picking retirement plan investments takes time, inclination and knowledge,” Hollis, president of Lamon and Stern, Inc., an Atlanta-based broker/dealer, tells PLANSPONSOR. “It didn’t make sense from a fiduciary standpoint for me to be picking the funds and responsible for funds when I can have someone else do it for me.” Hollis says the new fee reporting requirements established by updates to Employee Retirement Income Security Act (ERISA) sections 404a-5 and 408(b)(2) in 2012 also led him to seek help.

Hollis offers employees a 401(k) plan and a profit sharing plan, both of which allow participants to select among investments. There are about 15 eligible participants and 12 participate in the plans. There are 24 investment options from which to choose, including a target-dates series counted as one option.

The plan provider is Nationwide, and it launched a 3(38) fiduciary service from IRON Financial four years ago. Under section 3(38) of the Employee Retirement Income Security Act of 1974 (ERISA), an investment manager is defined as one who has full discretion for selecting, monitoring and replacing plan investments. This type of fiduciary assumes the legal responsibility and liability for the investment decisions it makes, which enables the plan sponsor to better manage and mitigate its fiduciary risk.

Hollis looked at four different 3(38) service offerings, but was attracted to Nationwide’s for a couple of reasons. “I have good access to people at IRON. It may be a little more expensive, but I get more of what I feel I should be getting for the service.” Joe Frustaglio, vice president of private sector retirement plans for Nationwide, in Columbus, Ohio, adds, “One thing IRON does differently is correspond with plan sponsors as well as their advisers. Others may provide reports, but IRON really gets to know plan sponsors more.”

In addition, Hollis was looking for a provider that was certified by the Center for Fiduciary Excellence (CEFEX), and IRON Financial is. Frustaglio tells PLANSPONSOR it is the first investment adviser globally to complete the CEFEX certification, and he doesn’t know of any other that has it. Hollis says this assures him the firm has no conflicts and no proprietary product issues, “so they are looking after me.”

Hollis adds that Nationwide’s Flexible Advantage platform, in which the 3(38) service is offered, provides full fee transparency as well as flexibility in investment options.                                                              

“Now, I monitor them instead of monitoring 35 funds. They are on top of it every day, and it’s cost effective,” Hollis says.

Hollis signed on to the service in the beginning of 2014 and has since noticed improvement in costs and investment performance. The plan uses both active and passive investments rather than an all indexed fund lineup, and it now uses all institutional class shares. Hollis' plan experienced the most improvement in expenses. The IRON 3(38) service costs 10 bps, and by using the service his plan has reduced overall expenses by nearly 35 bps.                         

Hollis’ plan investments were performing well before the move to a 3(38) investment manager, but he says it was a good thing for the plan to use more active investments. “The plan is at least 2% or 3% better overall” in terms of performance. He says he won’t give hard numbers, but the plan’s small-cap funds and international funds have done better. “I have more confidence in how the funds are doing because I’m not the one looking at it every day,” he adds.

One thing in particular the service has helped Hollis with is fiduciary processes. “One thing I’ve learned as a plan sponsor, everything is about process more than performance,” he notes. “The 3(38) [investment manager] helps me do my process better: It helps with audits; I have a fiduciary vault and investment policy statement (IPS); and it saves costs and time.”

The fiduciary vault Hollis can tap into includes the IPS, participant disclosures, and reports about investments. Hollis says a quarterly letter goes to plan participants along with their benefit statements, so participants have a more active view of investments. The 3(38) investment manager provides quarterly performance reviews, suggestions for changing funds, and funds it suggests. “I am better informed as a fiduciary about the cost structure of investments,” Hollis adds.

Frustaglio notes that plan sponsors may struggle with the emotional part of removing a fund that goes bad, as a plan sponsor knows people are invested in it, but having a 3(38) takes emotion out of the equation. Hollis agrees, and adds that the 3(38) keeps him compliant with the requirement to give participants a 30-day notice of fund changes, especially terminated participants.

Hollis says the 3(38) investment manager offers a service other than those for which he needs a plan adviser. “There are a lot of other things for which plan advisers are needed—such as behavioral coaching and participant education,” he says. “I have to do whatever I can do to help employees save for retirement.”

Frustaglio says Nationwide is trying to help plan sponsors mitigate fiduciary risk, but also produce better participant outcomes. “From a Nationwide perspective, 3(38) investment managers can increase confidence of plan sponsors and makes it easier, especially for small businesses, to offer a retirement plan.”

“Why not do this?” Hollis concludes. “Tell me the disadvantage of it. I’m not giving up control; I don’t have to exactly follow them; I can still change my mind and I have options.”