In mid-October, I and two fellow panelists had the privilege of addressing the Center for Due Diligence Conference in Chicago on an emerging trend in fiduciary protection for plan sponsors - outsourcing responsibility for investment decisions to an independent expert.

Most employers don't claim to be investment experts, yet this is the standard required by federal law as they make fiduciary decisions for their company's 401(k) or 403(b) plan. However, under ERISA, employers are permitted to delegate investment decisions to an outside expert serving as an independent fiduciary called a "3(38) investment manager". Using this approach, the plan sponsor turns over all control of investment decisions and transfers the liability for fund selection and monitoring, retaining responsibility to make sure the manager they hire is qualified and doing their job.

At the conference, our panel discussed the qualifications that employers should look for before hiring a 3(38) fiduciary, the statutory basis of the role, and how plan sponsors can determine if this approach would benefit their program.

How is hiring an investment manager different from hiring a competent advisor who monitors funds and helps implement sound fiduciary processes? It is the difference between advice and control. One provides advice, while the plan sponsor participates in the process and makes the final decision. This advisor generally shares fiduciary responsibility with the plan sponsor, under ERISA 3(21)(A). In contrast, the 3(38) investment manager actually makes the investment decision to hire and terminate funds, and implements the changes. The plan sponsor is no longer a party to those decisions, and is no longer liable for those actions, which potentially provides a high degree of fiduciary risk mitigation.

While the law relieves the plan sponsor of liability for specific investment decisions, it makes it clear that the plan sponsor always retains the authority to hire and terminate the 3(38) investment manager. With this authority comes the responsibility to document the qualifications of whomever they hire and to monitor their performance. Montgomery Retirement Plan Advisors can offer either advisory services or serve as ERISA 3(38) investment managers. We believe that comprehensive fiduciary risk mitigation can be achieved with either approach, because, at the end of the day, the quality of the oversight process is more important than the code section under which it is performed. In helping our clients determine which approach is best for their plan, we suggest they ask themselves the following questions:

• How engaged are you in the investment monitoring? Do you want to be involved, or just informed?
• Do you want to reserve the right to overrule the investment recommendations of your advisor?
• Assuming the same level of investment oversight, how important is it to you to have a written contract formally delegating responsibility for that function to an outside party?

Diversified or Diversity? The Importance of a Focused Fund List

What is the appropriate number of funds to offer in a retirement plan? According to the Profit Sharing Council of America's 53rd Annual Survey, the average retirement plan has 18 investment options.

In 1995 a Columbia business professor, Sheena Iyengar, conducted a study, in which she set up one tasting booth with a wide assortment of 24 different jams and another booth with only six jams for customers to sample. She counted how many people visited each booth compared with how many people actually bought a jar of jam. Sixty percent of customers visited the booth offering 24 jams, but only 3% actually bought something. In contrast, only 40% of patrons visited the booth offering six jams, but 30% of visitors ended up buying something. Her findings are applicable to not just jams, but also anything where choice is a major consideration (like investment choices in a retirement plan).

Too many options typically diminish results. Simplification, while offering enough diversity, is critical to the success of all retirement plans. If you would like to have further discussions regarding the number of appropriate investment options for your retirement plan, please email MRPA at info@m-rpa.com.

Irreversible Participant Roth 401(k) Conversions

According to a provision of the Small Business Jobs and Credit Act of 2010, 401(k) plans with a Roth account option can be amended to allow certain participants and their surviving spouses to convert to a Roth 401(k) account.

Plan participants should consider the pros and cons before converting their traditional 401(k) account to Roth 401(k). Here are a few details to consider:

• A Roth 401(k) program must already be in place before a plan can offer in-plan Roth conversions.
• To be eligible for a Roth conversion, the amount must be eligible for a distribution to the participant under the terms of the plan, and assets must be eligible for a rollover.
• The taxable amount of the conversion is subject to ordinary income tax, but is not subject to the 10% early withdrawal penalty.
• If the plan does not currently allow for in-service distributions after 59 1/2, the plan sponsor may wish to amend their plan to permit this option.
• With an IRA, one can "unwind" a Roth conversion prior to the tax filing deadline. However, unlike IRA conversions, the decision to convert assets within a 401(k) account is irreversible!
• If a participant wishes to convert a large account or is close to a higher tax bracket, they may want to consider converting assets over a number of years to avoid boosting themselves to that bracket.
• The Internal Revenue Service calls 401(k) Roth conversions, "in-plan rollover distributions", so this is the term you will see in most technical materials on the subject.

For more information on this topic, please visit the IRS website: http://www.irs.gov/retirement/article/0,,id=232330,00.html
- David M. Montgomery, AIF

More Participants Staying the Course Amid Recent Market Volatility

Vanguard Research recently reported that 97.5% of participants made no changes in response to the market volatility in August. Participants holding a single target-date* fund traded even less frequently. 99.6% of pure target-date fund investors did not react to the August market volatility by trading. On a year-to-date basis, 9% of participants have traded and only 2% of pure target-date fund holders have traded. Trading activity thus far in 2011 appears to be on par with 2009 and 2010, and down from 2008, when 16% of participants traded.

Year-to-date, the net movement of money among traders has been generally toward fixed income investments. Even at the height of the August market volatility, there were significant gross flows toward equities. Vanguard noted that late July and early August were characterized by three distinct events: the debt ceiling debate, the downgrade of U.S. Treasury securities, and a rising number of weaker-than-expected economic indicators.

Stock prices were highly volatile during the first two weeks of August. Historically, 1% of stock market trading days are associated with a change in stock prices of greater than +/-3%. During the first two weeks of August, 5 of 10 trading days were characterized by this level of volatility.

(Source: Vanguard analyzed 3.1 million unique participants holding 3.4 million accounts in more than 2,000 plans; *The target date is the date of expected withdrawals at retirement; the fund is not guaranteed at the target date or any other time. These funds are subject to risk, including the loss of principal.)

IRS Announces 2012 Retirement Plan Limitations

After remaining unchanged for three consecutive years, the IRS announced cost of living increases for 2012, affecting a variety of retirement plan limitations. Notably, the salary deferral limit was raised for the first time in three years, from $16,500 to $17,000. Selected limitations are included in the following table:

Communication Corner: Avoiding Common Mistakes

This month's sample participant communication memo outlines the seven biggest pitfalls employees should avoid when it comes to their retirement plan. Not contributing at all is the obvious number one mistake, among borrowing against your plan and cashing out too early. Email dmontgomery@m-rpa.com for copy that you can print and distribute to employees.

News from MRPA

• Mike Montgomery Addresses Center for Due Diligence Conference (CFDD)
  On October 17 and 18, Mike Montgomery addressed the Center for Due Diligence Conference in Chicago on two panel discussions. For copies of the slide presentations, connect to the following links, presented here with permission of the participating panelists.
  • 3(38) Investment Management Services: Are You Qualified? http://www.m-rpa.com/pdf_files/CFDD 3_38 Panel Presentation.pdf
  • Multiple Employer Plans: A Fiduciary Risk Solution? http://www.m-rpa.com/pdf_files/CFDD MEP Panel Presentation 2011.pdf
• Montgomery to Speak at Defined Contribution Plan Institute (DCPI) Conference
  Mike Montgomery is scheduled to speak on retirement plan fiduciary issues at the DCPI Conference at The Breakers Hotel in Palm Beach Florida the afternoon of Thursday, December 8, 2011.
• David Montgomery Featured in E-Money Advisor Focus
  eMoney Advisor Focus published a background article on David Montgomery in their September / October issue. David joined MRPA as Vice President in May, 2011. The article is available through the following link: http://www.m-rpa.com/pdf_files/eMoney Article.pdf.

This material is intended for informational purposes only and should not be construed as legal advice and is not intended to replace the advice of a qualified attorney, tax adviser, investment professional or insurance agent. Montgomery Retirement Plan Advisors does not warrant and is not responsible for errors or omissions in the content of this newsletter.

Securities and investment advisory services offered through Financial Telesis Inc. Member FINRA / SIPC. Montgomery Retirement Plan Advisors and Financial Telesis Inc. are not affiliated.