Guiding Your 401(k) Plan with an Investment Policy Statement

The Prudent Thing to Do

Research by Plan Sponsor Council of America, Hewitt Associates, Barra and Segal Rogerscasey suggests that only about half of 401(k) plans have an investment policy statement (IPS). Due to the fact that there are substantive reasons to have an IPS and adhere to it, this figure should ideally be 100% of all 401(k) plans.

Evidence of Procedural Prudence

Although ERISA does not require 401(k) plans to have an IPS, federal courts have come close to doing so. For example, the U.S. Court of Appeals for the Fifth Circuit articulated a “procedural prudence” doctrine. This isn’t a test of the investment’s performance result, but rather one of conduct. Greater emphasis is placed on the investment selection process, as opposed to the actual success or failure of the investment itself.

Formulating an IPS and abiding by it will help demonstrate that plan trustees are methodically selecting and monitoring investment options. Usually during an audit by the Department of Labor (DOL), their auditors will request to view your IPS. Since a 401(k) plan is not required to have an IPS, there is no sanction if you do not present one to the DOL auditors. However, it may lead to a more thorough audit which focuses on the plan’s fiduciary responsibilities and additional scrutiny from the DOL.

In addition, another positive to having an IPS implemented is that it will give your investment team an unambiguous understanding of the standards they have to comply with. The IPS should be reviewed on an annual basis to ensure that the plan assets are still in compliance with your IPS. Minutes of your meetings that indicate the IPS was reviewed will help validate your continued monitoring of both.

Get Started

Internet searches will provide numerous examples that you may consider and evaluate for your own IPS. The following should be included in an IPS:

• definitions of roles and responsibilities of the parties involved
• definitions of eligible and ineligible investments
• investment selection criteria
• investment monitoring procedures
• default investments and criteria for replacing investments that under perform

Make sure you do not simply adopt one of these examples found on the internet and use it as your IPS. If your 401(k) plan does not contain an IPS, seek additional advice from your retirement plan investment advisor or benefits specialist before beginning the process of creating an IPS.

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