Although the Employee Retirement Income Security Act of 1974 (ERISA) does not require an investment policy statement (otherwise known as an “IPS”), the law does make it clear in Section 402(b)(1) that plans must “provide a procedure for establishing and carrying out a funding policy in a method consistent with the objectives of the plan.”
Further, the DOL has stated in Interpretive Bulletin (IB) 2016-1 that “a statement of investment policy designed to further the purposes of the plan and its funding policy is consistent with the fiduciary obligations set for in ERISA Section 404(a)(1)(A) and (B)” which obligate plans fiduciaries to fulfill a duty of prudence to participants and beneficiaries. It also happens to be one of the first items requested when the DOL conducts an audit of a retirement plan.
So the law doesn’t technically require an IPS, but the DOL (which has enforcement authority for ERISA) has stated that having one is consistent with the fiduciary obligations set forth under the law. Nothing like a Catch-22 when it comes to managing legal risk.
Either way, an IPS is a useful tool to help retirement plan fiduciaries demonstrate that a prudent process has been followed when selecting and monitoring plan investments. A well-constructed IPS is considered a best practice and establishes guidelines for selecting and monitoring plan investments while providing a framework for making critical fiduciary decisions.
While the usage of investment policy statements is on the rise, not every plan uses one, especially in the small plan space where best practices tend to get adopted much less frequently. According to the 2019 PLANSPONSOR Defined Contribution Survey (which included more than 2,500 plans), the following percentage of plan sponsors (based on plan size) have a written policy statement for their defined contribution plans:
However, based on my experience, many plans that have an IPS are using one that likely creates more risk for their fiduciaries, rather than less risk. This is because many plans take what I call the “check the box” approach to IPS management. This often happens when someone at the company who is involved with the plan (e.g., a CFO or VP of HR) reads an article that says they need an IPS for their 401(k) or 403(b) plan. And so they Google the term “IPS,” and they find a boilerplate version and download it, or they ask their broker/advisor, recordkeeper or TPA, one who is happy to oblige, who also sends along a generic template. In both cases, what typically happens is the person who decided they needed an IPS sticks it in the file (often without reading it or verifying what it says will be done can actually be done) and “checks the box.” In fact, I’d venture a guess that many of the companies who answered affirmatively to the survey above have a “check the box” IPS.
Unfortunately, any ERISA attorney in the country will tell you that it’s better to have no process at all than to have one you don’t follow. A case in point is the 2012 ruling from Tussey v. ABB Inc. In that case, ABB had actually implemented an IPS but failed to follow the terms of the document which led, in part, to its initial loss in court and a judgment in favor of the plaintiffs (i.e., the plan participants). Although appealed (and still ongoing) after nearly 13 years of litigation, ABB was originally slapped with a $36.9 million judgment. ABB’s IPS included language that directed the plan fiduciaries to select the lowest cost share class of any mutual fund selected when multiple share classes of the fund were available. However, the court found that when the ABB’s fiduciaries selected share classes for the plan, they chose higher cost ones that provided more revenue sharing to the recordkeeper for the plan.
As an alternative to the common “check the box” approach, here are seven tips for creating a well-constructed IPS:
Remember that a well-constructed IPS is simply a tool in the fiduciary’s toolbox. Like any tool, if it’s in the hands of an expert, it can be used for great benefit, but, in the hands of a novice, it’s likely to do great damage. If your plan needs to develop a proper IPS or you’d like me to review your existing one, please contact me and I'll take a look.