Many retirement plan participants lack the knowledge, expertise or interest in making investment decisions regarding their retirement savings. Indeed, participants are often happy (if not relieved) to have the option of a target-date fund (TDF) or managed account where those decisions can be placed in the hands of investment professionals.
However, there are some who prefer to do it themselves, and some who want to be able to choose investments beyond those on the core retirement plan menu. For those, the self-directed brokerage account (SDBA) can provide a welcome option; one that allows plan fiduciaries to provide a wide variety of investment options to meet the diverse needs of participants without meaningfully increasing risk or the size of the core investment menu.
Here’s What You Really Need to Know
- An SDBA doesn’t eliminate fiduciary responsibility; it changes it. While plan sponsors generally are not responsible for monitoring every investment a participant selects in the SDBA, they are responsible for prudently selecting and monitoring the SDBA provider, the structure of the window, associated fees, disclosures, cybersecurity protections, and how participants gain access.
- Most participants won’t use it, but a small group may use it heavily. In most plans, only a modest percentage of participants ever utilize an SDBA. However, those who do tend to be higher paid, more engaged, and more financially sophisticated.
- The investment universe can create reputational and litigation risk. Even if participants direct those choices themselves, plan sponsors should recognize that extreme losses can still generate complaints, scrutiny, or litigation — particularly if participant communications were weak or guardrails were nonexistent.
Let’s Dive In
Under the Employee Retirement Income Security Act (ERISA), fiduciaries are required to act solely in the interest of participants and beneficiaries and for the exclusive purpose of providing benefits to participants and their beneficiaries.[i] Fiduciaries must understand and address the diverse needs of their participants, acting in the collective best interest of all. Under ERISA, this responsibility can be particularly challenging, as the wide range of participant profiles, and the constant evolution of investment solutions in the defined contribution (DC) space, make it increasingly complex to meet everyone’s needs effectively.
The SDBA is a feature of the retirement plan that allows participants to direct their retirement plan savings into a brokerage account, where they may buy and sell a broad array of investments not otherwise available in the plan’s core investment menu (otherwise known as the plan’s designated investment alternatives and qualified default investment alternative).
Key Benefits for Participants
Broad array of investment options: One of the key benefits to SDBAs is that they allow participants to access a broad array of investment options, going beyond the core investment menu. While the average core investment menu has approximately 20 options, an SDBA can provide access to over 10,000 investment choices.[ii] Although the average participant may only select 11 or 12 positions within the SDBA, the additional choice gives them greater ability to personalize their investing.
Through the SDBA, plans can provide access to popular investment options that may not otherwise be appropriate in the core investment menu, including:
- Exchange Traded Funds (ETFs) and other stocks, bonds and specialty mutual funds
- Investment selection screening using environmental, social and governance (ESG) factors
- Investments with exposure to alternative investments
- Investments with exposure to digital currency
Participant control and choice (for those who want it): Participants who have the experience, interest and time to manage their own investments more actively (typically, though not always, C-Suite) benefit from the SDBA feature that affords them more control over their retirement plan investments.
Access to an advisor: An SDBA may allow investors the option to engage their own advisor. Some investors want access to thousands of investments and the flexibility to work with their own advisor. For this investor, the SDBA may be part of a holistic financial planning engagement with a fiduciary advisor, who can incorporate company retirement plan savings within a more complete wealth management relationship. Of course, it can also provide their current retirement plan advisor with the opportunity to expand to a wealth management focus, but plan sponsors should consider if they want to make this available as an option.
Key Benefits for Plan Sponsors
Meet participant needs: While the core investment menu is designed to generally meet the investment needs of plan participants, it may not accommodate the specific and varied needs of all participants. An SDBA can help plan sponsors fulfill their duty of loyalty (doing what is in the best interest of their plan’s participants) by offering a wider range of investment options to help a greater number of participants reach their retirement investing goals, without unduly expanding the need to review and monitor investment classes that aren’t applicable to the needs of the entire plan population.
Attract and retain talent: When offered as a benefit and feature of the retirement plan, this offering tends to attract top talent to an organization, particularly if an executive had an SDBA or had a set of investment options with a prior employer’s plan that will no longer be available in their new plan’s core investment menu. All types of organizations, large and small, offer SDBAs, but they are especially prevalent in the large and mega plan spaces and across certain industries such as manufacturing, the legal profession, professional services, healthcare and technology.
Retain plan assets: SDBAs can help retain assets in the retirement plan after participants terminate from employment. Instead of rolling over for more choice and flexibility, many with SDBAs choose to continue to invest through the plan after a job change. Those who stay in their former employer’s plan benefit from bankruptcy protection on their retirement plan savings (versus an individual retirement account).
The Investment Menu Versus the SDBA
It’s important that a plan sponsor follows a prudent process under ERISA for adding an SDBA feature to the plan. Unlike the core investment menu, the plan fiduciary is responsible for the selection and monitoring of the service provider of the SDBA feature. This is analogous to the role that a fiduciary must select and monitor a recordkeeper or an investment advisor that is providing services to the plan.
However, the plan sponsor does not have a role to prudently select and monitor the underlying investments in the SDBA. While the Department of Labor (DOL) has been light on its guidance, the DOL provided in its Field Assistance Bulletin in 2012 at Question 39:[iii]
If [a] plan offers [an SDBA] or similar plan arrangement [and the] fiduciary did not designate any of the funds on the platform or available through [SDBA] or similar plan arrangement as “designated investment alternatives” under the plan. Is the [SDBA] or similar plan arrangement a designated investment alternative for purposes of the regulation?
The DOL responded: No.
However, the DOL went on to say that fiduciaries “are still bound by ERISA section 404(a)’s statutory duties of prudence and loyalty to participants and beneficiaries who use [SDBA], including taking into account the nature and quality of services provided in connection with [SDBA].” This means that fiduciaries must select and monitor the window on an ongoing basis, just as with any service or service provider selected for the plan.
How to Prudently Select and Monitor
Step 1: Identify the framework
Once it is determined that the plan needs an SDBA, the plan fiduciaries should determine the criteria that will be used to select the SDBA provider, even though it is most likely that there is only one SDBA option available to the plan with any particular provider. Criteria may be both qualitative and quantitative, but it should be consistently applied both initially and on an ongoing basis if an SDBA option is added to the plan.
Potential criteria may include but are not limited to:
- The fees charged against the participants’ accounts, including transaction fees, fees for using the SDBA, or any other fees associated with the feature
- Plan sponsor features, including participant disclosures and disclaimers, if it is configured based on plan preferences, including whether to allow advisor access
- Participant features, including the education available for participants, user interface for participants and ability to interact with the SDBA feature, as well as the breadth of investment options
- Advisor access to support participants who are working with an advisor, including a dedicated advisor interface that permits access without requiring participant credentials, the ability for advisors to receive transparent fees and leverage signed agreements, and controls to limit advisor access only to SDBAs and not the broader plan or unauthorized accounts
- The vetting of advisors selected by plan participants, (i.e., SDBA providers may check to see if advisors are in good standing with the Securities and Exchange Commission and document the participant’s delegation of authority to the advisor)
- Cybersecurity features of the SDBA platform for all users
- Guardrails to consider, including limiting transfers into the SDBA, requiring minimum balances in the core lineup, restricting certain asset classes, or pairing access with investor education requirements
Step 2: Gather relevant information and objectively compare
Regardless of the number of SDBAs available, a consistent process can be followed, allowing information to be collected from multiple providers. The information can be gathered from other SDBA providers partnering with other platforms.
Step 3: Document the decision
The fiduciaries should make, and document, a decision to select the SDBA provider given the nature and quality of service provided in considering the needs of the plan and its participants. In doing so, the fiduciaries may weigh other factors given the burdensome nature of changing to a different recordkeeping platform in the future.
Step 4: Revisit over time at consistent intervals
Monitor the initial selection and document accordingly. Note that when setting up the SDBA initially or on an ongoing basis, plan sponsors who monitor the investment performance of specific funds in the SDBA or go beyond a general set-up process to establish the trading menu may step into a fiduciary role that was not otherwise intended.
Action Items for Plan Sponsors
- Evaluate if an SDBA aligns with the needs of the plan and its participants.
- Consider if there is an SDBA platform available that passes muster via the steps noted above. Document the decision.
- If applicable, determine and review the appropriate participant disclosures regarding the SDBA. Note that the disclosures should include an indication that SDBAs are not for everyone and that neither the recordkeeper, nor other service providers, will provide advice about the SDBA and specific trades in the SDBA. The disclosures should clearly identify that the plan sponsor will not be a fiduciary to the underlying investment options in the SDBA.
- If applicable, develop and launch a communication campaign for participants.
- Review and monitor the SDBA provider.
[i] See generally Employee Retirement Income Security Act of 1974 section 404(a)(1), 29 U.S.C. section 1104(a)(1).
[ii] Deana Harmon, “The Art and Science of DC Plan Investment Design,” Enterprising Investor (blog), CFA Institute Research and Policy Center, April 8, 2024, https://rpc.cfainstitute.org/blogs/enterprising-investor/2024/the-art-and-science-of-dc-plan-investment-design.
[iii] U.S. Department of Labor, Employee Benefits Security Administration, “Participant-Level Disclosure Regulation,” Field Assistance Bulletin No. 2012-02R, Q&A 39 (July 30, 2012), https://www.dol.gov/agencies/ebsa/employers-and-advisers/guidance/field-assistance-bulletins/2012-02r.