Pooled employer plan investment lineups and offerings

In our prior Pooled Employer Plan (PEPs) articles, we covered the contrasts in certain plan designs and the flexibilities or constraints that PEP providers may offer. This article will focus on characteristics within a PEP’s investment lineup and offerings, as well as what a plan sponsor might look for when considering different PEPs.

As background, PEP providers will offer a fixed set of investment options that will be the same across all participating plan sponsors. Almost all PEP investment lineups will include a similar set of options, typically a target date fund series as well as both passive and active equity and fixed income options. The number of options within each asset class may slightly differ, but typically there is a diverse set of options for a participant to select from.

Providers will typically have an ERISA 3(38) investment manager that is the fiduciary responsible for monitoring and changing funds in the line-up, as needed. These ERISA 3(38) providers may be from the PEP provider’s own company in a bundled arrangement or could be an outside party that is hired to work with the PEP provider.

Regardless of the setup, each PEP will have investment option variations in their offering. These variations will center around a few key areas:

  • The Qualified Default Investment Alternative (QDIA)
  • Use of proprietary funds vs. external fund managers
  • Fund vehicles used – namely mutual funds vs. collective investment trusts (CIT)
  • Availability of managed accounts and/or a brokerage window
  • Fees

Let’s explore further the bullets above.

For the QDIA, PEPs will typically vary between offering a target date series or a managed account option. Currently, most 401(k) plan sponsors have a target date series as their QDIA. For plan sponsors that choose a PEP with a managed account option as the QDIA, they will need to weigh the advantages and disadvantages of this different QDIA approach. A managed account option also includes the advice of a professional to help a participant think through decisions such as how much to contribute and which investment options to choose. They will also typically help with monitoring and rebalancing. However, a plan sponsor choosing a PEP needs to look at the fees for the managed account service and weigh them with the different services a managed account offering provides to participants. Some PEPs offer this service at no additional cost while others have an additional fee.

Second, the use of proprietary funds, whether a direct fund or a commingled fund of funds, will also have its advantages and disadvantages. For a proprietary direct fund offered by the PEP provider, a plan sponsor needs to strongly consider the governance process of the 3(38) investment manager. Or in other words, what will it take for the 3(38) investment manager to remove that fund? How do they know the fees are competitive, etc.? Essentially, how are they managing the conflict of interest that is present by virtue of the fund being owned by the PEP provider?

A PEP that offers a manager of managers approach through a commingled white label fund can manage many of these risks easier since they hire external managers, as well as typically offering these funds at a lower price point than individual mutual funds. However, for these funds, it’s important to understand the allocation process that the 3(38) investment manager has in allocating among the managers within the white label fund. It becomes important then for plan sponsors to look at the performance of both the underlying managers and the asset allocator.

Third, what types of fund vehicles used by the PEP provider typically has a material impact on the cost to the participants. Part of the beauty of PEPs is that by pooling assets, businesses can take advantage of investment strategies (both active and passive) at a lower cost. CITs within some PEP plan structures are an alternative that may be a cost saving consideration within pooled assets. This can be beneficial to a participant group that wants a variety of investment options to choose from at a lower price than they would otherwise be able to get.

PEP providers may also offer the use of self-directed brokerage accounts (SBDA) as a part of their plan design. For organizations with participants who desire more flexibility, choosing a PEP that offers a brokerage account could be beneficial.

Lastly, a differentiator between the choice of PEPs can be the fees tied to their investment offerings. We covered the most visible types of fees in a prior article, such as administrative or per-participant charges, however, participants may face expenses on their investments when choosing one fund over another. For example, actively managed funds tend to be more expensive than passive index or target date funds given that there is more data, analytical work, and staff involved. These fees will be reflected in the revenue retained by the specific investment provider and are tied into the overall expense ratio along with possible revenue sharing to record keepers as well. In another light, some SBDAs will also come with an add-on charge per participant, as it is not an offering that is universal to all PEPs.

When considering moving to a PEP, it’s important for plan sponsors to understand the differences in investment offerings between different providers. It’s also important to weigh the various arrangements against the fees charged and ultimately what makes the most sense given a participating employer’s participant base.

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