Questions to consider for evaluating proprietary investment options

1 Does the proprietary fund meet your plan’s investment criteria?

Investment decisions should be based on a prudent selection process, not labels. What does this mean? Your retirement plan committee should use the same documented guidelines to evaluate all investments—whether they’re from your recordkeeper or a third party. These guidelines are typically set forth in an investment policy statement and may include:  

• Investment objectives
• Risk/return characteristics
• Investment fees
• Long-term performance

Any fund that passes your screening process could be further considered for inclusion in your plan’s investment lineup. And remember, it’s not an all-or-none decision. You could consider offering a mix of proprietary and nonproprietary investments. In fact, on average, proprietary funds make up 33% of a plan’s total lineup.¹

2 Is the proprietary fund in the best interest of participants?

As plan fiduciaries, you and the other committee members must avoid conflicts of interest when selecting investments for the plan. One possible conflict could be special pricing offered by your recordkeeper for including their investment funds in your plan. Although there’s nothing wrong with receiving a price break, you shouldn't pick a fund solely because of the money you’ll save. And that’s true for both proprietary and third-party investments.

3 Are the investment fees reasonable?

You also have a fiduciary duty to make sure investment fees are reasonable—something that, unfortunately, ERISA hasn’t defined. That said, the U.S. Department of Labor has clearly stated that reasonable doesn’t necessarily mean the lowest cost. In certain cases, an investment with higher fees could be the better option for your plan. Essentially, you want to make sure your participants aren’t overpaying for the value they’re receiving. And once again, this standard isn’t unique to proprietary funds—it applies to all 401(k) investments.

Here are a few things to consider to help you assess the reasonableness of investment fees:

• How do the fees compare with similar funds that meet your investment criteria?
• Does the fund offer a different share class with lower expenses?
• Do the fund’s expenses include revenue sharing? Some share classes have higher expenses because they share revenue with plan sponsors to help offset plan costs.
• If so, how does the revenue sharing affect participants’ net investment fees? Is any portion refunded to participants? 

Be sure to include your plan’s financial professional in all your investment conversations. They can help you evaluate and benchmark different options and guide your decision-making. And as always, clearly document all your decisions and the process you used to reach them to help show that you acted prudently. 

It boils down to this: can the fund stand on its own merits?

So what makes an investment suitable or not for your plan? In part, it’s your responses to these three questions:

1 Does it meet the plan’s investment criteria?

2 Is it in the participants’ best interests?

3 Are the investment fees reasonable?

A “yes” to all three questions means the investment may be a good fit, whether it’s a third-party fund or one that your recordkeeper offers. What really matters is that based on your objective analysis, you believe the option is the best choice to help your participants reach their retirement goals.