Should Your Client’s 401(k) Plan Include a Self-Directed Brokerage Window?

The Profit-Sharing Council of America reported that more than 20% of plans offer a brokerage window and that percentage is growing.  It is true that a brokerage window provides a much wider range of investment options and potentially lower cost alternatives.  It is also clear that the brokerage window would appeal mostly to those participants that are more hands on, i.e. higher paid and more knowledgeable about managing their investments.  Unfortunately, this option, if offered, must be offered to all participants.  Although the option must be offered to all participants the availability of the brokerage window can be limited to a specified percentage of the participant’s account, it can exclude certain investments, e.g. limited partnerships, options, futures, and other derivatives.

If a decision is made to add a brokerage window there are several fiduciary issues to consider in addition to operational issues:

• Choosing the provider(s) for the brokerage window is a fiduciary function in addition to reasonable fees
• ERISA §404(c) which provides some protection for plan fiduciaries excludes investments where the risk of loss exceeds the participant’s account balance
• Should availability of the brokerage window be limited to specific investments, e.g. ETFs, DOW stocks, a percentage of the participant’s account
• How will participant deferrals be submitted to an outside broker(s) in the absence of a record-keeper, will individual checks have to be remitted or can the remittance be done electronically although on a per participant basis unlike a traditional remittance to the fund lineup established with the record-keeper
• Transactions with all brokerage providers should be documented with receipts from the brokers to be reconciled with the participant’s directions
• Periodic account statements for those participants using the brokerage window would have to be prepared manually by the plan sponsor or the Third Party Administrator
• Will access to brokerage statements be timely so the annual reporting on Form 5500 can be completed
• If the plan is subject to financial audit will the cost of the audit go up because a full scope audit will be required in the absence of a certified trust statement
• If participants with much larger account balances have their own advisors will multiple brokerage arrangements be necessary

These are just some of the considerations that should be evaluated before a decision is made to add or include a brokerage window.  Ask the question: How large is the group of participants that want to participate in a brokerage window versus those that are satisfied with the traditional mutual fund lineup?  It is clear that the addition of a brokerage window will add administrative time and therefore additional costs to the operation of the plan, e.g. reconciling plan assets that would otherwise be done in great part by the record-keeper, dealing with multiple brokers participating in the window.

When all is said and done, in most cases the disadvantages in adding a brokerage window usually outweigh the advantages in the majority of 401(k) and 403(b) plans.

NYSSCPA Employee Benefit Committee

Subcommittee on Fiduciary Compliance

Stephen Abramson, CPC                    Suzanne Breit, CPA                           Stephanie Gigliotti, CPA

APS Pension Services Inc.          MM CPAs LLP                                 D’Arcangelo & Co. LLP

  steve@apspension.com                       sbreit@horanmm.com                         SGigliotti@darcangelo.com