A 3(38) investment manager is an investment firm the plan hires to pick, monitor and replace the plan's investments on its own authority, without needing the committee's approval.
Only a registered investment adviser, a bank or a qualifying insurance company can serve as a 3(38), and the firm has to acknowledge in writing that it's a fiduciary to the plan.
A committee that tells the manager which funds to add or keep can become responsible for those fund decisions again.
Monitoring a 3(38) means checking that the manager is handling the plan's investments prudently and doing what its appointment requires, not deciding each fund all over again.
Picture a plan committee that meets every quarter, reviews a stack of fund reports and votes on whether to keep or replace each fund. Each of those votes is a fiduciary decision. If a decision isn't prudent, each committee member who made it can be personally liable for the losses it causes the plan. ERISA, the federal law that governs most private-sector retirement plans, gives committees another option. The committee can hand those decisions to a professional firm that makes them on its own authority and answers for them.
That firm is called a 3(38) investment manager, after the section of ERISA that defines it. Below is what a 3(38) does, who can serve as one, the benefits and drawbacks, and how a committee chooses and monitors one.
To see how a 3(38) compares with the other fiduciary roles a plan can assign, start with a side-by-side reference.
Featured Guide
Fiduciary Role Comparison Guide
Understanding the practical differences between a Discretionary Trustee, 3(16), 3(21), Directed Trustee and 3(38) fiduciary roles.
A 3(38) investment manager has discretionary authority over the plan investments assigned to it. Discretionary means the manager makes the decision and carries it out, instead of recommending and waiting for a committee vote. Depending on the investment management agreement, that authority can include:
Choosing the funds on the plan's investment menu
Choosing the plan's default fund, where contributions go when an employee doesn't pick an investment
Reviewing each fund's performance, fees and management on an ongoing basis
Replacing funds that no longer meet the plan's investment policy statement (IPS), the written document that sets the plan's investment standards
Documenting the reason for each decision
A 3(21) investment advisor, by contrast, only recommends, and the committee still makes each decision.
ERISA sets three requirements, and a firm has to meet all three:
It has the power to manage, buy and sell the plan's assets.
It's an investment adviser registered with the SEC, a bank, or an insurance company qualified to manage plan assets under the laws of more than one state. A small adviser that's barred from SEC registration and registers with its state instead can also qualify. It has to be registered in the state where its main office is and file that registration through the IARD, the central electronic filing system for investment adviser registrations.
It has acknowledged in writing that it's a fiduciary to the plan.
The plan document also has to allow an investment manager to be appointed. The appointment is made by a named fiduciary with authority over the plan's assets. A named fiduciary is a fiduciary the plan document names, or identifies through a procedure the plan sets out. A firm that calls itself a 3(38) but hasn't signed a written fiduciary acknowledgment doesn't meet ERISA's definition. In that case, the plan doesn't get the liability protection ERISA gives for a properly appointed investment manager.
What Are the Benefits of a 3(38) Investment Manager?
Hiring a 3(38) changes who makes the plan's investment decisions and who answers for them. Most of the benefits come from that change, and each one depends on the manager being properly appointed.
Responsibility for fund decisions moves to the manager. When a 3(38) is properly appointed, the employer isn't liable for the manager's individual investment decisions, and the plan's trustees don't have to manage the assets the manager handles. The committee still has to select and monitor the manager.
Fund changes don't wait for a meeting. The manager can replace a fund when the IPS calls for it, without scheduling a committee vote.
Committee meetings change. Instead of voting on each fund, the committee reviews the manager's reports and asks about its decisions.
The decisions come from an investment professional. ERISA holds investment decisions to the standard of a prudent person who is familiar with the matters involved. A 3(38) is a firm whose business is managing investments, which matters when no one on the committee has an investment background.
The reasoning can be on file. If the agreement requires written reasons for each fund decision, the committee has them when a participant or auditor asks why a fund is on the menu.
The committee gives up control of the lineup. If an executive wants a particular fund kept, the manager can still remove it.
Fees can be higher. Some firms charge more for 3(38) service than for 3(21) advice, and fees vary by firm, so compare each fee against the services written into the agreement.
A "flexible" 3(38) can undo the arrangement. Some firms let the committee suggest funds or ask to keep existing ones. The more the committee decides which funds go on the menu, the harder it is to show that the manager made the decisions. If the committee picked the funds in practice, it can be treated as the fiduciary for those choices. That's the responsibility the 3(38) was hired to take on.
The committee still has work to do. It has to monitor the manager at reasonable intervals, and it can be liable if it knowingly takes part in a breach by the manager or hides one.
What Are the Drawbacks of a 3(38) Investment Manager?
The committee gives up control of the lineup. If an executive wants a particular fund kept, the manager can still remove it.
Fees can be higher. Some firms charge more for 3(38) service than for 3(21) advice, and fees vary by firm, so compare each fee against the services written into the agreement.
A "flexible" 3(38) can undo the arrangement. Some firms let the committee suggest funds or ask to keep existing ones. The more the committee decides which funds go on the menu, the harder it is to show that the manager made the decisions. If the committee picked the funds in practice, it can be treated as the fiduciary for those choices. That's the responsibility the 3(38) was hired to take on.
The committee still has work to do. It has to monitor the manager at reasonable intervals, and it can be liable if it knowingly takes part in a breach by the manager or hides one.
How Do You Choose a 3(38) Investment Manager?
The first question is whether a 3(38) is the right fit at all. Which structure fits a committee depends on how much time its members can spend reviewing funds between meetings, whether anyone on the committee has investment expertise, and how consistently it documents decisions.
Once a committee decides to hire one, selecting the manager is itself a fiduciary decision, so the committee's process and records matter. Questions to ask each firm:
Will you acknowledge in writing that you're a fiduciary to the plan under ERISA section 3(38)?
How do you select and replace funds, and what criteria do you use?
Do you build a lineup for each plan, or use the same lineup across clients?
Does your authority include the plan's default fund?
What reports will the committee receive, and how often?
How are you paid, and do you receive any payments from the funds you select?
What does the investment management agreement cover, and how can either side end it?
Each firm's answers, the signed agreement and the committee's reasons for its choice make up the record of that selection.
How Do You Monitor a 3(38) Investment Manager?
Monitoring the manager isn't the same as monitoring the funds. The committee isn't second-guessing each fund pick. It's checking that the manager is handling the plan's investments prudently and as its appointment requires. At each review, the committee can ask for:
A written explanation of each fund added, removed or placed on watch since the last review
Any changes at the firm, such as key staff leaving, a change in ownership or a change in how it selects funds
For a registered investment adviser, its current Form ADV, the registration form that describes its business practices, fees and conflicts of interest
The actual fees charged, compared with what the agreement says
Any participant complaints about the investments, and how they were handled
A manager that can't produce these items on request makes it harder for the committee to show it monitored the arrangement.
Before Your Next Committee Meeting
A 3(38) works as intended when four things are true:
The plan document allows the appointment.
The firm meets ERISA's three requirements.
The agreement spells out what the manager covers.
The fund decisions stay with the manager.
Before hiring one, it helps to know which duties a 3(38) takes on and which stay with the committee or move to another provider. The Fiduciary Role Comparison Guide lays out the 3(38) next to the 3(21), the 3(16), and the directed and discretionary trustees, with a worksheet for mapping the roles in your own plan.
A 3(21) investment advisor recommends funds. The advisor is a fiduciary for its advice, but the committee makes the final decision and keeps responsibility for it. A 3(38) investment manager makes the decisions itself and takes responsibility for them.
No. Responsibility for the investment decisions moves to the manager, but the committee keeps the duty to prudently select the manager and monitor it over time. The committee can also still be liable if it knowingly takes part in a breach by the manager or hides one.
It can, if the investment management agreement includes it. A QDIA (qualified default investment alternative) is a default investment that meets DOL requirements, where contributions go when an employee doesn't choose an investment. Check whether the agreement's scope includes the default fund.
Yes, if the plan document allows an investment manager to be appointed. The switch takes a new agreement with a written fiduciary acknowledgment, and the same prudent selection as hiring any new fiduciary. Once appointed, the manager has authority over the investments the agreement assigns to it and decides whether to keep or replace each fund.
ERISA doesn't require any plan to hire one, and there's no size threshold. Whether a 3(38) makes sense depends on how much time committee members can spend reviewing funds and whether anyone on the committee has investment expertise, more than on the plan's size.
Employee Retirement Income Security Act, Sections 3(21), 3(38), 4(b), 402, 403, 404, 405 and 409
U.S. Code of Federal Regulations, Title 29, Section 2509.75-8, Questions and Answers Relating to Fiduciary Responsibility
U.S. Code of Federal Regulations, Title 29, Section 2510.3-38, Filing Requirements for State Registered Investment Advisers to Be Investment Managers
U.S. Code of Federal Regulations, Title 29, Section 2550.404c-5, Fiduciary Relief for Investments in Qualified Default Investment Alternatives
U.S. Department of Labor, Employee Benefits Security Administration, Meeting Your Fiduciary Responsibilities
Important Disclosures
First Hill Trust Company is a Washington State-chartered trust company. Investment advisory services are provided by BAC Capital Advisors, an SEC-registered investment adviser and a wholly owned subsidiary of First Hill Trust Company. Registration does not imply a certain level of skill or training. This article is educational. Neither First Hill Trust Company nor BAC Capital Advisors is acting as ERISA counsel or tax counsel to any plan or plan sponsor, and nothing here replaces advice from qualified counsel about your own plan.
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