Why This Matters
Your plan documents name a trustee. What they may not make obvious is which of two very different jobs that trustee holds, because the same word covers both: a trustee that takes instructions from a fiduciary your plan names, and a trustee that makes the investment decisions on its own authority.
Which job your trustee holds decides who is responsible for the plan’s investment decisions. A plan can be years past its setup with nobody on the current committee certain which arrangement the plan has. If you are not certain which one your plan uses, this post covers what each arrangement means, and then the documents that answer the question.
Our Fiduciary Role Comparison Guide puts the two arrangements next to each other, duty by duty, and includes a worksheet for mapping who holds each duty in your own plan.
What Is the Difference Between a Directed and a Discretionary Trustee?
Both kinds of trustee hold the plan’s assets in trust, separate from company money. The core difference is who chooses the plan’s investments, and the differences in liability and monitoring follow from that.
A directed trustee acts on instructions. Your plan names a fiduciary to give those instructions. That fiduciary can be your investment committee, or an investment manager the plan hired. The committee decides to add a fund or drop one, and the trustee carries out that decision. The committee decides. The directed trustee executes and safekeeps.
A discretionary trustee decides without instructions. The trustee selects the investments, monitors performance, and makes changes without seeking your committee’s approval. Because the trustee makes those decisions, the trustee is responsible for them.
Those are the two ways a trustee can hold the role. Investment discretion can also be handed to a professional who is not the trustee at all, which is how a discretionary trustee compares with hiring a 3(38) investment manager.
The Same Situation, Two Arrangements
A mid-cap fund in your lineup has trailed its benchmark for six straight quarters. The manager who built its track record left last year. Here is how that plays out under each arrangement.
Under a directed trustee
- Your committee, or the advisor your committee hired, spots the underperformance and puts the fund on watch.
- Your committee meets, reviews the fund against your investment policy, and decides to replace it.
- Your committee documents the decision and the reasoning in the minutes.
- Your committee instructs the trustee to make the change.
- The directed trustee executes the trade, moves the assets, and keeps the records.
Under a discretionary trustee
- The trustee spots the underperformance through its own monitoring.
- The trustee evaluates the fund and selects the replacement.
- The trustee documents its analysis and makes the change.
- The trustee reports the change to your committee, on whatever schedule your service agreement sets.
- Your committee reviews the trustee’s work as part of overseeing the trustee.
Notice what the committee does in each version.
Under the directed arrangement, the committee does the analysis, makes the call, and owns the decision. Under the discretionary arrangement, the committee’s job is watching the trustee do that work and confirming the trustee is doing it well.
Now suppose the replacement fund performs poorly too.
Poor performance by itself is not a breach of anyone’s duty, because federal law measures whether the decision was made carefully, not whether it turned out well. But if the choice was made carelessly, the question of who answers for it depends on the arrangement.
Under the directed arrangement, that question lands on the committee members who made the choice. Under the discretionary arrangement, it lands on the trustee, and the committee’s exposure runs to whether hiring and keeping that trustee was reasonable.
Is a Directed Trustee Still a Fiduciary?
Yes. The word “directed” makes the role sound like pure order-taking, with no responsibility attached. That is not how federal law treats it. The Department of Labor has addressed the question directly: a trustee is always a fiduciary, because control over plan assets is itself a fiduciary function. Hiring a directed trustee does not produce a trustee free of fiduciary duty. Hiring a directed trustee produces a fiduciary with a much shorter list of duties.
What is on the shorter list is holding the assets, following proper instructions, and the care that goes with both.
What is not on the list matters more for your committee. A directed trustee is not the party responsible for whether your fund lineup is prudent. That responsibility sits with the fiduciary giving the directions, no matter how large the institution holding the assets is.
What Does the Difference Mean for Your Liability?
Under a directed arrangement, the fiduciary giving the instructions is responsible for those instructions. If a fund selection was made without the care federal law requires, the committee members who made it answer for the choice, and that responsibility is personal, not corporate.
Under a discretionary arrangement, responsibility for the investment decisions sits with the trustee, because the trustee is the fiduciary making those decisions. What your committee keeps is a duty federal law does not let a sponsor hand off: selecting the trustee prudently and reviewing that selection on a regular schedule.
Which Arrangement Fits Which Plan?
Start with one question: does your committee want to make the investment decisions, or oversee the professional who makes them?
A directed arrangement fits a committee that:
- Has the time and the investment expertise to choose funds.
- Runs a working review process already.
- Wants a professional holding the assets and carrying out decisions the committee intends to keep making.
A discretionary arrangement fits a plan whose sponsor wants a professional fiduciary making the investment decisions and answering for them. That might be because:
- The committee is stretched thin.
- The investment expertise sits outside the company.
- The sponsor wants decision-making risk placed with a specialist.
Neither arrangement is automatically the right one. The question is which one matches how your committee actually works, not which one sounds safer on paper.
Where This Leaves You
Your plan documents tell you how the arrangement is set up today.
Start with the trust agreement, or the trust provisions inside your plan document, and read the section on the trustee’s powers. If the trustee can invest plan assets on its own, the trustee has discretion. If the trustee acts only on instructions, the trustee is directed.
Then read who gives those instructions. It can be your investment committee, and if that committee is made up of your employees, your employees are the ones responsible for the plan’s investment decisions. It can also be an investment manager the plan hired. And a trust agreement can give the trustee discretion over some assets while directing it as to others. If your documents do not give you a clear answer, that is worth resolving with your advisor or counsel rather than assuming.
While you have the documents out, confirm whether your plan still names an individual, an owner or officer from the plan’s early days, as trustee alongside or instead of an institution, because what a person takes on by signing as trustee
is a substantial role in its own right.
Our Fiduciary Role Comparison Guide maps every plan duty against each role, directed trustee and discretionary trustee side by side, and includes a worksheet for writing down who holds each duty in your own plan today. If you would like to walk through your plan’s setup, call us at (206) 625-1800.
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.
Accuracy and currency of information. The statutory provisions and regulatory descriptions in this article were verified against the cited primary sources as of the date of publication. Regulations and guidance change. Readers should confirm current requirements with qualified counsel.
Educational purpose only. Provided by First Hill Trust Company for general informational and educational purposes only. It is not legal, tax, accounting, investment, or fiduciary advice, does not constitute a recommendation regarding any plan, investment, strategy, or course of action, and does not consider any recipient’s specific circumstances. Consult your own qualified advisors before acting.
No offer, agreement, or commitment. Nothing in this material constitutes an offer, solicitation, agreement, or commitment to provide any particular service or to assume any particular responsibility. Descriptions of what a trustee, administrator, adviser, committee, employer, or other party “may” or “can” do are illustrative of how such arrangements commonly work and do not describe the terms of any specific engagement. The actual services provided, the allocation of responsibilities, the scope of any delegation, and the duties of any party are governed solely by the applicable plan documents, trust agreement, advisory agreement, and written service agreements. In the event of any inconsistency, those documents control.
Services and regulatory status. First Hill Trust Company and its affiliates offer retirement plan services, recordkeeping and administrative services, trust and fiduciary services, investment advisory services, and group benefits services, in each case subject to applicable regulatory requirements and the terms of the relevant agreements. Not all services are offered to all clients, in all states, or in all circumstances. Investment advisory services are offered through an affiliated investment adviser; a copy of its Form ADV Part 2A is available upon request. Insurance and group benefits products are offered through appropriately licensed entities. The availability and scope of any service depend on eligibility and the applicable agreements.
Fiduciary status under ERISA. Fiduciary status under the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), is determined based on the functions performed and the authority exercised, not on titles or labels. Whether any particular party is acting as a fiduciary, and the scope of any related duties or potential liability, depends on the facts and circumstances specific to the plan and the relationship. Engaging a trustee, adviser, or other service provider does not eliminate a plan sponsor’s or committee’s own fiduciary responsibilities, including the duties to prudently select and monitor any party to whom responsibilities are delegated.
Affiliated entities and conflicts of interest. First Hill Trust Company is affiliated with other entities, including an affiliated investment adviser and entities providing administrative, trust, or other services. These relationships may create conflicts of interest, including where an affiliate is engaged or compensated in connection with a plan. Such conflicts and compensation are described in the applicable service agreements and the affiliated adviser’s Form ADV Part 2A; fiduciaries should consider them when evaluating any engagement.
Statutory and regulatory references. References to ERISA, the Internal Revenue Code, and related statutory or regulatory provisions are general summaries only. They are not a substitute for review of the actual statutory text, regulations, or guidance from the Department of Labor, Internal Revenue Service, or other relevant authorities, and they do not address how those provisions may apply to any particular plan, sponsor, fiduciary, or individual. Laws, regulations, and guidance are subject to change and to interpretation by the relevant agencies and courts. Examples, categories, and situations described are simplified for illustration and may not reflect the requirements or circumstances of any particular plan or person.
No guarantee of results; investment risk. References to governance, fiduciary practices, risk reduction, or outcomes describe common industry approaches and potential benefits, not promises or guarantees of any result, of compliance, or of protection from liability, loss, or claims. All investing involves risk, including possible loss of principal; diversification does not ensure a profit or protect against loss. Past performance does not guarantee future results.
For more information, contact First Hill Trust Company at (206) 625-1800.
