The investment policy statement (IPS) is one of the most important documents that a participant directed retirement plan can have and it’s one document that is very poorly misunderstood.
One of the biggest myths about an IPS is that it’s legally required, it’s not. While it’s important for a plan sponsor to delineate the process in selecting and replacing investments, there is absolutely no language anywhere that makes it legally required. It’s a good practice and is highly recommended because it’s also about detailing a competent fiduciary process in case the plan ever got sued or audited by the government. Showing the process you have in place and recording that you’re following the process is a good exhibit to show that the plan sponsor was prudently fulfilling their role as a fiduciary,
When it comes to Supreme Court law interpretation, the Antonin Scalia strict construction review and the William Brennan elasticity review, Brennan’s interpretation of the Constitution was flexible and Scalia was rather rigid. When it comes to the drafting of an IPS, I believe in the Brennan approach in drafting. You want to state the criteria for investment selection, retention, and replacement. However, you want to be flexible in what you’re looking at for the right plan investment and you don’t want to box yourself in a corner with a strict policy in selecting and changing investments. The reason is that you want to give leeway and discretion in changing investments to the financial advisors working on the plan. In addition, if a plan sponsor fails to follow the rigid protocol in the IPS and doesn’t change the investments as required, that’s a fiduciary breach as well. Life isn’t black and white and neither should IPS drafting.
An IPS is a living, breathing document, simply using some rigid data of historical performance isn’t prudent because when it comes to investments, forward thinking is better than just looking only at past returns. Using criteria that looks at historical data but doesn’t force an action is prudent because it adds the flexibility that the fiduciary process really needs.
While an IPS is an important document, it needs to be followed and it needs to be flexible enough for the plan sponsors and their advisor to give the, discretion in selecting plan investments.