President Donald Trump is expected to issue an executive order encouraging greater use of private equity and other private market investments in defined contribution retirement plans, such as 401(k)s. While the order won’t mandate changes, it aims to promote broader adoption of these investments, which are already permitted under current regulations. This future executive order follows recent Department of Labor guidance that opened the door to alternative assets like cryptocurrency in retirement plans. The expectation is that private equity could soon play a larger role in the $12.2 trillion defined contribution market.
One major concern is liquidity. Private equity investments are not easily sold, which could complicate hardship withdrawals or retirement income strategies. Additionally, the higher fees associated with these investments could expose employers to legal challenges under the Employee Retirement Income Security Act (ERISA). Fiduciaries of 401(k) plans must ensure transparency, reasonable fees and liquidity to meet their legal obligations. There are several risk assessments that plan sponsors should consider before offering these types of investments, such as liquidity risk, market risk, operational risk, high fees and valuation risk.
One significant benefit is higher returns. Private equity investments have historically outperformed public markets. It also provides diversification in the portfolio beyond traditional stocks and fixed-income securities. It can also provide access to unique investing opportunities to companies not available in the public markets.
Plan sponsors need to ensure that participants understand the nature of this new type of investment option and its potential risks and benefits. Educational sessions should be held to ensure that participants understand the impact of these investments on their 401K portfolio. Plan sponsors should also ensure that there is sufficient knowledge and skill set within the organization to provide the required level of oversight needed for these types of investments. Despite industry concerns, some investment management firms are moving forward. Empower recently announced it would offer private investments in 401(k) plans, and Blue Owl Capital and Voya Financial are developing similar products. According to BlackRock, adding private assets could boost annual returns by 50 basis points and increase retirement savings by 15% over 40 years.
Ultimately, plan sponsors must weigh the potential benefits against the fiduciary risks.
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For more information about this topic, contact a member of Withum’s Employee Benefit Plan Services Team.
