In the early 1980s, 401(k) plans were heralded as the retirement savings solution for a more independent and transient work force. In contrast to traditional pension plans where professional money managers invest plan assets on behalf of employees, 401(k) participants are given the freedom to make their own investment decisions -- ultimately reaping the benefits or suffering the consequences of those decisions. Unfortunately, as we have seen over the last 20 years, most people do not have the experience, time or training to make these critical life-altering decisions.

The Pension Protection Act of 2006, set to take effect this year, attempts to address this problem by allowing plan sponsors to provide investment advice to their 401(k) participants while shielding themselves from liability for losses inside participant accounts as a result of the advice given.

Although plan sponsors have always been able to provide investment advice, few actually did out of a fear of being held responsible if a participant lost money. Instead, most employers took the safer route of offering general investment education to employees, such as providing training on diversification and asset allocation modeling. With the passage of the Pension Protection Act, however, Congress has finally acknowledged that such general employee education efforts have been woefully inadequate in helping American workers prepare for retirement.

Traditionally, financial advisers who provide specific investment advice to 401(k) participants are considered "plan fiduciaries" under the Employee Retirement Income Security Act of 1974 (ERISA). As plan fiduciaries, they are held to a higher standard of care than financial advisers who simply provide generalized employee education. As a result, these advisers must conduct themselves in the best interests of the plan participants at all times. If, for example, an adviser provides investment advice that appears to favor an investment option that pays a higher commission, he or she could be found to have committed what is called a "prohibited transaction" under ERISA.

The new law attempts to clarify the standard of care for financial advisers who provide investment advice to plan participants by creating a new regulatory term called a "fiduciary adviser." Under the new law, a fiduciary adviser will not be found to have committed a prohibited transaction if his compensation is "level," meaning the adviser receives the same compensation regardless of which investment option is selected. Or, alternatively, the compensation does not need to be level if the investment advice is provided through an objective computer model.

Additionally, to qualify for the above exemptions to the prohibited transaction rules, a financial adviser cannot exert independent discretion over a participant's account, must show his compensation is fair and reasonable, must acknowledge co-fiduciary status in writing and must have relevant services audited annually by an independent third-party.

To the plan sponsor, however, the real advantage of the new legislation is the "safe harbor" provision which allows an employer to avoid responsibility for losses incurred as a result of providing investment advice. To comply with this provision, a plan sponsor must show it prudently selected a qualified fiduciary adviser, that the adviser acknowledged his co-fiduciary status in writing, that the fees charged by the adviser are fair and reasonable, and that the plan sponsor is monitoring the adviser on an ongoing basis.

Although the need to provide plan participants with investment advice has finally been acknowledged with the passage of this act, there is still no clear direction on how it should be implemented. Don Trone, the president of the Sewickley based Center for Fiduciary Studies, and a nationally recognized expert on the topic, proposes that an advice model should assess the procedural prudence of the plan sponsor, review the participant demographics, develop an investment advice arrangement that qualifies under the act (level compensation or generated by a computer model), provide advice that takes into account the risk tolerance and time horizon of plan participants, and should be audited annually to ensure the procedural prudence of the fiduciary adviser providing the advice.

It also should be noted that the Republican-controlled Congress was able to pass the Pension Protection Act despite concerns voiced by Democratic leadership that the investment advice provisions would create a conflict of interest on behalf of the financial services industry. Now, with the Democrats controlling both the House and the Senate starting this year, the advice provisions may be adjusted through the technical corrections process.

Regardless of these possible changes, the momentum toward allowing 401(k) participants to have the benefit of targeted investment advice is increasing. This is good news for plan sponsors and everyone who is concerned about retirement with dignity for the American worker. Plan sponsors should ensure that they are working with retirement plan providers that have both the skills to provide these valuable services to plan participants, as well as the expertise to ensure they are compliant with the new legislation.