Private Markets in DC: What’s Public Policy Got to Do With It?
Recent trends have challenged the notion that a truly diversified retirement portfolio can be built without considering private market investments. In this article, we discuss the role public policy plays in giving retirement savers access to an expanded spectrum of choices.
In the past two decades, private markets have transformed significantly. Private equity alone has grown from 3% of the total equity market to over 10%.1 Looked at another way, more than 90% of US companies are now privately held. Private credit has followed suit, now representing nearly 7% of US debt outstanding and more than 20% of total credit markets.2 These shifts have fundamentally reshaped the investment landscape.
Yet Defined Contribution (DC) plans have been notably slow to adapt. While US Defined Benefit plans, on average, allocate about 25% to alternative assets, US DC plans allocate less than 2%. Even within the massive target date fund (TDF) market, we estimate only $115 billion is currently invested in TDFs that include private equity or private real estate.
Today, as private markets make up a rapidly increasing percentage of overall markets, defined contribution plans need to keep pace. Bridging this gap isn’t just about innovation – it will also require support within the public policy environment.
Public Policy Can Help Foster Inclusion of Private Markets in DC Plans
As plan sponsors further enhance their DC plan offerings in order to accelerate participants’ asset growth, inclusion of private market exposure may be a key to that success. There are, however, both opportunities and challenges in public policy that plan sponsors need to assess as they move forward. Congress and regulators can help.
To be clear, under ERISA’s duties of prudence and loyalty, it is not only permissible but may be necessary for DC plan fiduciaries to consider including private market exposure in their plans today since – as we wrote in Private Markets in Target Date Funds – Why Now?, private markets have surpassed public markets in terms of both availability and potential upside potential. Having said that, however, public policy can provide needed guidance and protections if a DC plan sponsor decides to include such investments.
From an opportunity perspective, legislation and/or regulation that provides guidance on a fiduciary’s ability to include private market exposure in DC plan investments would be helpful.
On the legislative front, Senator Tommy Tuberville (R-AL), introduced the Financial Freedom Act (S. 1222) on April 1, 2025.3 A companion bill (H.R. 2544) was introduced in the U.S. House of Representatives by Representative Byron Donalds (R-FL).4
The proposed measure would explicitly amend Section 404(a) of ERISA to state that DC plan fiduciaries would not be required to select, or prohibited from selecting, “any particular type of investment alternative” as long as participants are able to choose (or not choose) the investment from a broad range of alternatives. Additionally, “the investment’s risk-return characteristics” would be the only criteria for making an investment available within a plan’s menu.
Although this legislation does not directly address the inclusion of private market exposures in a DC plan, its broad mandate provides comfort that such investments are permissible.
In addition to this legislation, other legislative proposals are being drafted that would specifically address both the Securities and Exchange Commission (SEC) and Department of Labor (DOL) constraints and obligations with regard to including private market exposure in DC plans. At a minimum, it is critical for the SEC and the DOL to coordinate any guidance they provide to plan sponsors seeking to include private market investments in their DC plans.
On the regulatory front, the DOL addressed the inclusion of private equity in target date funds in 2020 (the first Trump Administration) and 2021 (during the Biden Administration). In 2020 the DOL issued an Information Letter that provided guidance regarding how private equity investments could be included within a broader fund available to participants.5 Basically, as quoted below, the Letter said that it is a facts and circumstances analysis about whether private equity can be part of a DC plan offering, and it may make sense in some cases.
In conclusion, a plan fiduciary would not, in the view of the Department, violate the fiduciary’s duties under section 403 and 404 of ERISA solely because the fiduciary offers a professionally managed asset allocation fund with a private equity component as a designated investment alternative for an ERISA covered individual account plan in the manner described in this letter. There may be many reasons why a fiduciary may properly select an asset allocation fund with a private equity component as a designated investment alternative for a participant directed individual account plan. Private equity investments, however, present additional considerations to participant-directed individual account plans that are different than those involved in defined benefit plans. In making such a selection for an individual account plan, the fiduciary must engage in an objective, thorough, and analytical process that compares the asset allocation fund with appropriate alternative funds that do not include a private equity component, anticipated opportunities for investment diversification and enhanced investment returns, as well as the complexities associated with the private equity component.
Despite the cautious approach to inclusion of PE in a DC plan contained in the 2020 Information Letter, in 2021, the Biden DOL issued a statement in follow-up to the Trump Information Letter.6 The Biden statement did not revoke the 2020 Information Letter, but it added many cautionary notes to make plan fiduciaries concerned about offering a private equity investment.
DOL described the 2021 statement as a “supplement” to “ensure that plan fiduciaries do not expose plan participants and beneficiaries to unwarranted risks by misreading the letter as saying that PE—as a component of a designated investment alternative—is generally appropriate for a typical 401(k) plan.”
We believe that, at a minimum, the Biden “supplement” should be withdrawn and the Trump Information Letter should be reinstated. The DOL may be considering going further by issuing a Field Assistance Bulletin or Interpretive Bulletin that would make clear that the inclusion of private market exposures in a diversified fund is appropriate if a prudent process is undertaken.
The Litigation Challenge
Issuing guidance that provides a roadmap for how to include private markets in DC plans is a critical step in protecting plan fiduciaries who want to enhance their participants’ retirement outcomes. Having that guidance will assure plan sponsors wanting to move forward. However, with the increasing litigation environment that plan sponsors are experiencing, moving forward with innovative solutions such as including private markets does present challenges. Therefore, in addition to having clear guidance from Congress and/or regulators, we must stem the tide of litigation.
To that end, legislative proposals are being drafted that would amend the ERISA pleading standards to curb the growing number of frivolous lawsuits that are being filed. In addition, a number of other legislative proposals are being drafted that would curb the incentive to bring frivolous lawsuits. They include:
- Limits on plaintiffs’ lawyers’ fees in ERISA litigation. Plaintiffs’ lawyers’ fees would be capped at the lesser of: (1) an amount calculated using the lodestar method, or (2) 25% of the proceeds of the suit. The lodestar method is a method of computing attorney's fees whereby a trial court must multiply the number of hours reasonably spent by trial counsel by a reasonable hourly rate. This figure can then be adjusted upward or downward for certain factors known as multipliers, such as contingency and the quality of the work performed, to arrive at a final fee. Under the lodestar method, the most heavily weighted multipliers are the time and labor required.
- Costs to defendants found not liable. If a defendant in an ERISA lawsuit is found not to be liable, that defendant’s legal costs shall be paid by: (1) DOL in a case brought by DOL, or (2) the plaintiffs’ lawyers in a case brought by private parties.
- Disclosure and reporting of DOL agreements to help plaintiffs sue under ERISA. DOL would be required to disclose such agreements to both the defendants and to Congress.7
- Reports on DOL investigations. DOL would be required to provide annual reports to Congress on the status of enforcement actions, with a focus on long-lasting investigations and projections for when those investigations would be completed.8
In addition to the legislative proposals being drafted, Dan Aronowitz, the Trump Administration nominee to be the Assistant Secretary of Labor at the Employee Benefit Security Administration (EBSA) has published extensively on the topic of litigation. In addition to the need for pleading standards reform, he has stated that the “secret” agreements between the DOL and plaintiffs’ attorneys’ firms should be stopped. He has also opined that the DOL Solicitor should, if appropriate, file amicus briefs in support of plan sponsor defendants.
Conclusion
Private markets present opportunities for plan participants to significantly increase their DC plan savings over the course of their working careers. Although including private market exposures in DC plans today is completely appropriate, policymakers can accelerate that inclusion through guidance that provides certainty regarding fiduciary considerations as well as legislation and regulation that curbs frivolous lawsuits that discourage plans sponsors from innovating.