ERISA Bonding - Not as Easy as it Looks
Separating ERISA bonds from fiduciary liability insurance
Source: https://roughnotes.com
By Michael J. Moody, MBA, ARM
The Employee Retirement Income Security Act (ERISA) has been the law of the land since 1974, with regard to employee benefits. Its specific purpose is to protect the assets of millions of American workers so that funds are available when they retire. It's a federal law that, in essence, sets minimum standards for private company pension plans. Most of its requirements took effect on January 1, 1975. While it does not require corporations to create pension plans, it does establish minimum standards for those that do start pension plans.
For the most part, the key sections of the law have remained as they were in 1975. One section (Section 412) has been a source of concern for employers and their insurance agents because it deals directly with the Act's bonding requirements. In response to numerous requests, the Department of Labor, which oversees ERISA, published a Field Assistance Bulletin (#2008-04) that addresses a number of issues surrounding the bonding requirements. While the Bulletin is helpful in understanding the requirements, it was not meant to change any existing parts of Section 412. The Bulletin provides a set of 42 questions and answers that address many of the areas where employers have requested further clarification.
ERISA Bonding 101
At the most basic level, the bonding requirements are pretty straightforward. The Act, for example, requires that "every fiduciary of an ERISA-covered employee benefit plan and every person who handles funds or other property of such plans must be covered by a bond." There are, however, a number of exceptions to this requirement, as there are with most of the other specific requirements and, as such, are beyond the scope of this article. What follows, however, are a number of requirements that generally apply in all situations.
Bond limits must be issued for at least 10% of the amount of the funds handled, subject to a minimum limit of $1,000 per plan and a maximum of $500,000 per plan.
Several other points to keep in mind regarding the bonding requirements:
• Bonds cannot be obtained from just any bonding or insurance company. They must be placed with a surety company or reinsurer that is listed by name on the IRS's Listing of Approved Sureties as noted in IRS Department Circular 570.
• No plan or party-in-interest may have any control or significant financial interest in the surety or reinsurer, or in an agent or broker who arranges for the bond.
• Bonds must be written for a minimum of one year. Additionally, the bond must also have a one-year period after termination to discover losses that occurred during the original term of the bond.
• Coverage from the bond must be from the first dollar of loss; thus, the bond cannot have a deductible feature.
• An employee benefit plan can be insured on its own bond, or it can be added as a named insured to an existing employer bond as long as it satisfies ERISA's minimum requirements.
Other than the requirements noted above, the DOL allows quite a bit of flexibility with the bond. For example, a plan may be covered under a single bond or one bond that covers multiple plans. Permissible bond forms can range from individual, named schedule, position schedule or even a blanket bond.
Potential trouble spots
One area of considerable confusion that has continued to exist since the original Act was passed is the difference between an ERISA bond and fiduciary liability insurance. ERISA bonds are in fact fidelity bonds that protect the plan against fraud or dishonesty by individuals who handle plan assets. These bonds are a specific requirement of the ERISA legislation. On the other hand, fiduciary liability insurance generally protects the employer and/or fiduciaries from losses due to a breach of fiduciary duty. While fiduciary liability insurance is not a requirement under ERISA, many employers have chosen to provide this important coverage in their corporate insurance portfolio. To complicate the situation further, the insurance industry offers both the bond and fiduciary liability coverage under a single policy. While this type of comprehensive protection is very useful, it needs to be remembered that only the bond is required under ERISA. Additional coverages are available at the discretion of the employer.
Due in large part to the types of risks involved, there are few risk mitigation strategies that can be employed to lower the risk of loss. However, one method of risk mitigation that is being used and suggested by some consultants revolves around "credentialing" of all internal personnel and outside service providers. Typically this approach will require an approval and adoption of a written policy statement. The key element would be conducting criminal background checks and other prudent investigations to reconfirm the suitability of individuals serving in fiduciary positions or otherwise acting in a capacity covered by ERISA's bonding requirements. Care should be taken to comply with the applicable notice and consent requirements for conducting third-party background checks under the Fair Credit Reporting Act and other applicable laws.
While this may initially appear to be overkill, it should be remembered that ERISA generally prohibits individuals convicted of certain crimes from serving as plan fiduciaries. Further, it also prohibits plan sponsors, fiduciaries or others from knowingly hiring, retaining, employing or otherwise allowing these convicted individuals to handle plan assets for the 13-year period after the later of their conviction or the end of their imprisonment.
Additionally, the credentialing process should also include a review that verifies the sufficiency and adequacy of the bonding that is in effect for both internal personnel as well as outside service providers. Unless a service provider can provide a legal opinion that adequately demonstrates that an ERISA bonding exemption applies, plan sponsors and fiduciaries should require the third-party service provider to provide proof of appropriate bonding that is in compliance with ERISA and other appropriate laws.
Conclusion
While there are some exceptions to ERISA's bonding requirements, the fact remains that a bond is required for every pension plan. The bond must extend coverage to those persons whose position requires them to come in direct contact with or exercise discretion over plan assets. Further, the bonds must be in amounts and form acceptable to the DOL. They must comply with all the provisions as outlined in Section 412 of the ERISA legislation.
Fiduciary liability insurance is not required by ERISA, but it can provide agents and brokers with an excellent opportunity to broach the subject with an employer. Losses following the recent financial crisis have increased, and today's fiduciary liability policies offer a variety of coverage enhancements and can provide an employer with a number of advantages, while covering many gaps in their corporate insurance programs. Becoming a key knowledge source for employers in a narrow area such as this can be a real door opener for any agency.
3(21) Fiduciaries More Popular Among Plan Sponsors
By: Paula Aven Gladych
Source: BenefitsPro.com
Plan sponsors are increasingly looking for investment advisors who can shoulder some of the fiduciary burden related to offering employee retirement plans. More frequently they are turning to companies that offer fiduciary coverage under section 3(21)(A) of the Employee Retirement Income Security Act.
“There’s definitely an uptick in having an independent entity sign off as a fiduciary along with the plan sponsor,” said Chris Reagan, managing director and practice leader for Mesirow Financial’s Retirement Plan Advisory Group. The number of plan sponsors interested in such an advisor has increased as the number of class action lawsuits filed by plan participants against their retirement plans has risen, he added.
In February 2008, the U.S. Supreme Court ruled in LaRue v. De Wolff, Boberg & Associates, Inc. that plan participants may take action against plan sponsors. Many lawsuits followed, which has scared many advisors away from becoming fiduciaries, he said.
“If you are a plan sponsor and a fiduciary to the plan, you have a duty to act in the best interest of your participants,” Reagan said. “You need to be a prudent expert. If you are not, you need to go out and find that expertise. In today’s environment, a 3(21) investment fiduciary is another expert that a plan sponsor can lay off or share some responsibility and liability with.”
Under the Employee Retirement and Investment Security Act, section 3(21)(A) states that a person is a fiduciary with respect to a plan to the extent he exercises any discretionary authority or discretionary control respecting management of such plan or exercises any authority or control respecting management or disposition of its assets, he renders investment advice for a fee or other compensation, direct or indirect, with respect to any moneys or other property of such plan, or has any authority or responsibility to do so, or he has any discretionary authority or discretionary responsibility in the administration of such plan.
“Not everyone in the marketplace will serve as a fiduciary. Some only act as a broker and won’t sign on as a fiduciary,” Reagan said. Most plan sponsors prefer 3(21) fiduciaries over 3(38) fiduciaries, he said. The difference between the two is that a 3(38) investment advisor “has discretion so they can act without really informing the plan sponsor. The plan sponsor has charged them with the duty to oversee the plan, whereas a 3(21) does not have discretion. They make recommendations but refer to the committee for final decisions,” he said.
Mesirow Financial acts as a 3(21) fiduciary for plan sponsors. “As a registered investment advisor and a fiduciary, we need to act in the best interest of a plan and its participants. Typically, we negotiate a fee upfront with our clients. We don’t work on a commission basis. We are not paid on product. It doesn’t matter to us who chooses what. It is all the same to us. What provider they are with, doesn’t matter. As long as we are working for the plan sponsor we are acting in the best interest of the plan,” Reagan said.
Transamerica Retirement Services announced in late October that it was partnering with the Investment Strategies group at Mesirow Financial to offer a new ERISA Section 3(21) fiduciary service to help retirement plan advisors and sponsors mitigate investment fiduciary risk.
As part of this service, Mesirow Financial is providing plan-level investment advice related to the selection and monitoring of the plan’s investment lineup. The company will act as an investment fiduciary to the plan along with the plan sponsor, who maintains ultimate control over the plan’s investment menu.
“We offered it both at the request of our plan sponsor clients and the schematic and trend in the industry to have somebody other than a plan sponsor to act as a fiduciary alongside plan sponsors,” said Jason Crane, senior vice president and national sales director for Transamerica Retirement Services. “Many of our distribution partners, our broker/dealer partners, allow their brokers to act in a fiduciary capacity. Many of our historic partners have chosen not to allow their advisors to act in a fiduciary capacity. In this instance, it acts as protection for our plan sponsors.”
Until the U.S. Department of Labor re-proposes its definition of “fiduciary” in 2012, many advisors are taking a wait-and-see attitude, Crane said. The partnership with Mesirow Financial is a “great offering for our clients who will not work in that capacity. [Mesirow] will review our portfolios and distill them down to an elite list. Those funds are scrubbed through Mesirow’s due diligence process.”
He added that the nice thing about the 3(21) service is that “Mesirow will defend any and all claims within its fiduciary duty.”
Transamerica’s financial advisors who have chosen not to act in a fiduciary capacity will remain “key contacts to our clients. They can help clients to mitigate their fiduciary risk without taking on a stated fiduciary capacity themselves. Our financial advisors can recommend a fund lineup using Mesirow’s elite list or they can suggest that a plan sponsor adopt one of three prefabricated portfolios constructed by Mesirow Financial based on the plan’s demographics,” Crane said. As long as a portfolio is constructed of Mesirow’s elite funds, the plan sponsor will get that additional fiduciary mitigation.
A July 2011 report by Diversified Investment Advisors predicted that by 2015, “advisors will no longer be in a position to receive compensation unless they assume ERISA Section 3(21) fiduciary responsibilities. This differs from the current regulatory framework, which allows plan sponsors to choose from other models, including broker/dealer, consultant and advisor models.”
The report, “Prescience 2015: Expert Opinions on the Future of Retirement Plans,” stated that the “need for ongoing holistic service from a third party is leading many plan sponsors to opt for a professional retirement plan advisor that services plans on a fee or retainer basis.”
Joe Masterson, Diversified senior vice president, said in a statement: “The emergence and organization of professional retirement plan advisors will have a profound impact on our business over the next five years. These professionals are dedicated to the retirement plans business, and therefore are well-suited to understanding plan compliance, designing appropriate fund arrays, positively impacting plan design and helping participants achieve funded retirements.”
David Wray, president of the Plan Sponsor Council of America, said that new rules regarding who is and isn’t a fiduciary will “clarify that the people helping shoulder the burden are actually doing it.” Most plan sponsors believe they have been getting that level of commitment from their advisors, he said. “Some plan sponsors would like to hire someone and actually have them make investment decisions for them and some want them to advise them on helping them make the decisions, but in both cases, the person helping the plan sponsor should be a fiduciary.”
Wray added that, “it’s best to have an advisor have their priority be the benefit of the participants rather than the interest of their employer.”
Losing by Winning, Case Offers Harsh Reminder Concerning Preventable Expenses
The circumstances behind a recent court decision were typical, and their consequences painfully predictable. Although the plan administrator “won,” that victory does not reflect the huge—and entirely unnecessary—cost to the plan sponsor in terms of overhead and legal fees.
Herring v. Campbell was a fight over who would receive the retirement benefits accrued by John Wayne Hunter, a participant in an ERISA-governed plan. When Mr. Hunter died, he left behind a $300,000 account balance. Although he had properly designated a beneficiary (his wife), she died before he did. And because he had never designated a new beneficiary, it fell to the plan administrator to choose between the two parties who claimed Mr. Hunter’s benefits.
The plan document included a fairly typical list of default beneficiaries. These were, in order of priority, Mr. Hunter’s surviving spouse, his children, his parents, his brothers and sisters, and his estate. Mr. Hunter left no spouse, no natural or adopted children, and no parents. He was, however, survived by two stepsons and six siblings. The plan administrator therefore had to decide which of these two groups was entitled to split Mr. Hunter’s money. If the stepsons were his “children” under the plan, they would be his beneficiaries. If not, then his siblings would receive the benefit.
The plan’s ambiguity as to the definition of this single word (children) caused the administrator and sponsor to be dragged into court. The litigation lasted several years, leading all the way to the United States Court of Appeals for the Fifth Circuit—just one step short of the Supreme Court.
None of this was necessary. Here were the entirely preventable steps in this matter:
- First, the administrator considered and rejected the stepsons' (weak) claim that they were entitled to the $300,000 under the Texas probate law doctrine of "equitable adoption." She instead distributed the account, in equal shares, to Mr. Hunter's siblings.
- The stepsons appealed the decision. The plan administrator reviewed the appeal and again denied their claim.
- The stepsons then moved their claim to federal court, and the trial judge ruled in their favor.
- The plan administrator filed a motion for reconsideration, which the trial-court judge denied.
- The administrator was therefore forced to file her own appeal in the Fifth Circuit, where a three-judge panel reversed the district court's ruling, bringing the matter full circle.
The fact that the second-highest court in the land vindicated the administrator’s decision is of little comfort to the administrator, who spent years on an entirely pointless legal battle in which she had no real stake. Nor was being right on the law any comfort to the plan sponsor, which had to pay the (presumably massive) legal fees and court costs in both the federal district court and the Fifth Circuit.
In other words, the interesting legal issues in this case (for example, the proper standard for reviewing a plan administrator’s decision when the plan document is silent about something) are beside the point. Rather, the lesson is that the entire conflict could have been avoided by simply stating, in the plan document, that stepchildren either are or are not “children” for purposes of determining a beneficiary when a participant dies without designating one.
Plan sponsors should review their plans’ default beneficiary provisions and see what— entirely preventable—dangers might lurk there.
Lawrence Jenab, Partner Spencer Fane Britt & Browne LLP
Correcting Operational Mistakes Can Eliminate Fiduciary Liability
Over the past decade, plan sponsors have become familiar with the voluntary correction programs offered by the IRS and Department of Labor, including the Service’s Employee Plans Compliance Resolution System (EPCRS) and the DOL’s Voluntary Fiduciary Correction Program (VFCP). These programs offer formal ways for sponsors to correct certain administrative errors in the operation of their plans. Even if employers choose not to avail themselves of these formal programs, however, correcting administrative mistakes can eliminate the risk of fiduciary liability under ERISA.
Operational errors in administering a retirement plan not only threaten the plan’s “qualified” status under the Tax Code, but can also result in fiduciary liability under ERISA for those who are responsible for the errors. One of the primary duties imposed on ERISA fiduciaries is to administer the plan “in accordance with the documents and instruments” governing it. Failing to do so is a violation of that fiduciary duty, which can lead to personal liability. And administrative errors almost always involve a failure to comply with a plan’s terms.
A Massachusetts employer recently prevailed on a fiduciary breach claim because the employer had voluntarily corrected its administrative error. In this case, Altshuler v. Animal Hospitals Ltd., the employer had failed to timely remit an employee’s salary deferral contributions to its SIMPLE 401(k) plan. After learning that several months of her contributions had not been deposited into the plan, Ms. Altshuler complained to the company’s president. The company voluntarily corrected its error by making all of the outstanding contributions, plus interest, and then fired Ms. Altshuler. She filed suit against the employer under ERISA, claiming (among other things) that the company breached its fiduciary duty to promptly deposit employee contributions, as required by the plan document.
The court ultimately determined that the employer had, in fact, breached its fiduciary duty under ERISA. It also ruled, however, that because the employer had already made the delinquent deposits – and thus had made the participant “whole” – the participant was not entitled to any remedy. Ms. Altshuler had been given everything to which she was entitled under the plan (the contributions and earnings), and the limited scope of remedies available under ERISA precluded her from receiving anything else from the company. Thus, although the company’s voluntary correction of its administrative error did not excuse the resulting fiduciary breach, it effectively insulated the company from liability.
Gregory L. Ash, Partner
Spencer Fane Britt & Browne LLP
Employers Prep for New Moves under PPACA
As the 2013 enrollment time draws near, employers are preparing to jump through a few extra hoops thanks to the recently reaffirmed health care reform law.
In addition to the usual notices and benefit communications that employers must prepare and distribute to their employees, the Patient Protection and Affordable Care Act has added a summary of benefits and coverage (SBC) to the enrollment pile for plans that begin on or after Sept. 23, 2012.
The SBC is a four-page document that provides information about a plan's health care coverage and out-of-pocket costs for employees, according to a recent online post by law firm Warner Norcross & Judd LLP. Employers with fully insured plans can expect their insurers to provide the bulk of the content for their SBCs. Self-insured companies, on the other hand, will have to craft the SBCs themselves, the law firm notes.
The rules allow for a few actions that can simplify the process for employers, Warner's post notes. For example:
- Separate tiers of coverage can be covered in a single SBC.
- The SBC can be a stand-alone document or it can be included in an enrollment booklet, provided that it isn't buried and hard to find.
- A single SBC can be used for multiple plans, assuming that the only differences are deductibles and copay/coinsurance amounts, and that the document clearly defines these differences between the plans.
- The same distribution rules apply to SBCs as to summary plan descriptions (SPDs) under ERISA.
Employers with calendar-year health flexible spending accounts also will want to inform workers about the new $2,500 annual contribution cap created by PPACA, according to Linda Rowings, compliance director for United Benefit Advisors. Prior to enrollment, companies should double-check to ensure that their FSA administrator is prepared for this change, Rowings added.
Unfortunately for employers, these changes represent only the tip of the iceberg for new PPACA notices and enrollment duties. Once the health care exchanges, "pay or play" penalties and other major provisions of the law come into effect in 2014, employers can expect even more work around enrollment time.
One thing PPACA likely won't change, though: Quality employer-sponsored health benefits, which can strengthen recruiting/retention efforts and improve a workforce's health and productivity, remain highly valued by employees.
That's the result of a new survey that shows employees' satisfaction with their employer-provided benefits either rose or remained stable in 2012 compared with 2009, despite increased cost-sharing. The poll by the National Business Group on Health found that nearly two-thirds of workers are very satisfied with their health coverage through their employer or union, according to aPLANSPONSOR report.
While the increasing compliance hassles and climbing costs may prompt some employers to dump health coverage in the future and send their employees into the health care exchanges, a separate study suggests that move won't save employers money in the short or long term.
The study by Truven Health Analytics, as reported by the Employee Benefits Counsel, found that employers that choose to drop coverage in 2014 and pay penalties under PPACA likely will feel pressure to "make employees whole" by increasing compensation (which lacks the tax shelters of providing health benefits). This, combined with the penalties, will make dropping coverage a losing proposition financially, researchers said.
In light of those facts, most employers likely will be better off suffering through the extra enrollment and compliance work and continuing to provide health benefits, the report suggests.
"Employers must provide market value -- in benefits and compensation -- to retain skilled workers and will not be able to unilaterally cut benefits and expect employees to absorb the projected inefficiency of exchange-based coverage," the Counsel study notes.