Many of you know of me as being well versed in 403(b) matters; others are familiar with my work in annuities; others still consider my familiarity with MEPS or ERISA broker dealer issues. But the heart and soul of my practice over the past nearly 30 years has really been the fiduciary rules-in particular, the application of the prohibited transaction rules. From private placements, to securities trading, to product development, to sales and marketing, and all manner of issues in between, the prohibited transaction rules have been an integral piece of my practice, woven into much of what I have done and continue to do. It is an arcane world, full of unusual concepts-just see what happens when you try to determine under the regs just what is the "amount involved in a transaction" -and the computation of the penalty often seems like an art to itself.
They are also very powerful rules, with the capability of significant impact; I have seen uncertainties in their application virtually shut down insurance company general account private placements for a period of time. And given that the value of the assets in IRAs and retirement plans are equal to some 85% of the value of publicly traded securities in the U.S., they will serve as a growing shadow regulation on a large piece of the U.S. economy over time.
It is also why 408b2 is also so intriguing to me. It has the potential for some pretty serious ramifications. Though we get lost in the detail of timely meeting the new disclosure requirements, the real impact will occur once the dust settles, and when we have to deal with all manner of prohibited transactions- arising either from failure to properly disclose compensation or from what is revealed by the disclosure itself.
Interestingly enough, one of the most serious of the impacts of 408b2 promises to arise from application of Code section 4975, not from ERISA Section 406 to which 408b2 is connected. For those not familiar with it, Code section 4975 is the Tax Code's corollary of the prohibited transaction rules under ERISA's Title 1. By a quirky operation of the ERISA Reorganization Plan, the DOL has the authority to issue the regs by which the prohibited transaction tax under 4975 is operated (except for computation of the tax itself), and thus 408b2 acts to interpret 4975 as well. There are, by the way, important distinctions between 4975 and 406 which will come into play (for example, 4975 does not apply to 403(b) plans, but will apply to non-ERISA IRAs).
4975 imposes a tax on the prohibited transaction. It is not a penalty (though there is a penalty in 4975 for failure to timely pay the initial tax and correct the transaction), like under ERISA Section 406. It is a tax on a transaction. Period. There is strict liability for the taxes. Once the prohibited transaction occurs, the tax liability attaches, and there is a duty to report and pay that tax. The IRS has no ability to waive that tax-unlike the prohibited transaction penalty under ERISA, which grants the DOL the ability to waive penalties-other than through the issuance of a formal prohibited transaction exemption by the DOL.
This is even if the transaction occurred without any intent to engage in the transaction, or even if it occurred when engaged in doing what is ultimately in the best interests of the plan and participants.
The 408b2 regs have an important PT exemption for the responsible plan fiduciary (which also applies to the 4975 tax) under certain conditions, should there be a failure of disclosure, but this exemption does not run to the service provider who fails to make a timely disclosure. And even then the exemption only runs to the disclosure itself, not the actual prohibited transaction which may be disclosed under 408b2.
The rubber has not yet begun to hit the road....