Business of Benefits : Employee Benefits Lawyer & Attorney : Law Office of Robert J. Toth, Jr. : 403(b) Plans, Annuity & Insurance Law : Business of Benefits Blog

In the summer of 1999, I left my position as in-house counsel for an insurance company and returned to the private practice of law. As a result, I rolled the funds held in my 401k plan into an IRA. I was a complete novice when it came to investing at the time but had recently heard a commentator on NPR claim the rise of the Internet represented a paradigm shift in the global economy. Based upon this information, I moved half of my retirement funds into a “New Economy Fund” and the other half into a “ContraFund.”   When the dot.com bubble burst a year later, I realized I could have fared just as well if I had flushed half of my money down the toilet and stuck the other half under my mattress.

Several years later, one of my friends – a Vice President in the Claims Department of my prior employer – decided to retire. The company was owned by General Electric at the time, and its 401(k) plan offered a surprisingly paltry array of investment options - most of which were dogs. Because the price of GE stock had skyrocketed under Jack Welsh’s leadership, my friend chose to roll all of his retirement plan funds into GE stock. A year later, he too would have been in about the same shape as if he had flushed half his funds down the toilet. 

Needless to say, my friend and I would have benefited greatly from the counsel of an investment professional at the time we made these decisions. However, no advisor reached out to us and, now that I have spent the past several years providing legal counsel to advisors in the retirement plan industry, I understand why.

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By now it should be apparent the Department of Labor (“DOL”) has opened a proverbial can of worms by proposing to expand the category of service providers who will be subject to ERISA’s fiduciary standard. Not only has the proposal been met with a tidal wave of negative comments from industry insiders, but Members of Congress from both parties have also weighed in with their objections.

While it may come as a surprise that an attorney who works with retirement plan professionals would support the DOL’s attempt to expand the fiduciary standard, I actually agree with the assertion that a change in the law is needed. As in-house counsel for a broker-dealer that supported the nation’s largest network of independent retirement plan professionals, I pushed hard to require our registered representatives to adopt the principles that form the basis for the proposed rule. Specifically, I encouraged our registered representatives to consider moving their practice to a fee-based advisory platform and affirm their fiduciary status. For those unwilling to make the switch, I pushed to require client agreements that affirmatively stated the representative was not intending to act in a fiduciary capacity. Like the DOL, I have my share of battle scars from the effort.

However, while I agree with the DOL’s goal, I cannot support its methodology for bringing about this change. Specifically, I believe the proposed rule (as currently drafted) violates the constitutional separation of powers by permitting an executive branch agency to rewrite existing law rather than interpreting the law as it is currently written.

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I drafted the following article for the DCPI Weekly Exchange as part of an ongoing series of comments on fiduciary issues.  DCPI's newsletter can be accessed (with a free subscription) at http://www.dcpinstitute.com.

As I review advisors’ websites and advisory agreements, I sometimes see “plan design consulting” as a service offered to retirement plan clients. While there is nothing inherently wrong with assisting clients with the design of their plans, I would caution that the DOL has long viewed such services as being materially different from other non-fiduciary activities. 

Specifically, in a publication entitled “Guidance on Settlor v. Plan Expenses,” the DOL noted:

The department has taken the position that there is a class of activities which relates to the formation, rather than the management, of plans. These activities, generally referred to as settlor functions, include decisions relating to the formation, design and termination of plans and, except in the context of multi-employer plans, generally are not activities subject to Title I of ERISA. Expenses incurred in connection with settlor functions would not be reasonable expenses of a plan.

While the same publication claims that, “Plan design expenses clearly constitute settlor expenses and, therefore, are not payable by the plan,”[1] the basis for the DOL’s position is less than clear.  In fact, the term “plan design” is never used in ERISA. Neither is “settlor expenses.” Instead, the DOL appears to draw support for its position from the law’s emanations and penumbras. 

For example, in Advisory Opinion 97-03A, the DOL indicated its position was required, in part, by the following language in §403(c)(i):

(T)he assets of a plan shall never inure to the benefit of any employer and shall be held for the exclusive purposes of providing benefits to participants in the plan and their beneficiaries and defraying reasonable expenses of administering the plan. 

In order to tie its position to this statute, the DOL must necessarily conclude employers do not form retirement plans “for the exclusive purpose of providing benefits to participants in the plan” but, instead, primarily to further their own interests. To be fair, our Supreme Court has opined that employers derive some incidental benefits by forming a retirement plan (e.g., in the recruitment and retention of employees).[2] Surprisingly, though, the DOL brushed aside any reliance on this argument, arguing that such incidental benefits are not sufficient to convert an activity into a “settlor expense.”[3]

As a result, advisors should be forgiven for not having a good understanding of when their advice becomes a “plan design expense” that cannot be paid from plan assets. The best guidance the DOL has offered in that regard is that, “Typically, plan design expenses are incurred in advance of the adoption of the plan or a plan amendment.”[4] 
 

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I drafted the following article for the DCPI Weekly Exchange as the first of an ongoing series of comments on fiduciary issues.  DCPI's newsletter can be accessed (with a free subscription) at http://www.dcpinstitute.com.

Okay, I will admit it.  I have not spent my entire legal career focused upon ERISA.  In fact, before joining National Retirement Partners as in-house counsel to its broker-dealer and registered investment advisory firm, I served as counsel to an insurance company and, yes, as a plaintiff's attorney. 

However, having such varied experience can sometimes provide a more nuanced perspective.  Take, for example, the ongoing debate regarding the benefits and drawbacks of serving as an investment advisor to ERISA-qualified plans under section 3(21)(a)(ii) or as an investment manager under section 3(38). 

If you were to merely read ERISA, you would likely conclude there are significant differences in the potential liability being assumed under each role.  After all, an investment advisor, by definition, merely provides advice to the ultimate decision-maker.  By contrast, an investment manager manages the fund's assets on a discretionary basis.  In fact, section 405(d)(1) of ERISA specifically provides immunity to plan trustees for the acts or omissions of an appointed investment manager. 

Unfortunately, some commentators have attempted to use these statutory differences to assert that investment advisors have no legal liability because they are providing nondiscretionary advice, while investment managers completely shield plan sponsors from legal liability by acting with discretion.  Upon closer inspection, however, these theoretical distinctions quickly break down. 

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Unless you have been living under a rock for the past two weeks, you are probably aware of the pitched battle currently taking place in several states over proposed changes to the rights and benefits currently extended to state employees. In fact, Democrat legislators from Wisconsin and my own home state of Indiana have fled to Illinois (apparently, the asylum hot spot for lawmakers on the lamb) in an attempt to deny their state’s legislatures the quorum necessary to enact the proposed reforms.

While I rarely shy away from expressing my opinion on the political issues of the day, it is not my intent to weigh in on the broader debate regarding the role of public employee unions. In fact, I would note that Bob Toth (with whom I practice) and I come from decidedly different sides of the political spectrum. However, as attorneys focused on retirement plan issues, there is one aspect of the current debate on which we agree; namely, that states, like most private employers before them, need to shelve their current approach of handling their defined benefit plans.

This is not a new issue for either of us. Bob actually penned an article and a follow-up noting the limitations of traditional pension plans back in 2009 and, in 2010, I based my campaign for the Indiana General Assembly on a pledge to address our state’s public retirement plans (which were estimated to face a funding gap of almost $47 billion). While my run for public office was unsuccessful, I was recently asked to testify in favor of a bill (SB 524), which would require the state to study the prospect of switching to a defined contribution plan to provide retirement benefits for public employees and teachers.

According to a recent article in the New York Times entitled “Pension Funds Strained, States Look at 401(k) Plans,” Indiana is not alone in realizing the risks posed by promising lifetime payments to public employees without proper funding. Furthermore, this trend is bound to continue as taxpayers become educated regarding the huge deficits currently faced by many public pension plans. As I noted in my testimony to the Indiana Senate Committee on Pensions and Labor, unlike private plans, public pension funds have been permitted to discount future liabilities based upon projected future annual investment returns. 

For example, Indiana’s retirement funds assume a 7.25% annual return when projecting the current funding necessary to provide promised benefits to future retirees. However, according to Standard & Poor’s, the total return of S&P 500 over the past five years was just 2.4%! Furthermore, according to Joshua D. Rauh, who is with the Kellogg School of Management at Northwestern University, even if Indiana’s retirement funds were to achieve an average annual return of 8% on their investments, they would still run out of cash by 2019 (assuming cost of living adjustments based upon a 3% inflation rate).

Unfortunately, few state legislators know how to manage their own retirement portfolios, let alone the complex requirements of a multi-billion pension fund. However, as noted, the potential risk to future state finances posed by these plans is enormous. Our firm has offered its expertise to Indiana lawmakers to assist them in designing a program that will assist public employees in achieving income security at retirement while also protecting state taxpayers. In this regard, we are fortunate to have associations with several prominent think tanks from which we can derive additional support.

We would urge other retirement plan professionals to do the same; namely, take a look at the public retirement plans in your own state to determine if they are in need of additional professional guidance. As the saying goes, “The cobbler’s children go unshod.” However, let’s not let this maxim apply to the retirement plans managed by our state and local governments when we can offer assistance - either directly or through referrals to qualified experts. Our own financial future may depend upon helping them manage their way out of this current crisis.

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But first, an introduction.... 

Today, we are pleased to introduce the writings of Phil Troyer, who has just joined our firm.  Phil brings a fascinating and badly needed skill set to the retirement plan world: a deep knowledge of the broker-dealer and retirement plan advisor marketplace; practical experience on how ERISA, and its fiduciary rules, actually work (and don't work) in that part of the market;  and, rare for our world, being deeply grounded in how insurance liability coverage actually works for fiduciaries and plans.  Check out his bio n the "About" section of this website, and feel free to contact him at pjt@rtothlaw.com.

Phil's blog piece on being a naked fiduciary:

Are You a Naked Fiduciary?

Much has been written about the Department of Labor’s proposal to broaden the definition of “investment advice” to bring more service providers under the fiduciary standard of care. However, lost in the plethora of articles summarizing its potential effects is a question that should be foremost on the mind of every registered representative who provides services to qualified plans; namely, will I be left without insurance coverage (i.e. “naked”) if I am deemed to be a fiduciary as a result of providing investment advice to my plan clients? 

The answer - which may come as a shock to many representatives - is that it depends. Specifically, it depends upon the specific language used in their professional liability policy to exclude coverage for claims arising from the insured’s status as a fiduciary of an ERISA-qualified plan. 

The basis for the ERISA-fiduciary exclusion contained in most E&O policies is understandable because serving as an officer or administrator of a retirement plan is not generally considered to be a service broker-dealers offer to their clients.[1] Furthermore, separate “ERISA Fiduciary Liability” policies are available for individuals who serve as named fiduciaries of a qualified plan. As a result, insurance carriers have a justifiable reason for ensuring their professional liability policies are not used to bootstrap coverage when a registered representative happens to serve as an officer or administrator of a qualified plan.  Unfortunately, though, these exclusions are not always drafted with sufficient care.

For example, a policy that excludes coverage for “any services performed by any Insured acting as a fiduciary under ERISA,” creates a significant landmine for registered representatives with retirement plan clients because - even under the current definition of “investment advice” - they could be deemed to have acted in a fiduciary capacity by providing investment recommendations to the plan on a regular basis. Obviously, this risk will increase dramatically if the DOL’s expanded definition is enacted to remove the requirement that the recommendations be provided on a regular basis.

Conversely, exclusions based upon the insured’s status as a “named fiduciary, as defined by ERISA” miss the point that the law allows a plan’s named fiduciaries to “designate persons other than named fiduciaries to carry out fiduciary responsibilities.”[2] As a result, the exclusion may not be sufficient to prohibit coverage for a registered representative who was not specifically designated as a fiduciary by the plan but is later deemed to be acting as one as a result of providing management or administrative services to it on a contractual basis.

If insurance companies intend to exclude coverage for services not typically performed by registered representatives (i.e., managing or administering a qualified plan) while preserving coverage for services which are (i.e., providing recommendations regarding investments), then the carriers should be careful to base their exclusionary language on the activity being performed as opposed to the insured’s status as a fiduciary under ERISA. 

At the same time, registered representatives would be well served to dust off their E&O policies to determine whether they will currently have coverage if they are deemed to be a fiduciary under ERISA – especially before a new definition of “investment advice” makes it more likely to occur. Otherwise, they could find they were walking around naked at the time they most needed coverage.

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