Trust Examination Manual
March 25, 2005
ERISA Sec. 406(b)
Ms. Norma M. Sharara
Buchanan Ingersoll, PC
1776 K Street, NW, Suite 800
Washington, DC 20006-2365
Dear Ms. Sharara:
This is in response to your request for guidance under the Employee Retirement
Income Security Act of 1974 (ERISA). In particular, you request an advisory opinion
that the proposed investment of assets of an employee retirement plan (the Plan)
in a mutual fund (the Fund) will not constitute a per se prohibited transaction
under section 406 of ERISA.(1) The Plan is sponsored by a foundation (the Foundation)
and the Fund is a registered open-ended investment company that is advised and
distributed by an investment advisor (the Advisor).
You represent that the Foundation is a tax-exempt organization described in Code
section 501(c)(3). The Foundation was organized under Ohio law as a non-profit
corporation, and its principal place of business is currently located in New
York City. The Foundation has functioned as a private foundation whose principal
purpose is to support other operating charitable organizations. It is exempt
from federal income taxation and has been classified by the Internal Revenue
Service (IRS) as a private foundation under Code section 509. As of December
31, 2002, the Foundation had approximately $305,000,000 in assets. The Foundation,
in keeping with the wishes of its founder is time-limited, and expects to disburse
substantially all of its assets by 2010.
Because the Foundation expects to bring its operations to a close by 2010, the
level of grant-making will accelerate significantly in the coming years. Prior
to 2002, the Foundation did not have any paid staff. The Foundation hired nine
individuals in 2002 essentially to prepare for and carry out the increased grant-making
activities that the Foundation expects to occur between 2002 and 2010 as the
Foundation winds down its activities and operations. The Plan was established
in 2002 on behalf of these nine employees.
The Foundation is governed by a three-person board of trustees (the Board), none
of whom are currently employees of the Foundation or participants in the Plan.
One trustee also serves as the chief executive officer of the Foundation, and
will soon become an employee of the Foundation. Another trustee serves as a vice-president
of the Foundation.
The Plan is a defined contribution plan covering nine participants and is intended
to qualify under Code section 401(a). As of December 31, 2002, the Plan had net
assets of $163,652. Investment decisions for the plan are made by the Foundation.
The Foundation is also the plan administrator and named fiduciary of the Plan.
The Board, as the decision-maker for the Foundation, carries out the Foundation’s
fiduciary responsibilities on behalf of the Plan. The Board also serves as the
Plan’s trustee, in which capacity it is subject to direction by the Foundation.
The Board has determined to allocate the Plan’s investments equally between equity
and interest-bearing securities.
The Fund invests primarily in common stocks and is managed using a “value”
strategy. The Fund has consistently outperformed its benchmark, the S&P
500 Index, over the last 10 years. A trustee and member of the Board is the
President and Chief Executive Officer of the Advisor. He also holds a 22.9%
in the Advisor. Neither the Foundation nor any of the other trustees holds
any ownership interest in, or has any other relationship with, the Advisor.
proposes to invest up to 25% of the Plan’s assets in the Fund. The remaining
allocation to equity securities will be invested in other mutual funds that
are unrelated to the Advisor. The Board has determined that this allocation
be consistent with the Plan’s investment policy.
This trustee is also one of three Advisor portfolio managers charged with day-to-day
management of the Fund’s assets. The Fund pays the Advisor an annual investment
advisory fee of 1% of the Fund’s net asset value, reduced by certain expenses
that the Advisor reimburses to the Fund. The Fund’s independent Board of Directors
is responsible for approving the investment advisory agreement between the Fund
and the Advisor. The Fund imposes no sales charges, exchange fees, or redemption
You represent that the trustee’s compensation for his services on behalf of the
Advisor is not affected by the total amount of assets under management by the
Fund. As of December 31, 2002, the Fund held net assets of approximately $3.9
You request an opinion that the Plan’s investment of up to 25% of its assets
in the Fund will not result in a prohibited transaction under section 406 of
Section 3(21) of ERISA provides that a person is a fiduciary with respect to
a plan to the extent he exercises any discretionary authority or control respecting
the management of the plan or the management or disposition of the assets of
the plan. A plan’s administrator and named fiduciary by virtue of having those
positions, must have or exercise discretionary authority or control respecting
the management of the plan or the management or disposition of its assets.(2)
The Foundation is the Plan’s administrator and named fiduciary. The Board exercises
the Foundation’s fiduciary responsibilities on behalf of the plan. Accordingly,
all trustees and members of the Board are fiduciaries with respect to the Plan.
Section 406(b)(1) of ERISA prohibits a fiduciary from dealing with the assets
of the plan in his own interest or for his own account. Section 406(b)(2) of
ERISA prohibits a fiduciary with respect to a plan from acting in any transaction
involving the plan on behalf of a party, or represent a party, whose interests
are adverse to the interests of the plan or of its participants and beneficiaries.
The Department has explained in regulation 29 CFR §2550.408b-2(e) that the
prohibitions of section 406(b) are imposed upon fiduciaries to deter them from
the authority, control, or responsibility that makes them fiduciaries when
they have interests that may conflict with the interests of the plans for which
act. Thus, a fiduciary may not use the authority, control, or responsibility
that makes him a fiduciary to cause a plan to pay an additional fee to such
fiduciary, or to a person in which he has an interest that may affect the exercise
best judgment as a fiduciary, to provide a service. However, regulation 29
CFR §2550.408b-2(e)(2) provides that a fiduciary does not engage in an act
in section 406(b)(1) of ERISA if the fiduciary does not use any of the authority,
control, or responsibility that makes him a fiduciary to cause a plan to pay
additional fees for a service furnished by such fiduciary or to pay a fee for
a service furnished by a person in which the fiduciary has an
interest that may affect the exercise of his judgment as a fiduciary.
One member of the Board and trustee of the Plan is a significant owner and the
President and Chief Executive Officer of the Advisor, the investment advisor
for the Fund. In addition, he is one of the portfolio managers of the Fund, involved
in the day-to-day operation of the Fund. It is the opinion of the Department
that based on these factors, taken together, this trustee has an interest in
the Fund that may affect his best judgment as a fiduciary of the Plan regarding
the decision whether to invest Plan assets in the Fund. Accordingly, if that
trustee uses any of the authority, control, or responsibility that makes him
a fiduciary to cause the Plan to invest in the Fund, the trustee will engage
in a violation of section 406(b)(1) and 406(b)(2).
The Department has stated in other situations involving a fiduciary who has this
type of conflict of interest that the fiduciary can avoid engaging in a transaction
described in section 406(b)(1) and 406(b)(2) of ERISA by removing himself from
all consideration of the transaction in question, and not exercising any of the
authority, control, or discretion that makes him a fiduciary to cause the plan
to enter into the transaction, as long as there is no arrangement, agreement,
or understanding regarding the proposed transaction.(3) We note, however, that
if a fiduciary has or obtains material information, including information regarding
plan investments, that would be necessary in order for other plan fiduciaries
to make an appropriate and prudent decision with respect to the purchase, holding,
or disposition of a particular investment, we believe the fiduciary’s duties
under section 404 of ERISA would require informing the deciding fiduciaries of
ERISA's general standards of fiduciary conduct also would apply to the proposed
investment. Under section 404(a)(1), the responsible Plan fiduciaries must act
prudently and solely in the interest of the Plan participants and beneficiaries
in deciding whether to make an investment of Plan assets in the Fund.
This letter constitutes an advisory opinion under ERISA Procedure 76-1 (41 Fed.
Reg. 36281, August 27, 1976). Accordingly, this letter is issued subject to the
provisions of the procedure, including section 10 relating to the effect of advisory
Louis J. Campagna
Chief, Division of Fiduciary Interpretations
Office of Regulations and Interpretations
Under Reorganization Plan No. 4 of 1978 (43 FR 47713, October 17, 1978), the
authority of the Secretary of the Treasury to issue rulings under section 4975
of the Internal Revenue Code (the Code) has been transferred, with certain
exceptions not here relevant, to the Secretary of Labor. Therefore, the references
letter to specific sections of ERISA should be taken as referring also to the
corresponding sections of the Code.
Interpretive Bulletin 75-8, D-3 (29 CFR 2509.75-8, D-3)
- See, Advisory Opinion 99-09A (May 21, 1999) and Advisory
Opinion 79-72A (October 10, 1979)
- We offer no opinion on the impact that insider-trading
rules under the Federal securities laws may have on the dissemination
of such information to
other fiduciaries. Such rules are under the jurisdiction of the Securities
and Exchange Commission.