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Trust Examination Manual
Advisory
Opinion 2001-09A
ERISA Sec. 406(b)
Application
of ERISA Sec. 406(b) to certain transactions involving the provision
of investment advice and discretionary services with regard to asset
allocation for participants in participant-directed defined contribution
plans.
December 14, 2001
Mr. William A. Schmidt
Mr. Eric Berger
Kirkpatrick & Lockhart LLP
1800 Massachusetts Avenue, NW, 2nd Floor
Washington, DC 20036-1800
Dear Messrs. Schmidt and Berger:
This is in response to your application, on behalf of SunAmerica Retirement
Markets, Inc. (SunAmerica), for an exemption from the prohibited transaction
restrictions of section 406 of the Employee Retirement Income Security Act
of 1974, as amended (ERISA), with respect to a program (the Program) under
which SunAmerica would render certain discretionary and nondiscretionary asset
allocation services to participants in ERISA-covered plans (Plans). On the
basis of the facts and representations contained in your submission, it is
the view of the Department that, for the reasons discussed below, the transactions
with respect to which you have requested exemptive relief would not, to the
extent executed in a manner consistent with such facts and representations,
violate the provisions of section 406(b) of ERISA. Accordingly, we have determined
that the appropriate response to your request is an advisory opinion, rather
than an exemption under ERISA section 408(a).(1)
Your submission contains the following facts and representations. SunAmerica
is an indirectly wholly owned subsidiary of SunAmerica Inc., and is one of
a group of companies wholly owned by SunAmerica, Inc. that provide a broad
range of financial services. SunAmerica’s
affiliate, SunAmerica Asset Management Corp., is a registered investment adviser
under the Investment Advisers Act of 1940. SunAmerica intends to offer the
Program to individual account plans described in section 3(34) of ERISA. It
is anticipated that virtually all of these Plans will be designed or administered
in a manner intended to comply with the provisions of section 404(c) of ERISA.(2)
Under the Program, asset allocation services may be rendered to Plan participants(3)
either through the “Discretionary Asset Allocation Service” or the “Recommended Asset Allocation Service” (collectively, Services; singly, Service). Through the Discretionary Asset Allocation
Service, a specific Model Asset Allocation Portfolio will be implemented automatically
with respect to a participant’s account (Account). Through the Recommended Asset Allocation Service, a specific
Model Asset Allocation Portfolio will be recommended to a participant for investment
of his or her Account and the participant then may choose to implement the
advice, or to disregard the recommendation and invest in a manner that does
not conform to the Model Asset Allocation Portfolios.(4) The Plan fiduciary
who causes a Plan to participate in the Program will select the Service (or
Services) that will be available to participants and the manner by which participants
will authorize such Service (or Services). Model Asset Allocation Portfolios
will be based solely on the investment alternatives available under the Plan,
which your application refers to as “Core Investments,” but which we refer to herein as “Designated Investments.”(5) In this regard, it is anticipated that the Plans will offer, exclusively
or in addition to other vehicles, collective investment vehicles to which SunAmerica
or an affiliate of SunAmerica provides investment advisory services (SunAmerica
Funds).(6)
According to your submission, while SunAmerica will be making the Program,
as well as other services, available to Plans, the Model Asset Allocation Portfolios
offered under the Program will, in fact, be the product of a computer program
applying a methodology developed, maintained and overseen by a financial expert
who is independent of SunAmerica (the Financial Expert). The Model Asset Allocation
Portfolio produced under the Program with respect to a particular participant,
therefore, will reflect the application of the methodologies developed by the
Financial Expert to the Designated Investments, taking into account individual
participant data, as provided by the participant, Plan sponsor or recordkeeper.
You represent that, with respect to a Plan’s
initial participation in the Program, a Plan fiduciary (i.e., a fiduciary independent
of SunAmerica and its affiliates) will be provided detailed information concerning,
among other things, the Program and the role of the Financial Expert in the
development of the Model Asset Allocation Portfolios under the Program. In
addition, the Plan fiduciary will be provided, on an on-going basis, a number
of disclosures concerning the Program and Designated Investments under the
Plan, including information pertaining to performance and rates of returns
on Designated Investments, expenses and fees of SunAmerica Funds that are Designated
Investments, and any proposed increases in investment advisory or other fees
charged under a SunAmerica Fund.
You represent that, with respect to the development of the Model Asset Allocation
Portfolios, the Financial Expert, using its own methodologies, will construct
strategic “asset
class” level portfolios. Using generally accepted principles of Modern Portfolio Theory,
the Financial Expert will evaluate and determine its strategic asset class
level portfolio recommendations. The Financial Expert then will construct each
Model Asset Allocation Portfolio by combining Designated Investments so that
the total asset class exposures of those Designated Investments equals the
desired strategic asset class portfolio weight.(7) The Model Asset Allocation
Portfolios will have different risk and return characteristics. In order for
these methodologies to be employed, the Designated Investments of a participating
Plan must provide a minimum exposure to a certain number of asset classes.
SunAmerica will inform the Plan fiduciary who causes a Plan to participate
in the Program of the asset classes that must be available for operation of
the Program,(8) and will inform the Plan fiduciary whether this requirement
has been satisfied, as solely determined by the Financial Expert, with respect to a particular selection of an investment alternative.
SunAmerica may assist the Financial Expert by providing certain background
information for the development of the Model Asset Allocation Portfolios. Specifically,
SunAmerica may supply the Financial Expert with algorithms, studies, analytics,
research, models, papers and any other relevant materials. The Financial Expert
also may seek the assistance of other entities in developing the Model Asset
Allocation Portfolios. You represent that in all cases, the Financial Expert
retains the sole control and discretion for the development and maintenance
of the Model Asset Allocation Portfolios.
With regard to the computer programs utilized by the Financial Expert to select
the specific Model Asset Allocation Portfolio provided to a participant, you
represent that any programmers who are retained to formulate those programs
will have no affiliation with SunAmerica, and that neither SunAmerica nor any
of its affiliates will have any discretion regarding the output of such programs.
You further represent that these computer programs require an input of minimum
participant data that will be determined by the Financial Expert. The Financial
Expert also will create a worksheet (the Worksheet) for gathering information
from individual participants. The Worksheet will consist of a series of questions
designed primarily to assess the participant’s
retirement needs, and will provide the participant an opportunity to designate
specific investments other than Designated Investments, or to place constraints
on investments in and among Designated Investments, if available under the
Plan. Also, with respect to the Discretionary Asset Allocation Service, subsequent
to initial participation in the Program, at least once each calendar quarter,
a “Facilitator” will contact each participant to whom services are provided to obtain any new
or different information requested on the Worksheet. This information may lead
the Financial Expert to implement a new Model Asset Allocation Portfolio for
the participant. The Facilitators will be employees of SunAmerica, independent
contractors of SunAmerica’s affiliates, or independent contractors or employees of broker-dealers not affiliated
with SunAmerica. Facilitators will not provide services to participants who
receive the Recommended Asset Allocation Service, and will not choose or recommend
a Model Asset Allocation Portfolio in connection with the Discretionary Asset
Allocation Service.
The Model Asset Allocation Portfolios (or any other Asset Allocation Portfolio)
implemented will be reviewed regularly and “rebalanced.” You
explain that participant Account or Asset Allocation Portfolio rebalancing
is the process of moving the assets in an Account or Asset Allocation Portfolio
asset class exposures toward its strategic target. This process seeks to reduce
the relative performance risk associated with moving the asset class exposures
away from what was intended in the strategic asset allocation. You represent
that the rebalancing procedures will not involve any discretion on the part
of SunAmerica or its affiliates, and that the Financial Expert will develop
a mechanical formula to rebalance the relative value of the assets in each
Account on a predetermined basis.
With regard to amounts paid by a Plan under the Program, you represent that
SunAmerica will receive a fixed percentage of assets of the Plan invested in
the Designated Investments up to 100 basis points (the Program Fee). In addition,
SunAmerica may receive reimbursements, not to exceed a fixed percentage of
Plan assets invested in the Designated Investments up to 25 basis points, for
Facilitator fees and “direct
expenses” within the meaning of 29 C.F.R. section 2550.408c-2 in connection with the operation
of the Program paid by SunAmerica to unaffiliated third persons for goods and
services provided to SunAmerica. SunAmerica, or any affiliate, will not be
precluded from receiving fees from the SunAmerica Funds.
The Program Fee and any reimbursements payable to SunAmerica, and any compensation
payable to the Facilitators under the Program, will not vary based on the asset
allocations made or recommended by the Financial Expert, except that the Program
Fee and any such reimbursements will be based on Designated Investments only
and will be reduced if an Account invests in other than the Designated Investments.
The compensation of the Financial Expert in connection with the Program will
not be affected by the decisions made by the participants regarding investment
of the assets of their Accounts in accordance with any Asset Allocation Portfolio.
With regard to the Financial Expert, you represent that the Financial Expert
will receive compensation from SunAmerica for its services as the Financial
Expert. You represent that fees to be paid by SunAmerica to the Financial Expert
will not exceed 5 percent of the Financial Expert’s
gross income on an annual basis. In addition you represent that the fees paid
to the Financial Expert by SunAmerica will not be affected by investments made
in accordance with any Asset Allocation Portfolio under the Program. For example,
neither the choice of the Financial Expert by SunAmerica nor any decision to
continue or terminate the relationship shall be based on the fee income to
SunAmerica that is generated by the Financial Expert’s construction of the Model Asset Allocation Portfolios. You further represent
that there have not been, nor will there be, any other relationships between
SunAmerica and the Financial Expert that would affect the ability of the Financial
Expert to act independent of SunAmerica and its affiliates. Your submission
indicates that by providing discretionary asset management services and investment
advice to participants, SunAmerica may be acting as a fiduciary with respect
to the Plans.
Your submission further indicates that implementation of a Model Asset Allocation
Portfolio, whether automatically or at the direction of a participant, may
result in the receipt of increased investment advisory fees by SunAmerica or
an affiliated entity. At issue, therefore, is whether, under the circumstances
described in your submission, the receipt of such fees resulting from the asset
allocation services rendered to Plan participants under the Program violates
the prohibitions of section 406(b) of ERISA.
Section 3(21)(A) of ERISA defines the term fiduciary as a person with respect
to a plan who (i) 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, (ii) 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 (iii) has any discretionary authority or discretionary responsibility
in the administration of such plan. Regulation 29 C.F.R. section 2510.3-21(c)(1)
states that, as a general matter, a person will be deemed to be rendering investment
advice within the meaning of section 3(21)(A)(ii) if two criteria are met.
First, pursuant to regulation section 2510.3-21(c)(1)(i), the person must render
advice to the plan with regard to the value of securities or other property,
or make recommendations as to the advisability of investing
in, purchasing or selling securities or other property. Second, pursuant to
regulation section 2510.3-21(c)(1)(ii), a person performing this type of service
must either (A) have discretionary authority or control with respect to purchasing
or selling securities or other property for the plan, or (B) render such advice
on a regular basis pursuant to a mutual agreement, arrangement or understanding,
written or otherwise, with the plan that the plan or a fiduciary with respect
to the plan will rely on such advice as a primary basis for investment decisions
with regard to plan assets. Although the question of whether an entity is a
fiduciary by reason of providing services generally depends on the particular
facts and circumstances of each case, we are assuming, for purposes of the
discussion that follows in this advisory opinion, that the totality of services
provided by SunAmerica causes it to be a fiduciary with respect to plans and
participants to which it renders services. In this regard, we note that section 404 of ERISA generally provides that fiduciaries
shall discharge their duties with respect to a plan prudently and solely in
the interest of the participants and beneficiaries.
While section 406(a)(1)(C) of ERISA proscribes the provision of services to
a plan by a party in interest, including a fiduciary, and section 406(a)(1)(D)
prohibits the use by or for the benefit of, a party in interest, of the assets
of a plan, section 408(b)(2) of ERISA provides a statutory exemption from the
prohibitions of section 406(a) of ERISA for contracting or making reasonable
arrangements with a party in interest, including a fiduciary, for office space,
or legal, accounting, or other services necessary for the establishment or
operation of the plan, if no more than reasonable compensation is paid.
Section 406(b)(1) of ERISA provides that a fiduciary with respect to a plan
shall not deal with plan assets in his or her own interests or for his or her
own account. Section 406(b)(3) provides that a fiduciary with respect to a
plan shall not receive any consideration for his or her own personal account
from any party dealing with such plan in connection with a transaction involving
the assets of the plan.
With respect to the prohibitions in section 406(b), regulation 29 C.F.R. section
2550.408b-2(a) indicates that section 408(b)(2) of ERISA does not contain an
exemption for an act described in section 406(b) of ERISA (relating to conflicts
of interest on the part of fiduciaries) even if such act occurs in connection
with a provision of services which is exempt under section 408(b)(2).(9) As
explained in regulation 29 C.F.R. section 2550.408b-2(e)(1), if a fiduciary
uses the authority, control, or responsibility which makes it a fiduciary to
cause the plan to enter into a transaction involving the provision of services
when such fiduciary has an interest in the transaction which may affect the
exercise of its best judgment as a fiduciary, a transaction described in section
406(b)(1) would occur, and that transaction would be deemed to be a separate
transaction from the transaction involving the provision of services and would
not be exempted by section 408(b)(2). Conversely, the regulation
explains that a fiduciary does not engage in an act described in section 406(b)(1)
if the fiduciary does not use any of the authority, control, or responsibility
which makes such person 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 such fiduciary has an interest which may affect the exercise
of such fiduciary’s best judgment as a fiduciary.
In general, the provision of investment advice for a fee is a fiduciary act.
On the basis of the foregoing, it is the view of the Department that SunAmerica
would be acting as a fiduciary with respect to both the discretionary and nondiscretionary
asset allocation services provided to plans and plan participants and, as such,
would be subject to the fiduciary responsibility provisions of ERISA, including
sections 404 and 406. In this regard, SunAmerica would be responsible for the
prudent selection and periodic monitoring of its investment advisory services
consistent with the requirements of ERISA section 404.(10)
With respect to the prohibitions in section 406(b) of ERISA, it is the view
of the Department that, based on the facts and representations contained in
your submission, the individual investment decisions or recommendations (i.e.,
Asset Allocation Portfolios) provided or implemented under the Program would
not be the result of SunAmerica’s
exercise of authority, control, or responsibility for purposes of section 406(b)
and the applicable regulations. This conclusion is premised on the following
facts. First, Plan fiduciaries responsible for selecting the Program are fully
informed about, and approve, the Program and the nature of the services provided
thereunder, including the role of the Financial Expert. Second, the investment
recommendations provided to, or implemented on behalf of, participants are
the result of methodologies developed, maintained and overseen by a party (the
Financial Expert) that is independent of SunAmerica and any of its affiliates.(11)
The Financial Expert (an independent party) retains sole control and discretion
over the development and maintenance of the methodologies. Any computer programmers
engaged to formulate the computer programs used by the Financial Expert will
have no affiliation with SunAmerica. Recommendations provided to, or implemented
on behalf of, participants by SunAmerica will be based solely on input of participant information into computer programs
utilizing methodologies and parameters provided by the Financial Expert and
neither SunAmerica, nor its affiliates, will be able to change or affect the
output of the computer programs. SunAmerica will exercise no discretion over
the communication to, or implementation of, investment recommendations provided
under the Program. Third, the arrangement between SunAmerica and the Financial
Expert preserves the Financial Expert’s ability to develop Model Asset Allocation Portfolios solely in the interests
of the plan participants and beneficiaries. Neither the Financial Expert’s compensation from SunAmerica, nor any other aspect of the arrangement between
the Financial Expert and SunAmerica, is related to the fee income that SunAmerica
or its affiliates will receive from investments made pursuant to the Portfolios.
It is the view of the Department, therefore, that, to the extent that SunAmerica
follows the Program as structured in relation to an investment of Plan assets
in SunAmerica Funds, there would not be a per se violation of section 406(b)(1)
or (3) of ERISA solely as a result of SunAmerica’s,
or any affiliate’s, receipt of increased investment advisory fees resulting from such investments.
In view of this letter, the Department believes that no further action is necessary
with respect to your exemption application. Accordingly, your exemption application
is closed without further action. This letter constitutes an advisory opinion
under ERISA Procedure 76-1, 41 Fed. Reg. 36281 (Aug. 27, 1976). Accordingly,
this letter is issued subject to the provisions of that procedure, including
section 10 thereof, relating to the effect of advisory opinions.
Sincerely,
Louis Campagna
Chief, Division of Fiduciary Interpretations
Office of Regulations and Interpretations
Footnotes:
- Under
Reorganization Plan No. 4 of 1978, 43 Fed. Reg.
47713 (Oct. 17, 1978), the authority of the Secretary
of the Treasury to issue rulings under section
4975 of the Internal Revenue Code (Code) has been
transferred, with certain exceptions not here relevant,
to the Secretary of Labor. Therefore, the references
in this letter to specific sections of ERISA also
refer to the corresponding sections of the Code.
- The
Department expresses no views herein, and no views
should be implied, concerning the application of
ERISA section 404(c) to the Program or any participating
Plan or participant.
- The
asset allocation services under the Program also
may be available to beneficiaries who, under the
terms of their Plan, have the power to direct the
investments in their account balances. For purposes
of convenience, we refer only to participants.
- You
represent that the Program and Services will impose
no limit on the frequency with which a participant
may change his or her investment election. However,
there may be limits concerning such frequency under
the terms of a participating Plan.
- You
explain that, with respect to the Recommended Asset
Allocation Services, under circumstances where
a participating Plan permits participant input
such as direction to invest in assets other than
Designated Investments or to place ceilings or
floors on the percentages, or amounts, of Designated
or non-Designated Investments, the methodologies
followed by the Financial Expert, as described
below, may result in a portfolio, other than a
Model Asset Allocation Portfolio, that includes
non-Designated Investments. You refer to such portfolios,
along with the Model Asset Allocation Portfolios,
generally as “Asset Allocation Portfolios.”
- As
described below, an independent Plan fiduciary
will determine the investments that will be available
under the Plan.
- You
explain that the assets underlying the Designated
Investments may fall into more than one asset class,
and that in constructing a Model Asset Allocation
Portfolio, the Financial Expert will employ a statistical
method to determine the asset class exposure to
a participant of a Designated Investment’s investment approach.
- You
note that this process may be completed in a summary
manner where SunAmerica offers the Program along
with a range of SunAmerica Funds that will constitute
the Designated Investments. You also represent
that under no circumstances, except for Plans maintained
by SunAmerica and its affiliates, will SunAmerica
select investment alternatives to be made available
under a Plan. This letter addresses only participation
by Plans that are not maintained by SunAmerica
and/or its affiliates.
- We
express no opinion as to whether the requirements
of section 408(b)(2) of ERISA would be satisfied
with respect to the Program.
- The
Department notes that, with regard to the selection
and monitoring of the Financial Expert and SunAmerica’s investment advisory services, any consideration of the effect of investment
recommendations, or methodologies upon which such
recommendations are based, on the fees or other
compensation of SunAmerica or any of its affiliates,
would, in the view of the Department, be inconsistent
with a fiduciary’s obligations under section 404 of ERISA.
- Whether
a party is “independent” for purposes of the subject analysis will generally involve a determination
as to whether there exists a financial interest
(e.g., compensation, fees, etc.), ownership interest,
or other relationship, agreement or understanding
that would limit the ability of the party to carry
out its responsibility beyond the control, direction
or influence of the fiduciary. In this regard,
we note there have been other contexts in which
the Department dealt with this issue. Under Prohibited
Transaction Class Exemption 84-14, relief from
section 406(a) of ERISA was provided for transactions
between plans and parties in interest if approved
by a qualified professional asset manager (QPAM).
The party in interest could not be “related” to the QPAM - meaning such party in interest (or person controlling, or controlled
by, the party in interest) could not own a five
percent or more interest in the QPAM; or the QPAM
(or person controlling, or controlled by, the QPAM)
could not own a five percent or more interest in
the party in interest. Further, the plan with respect
to which the person was a party in interest could
not represent more than 20% of the assets that
the QPAM had under management at the time of the
transaction.
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