Trust Examination Manual
Section 5- Compliance/Account
Administration - Employee Benefit Accounts
Table of Contents
B. Scope of Bank Activity
C. Types of Benefits
D. Types of Plans
Benefit Pension Plans
Purchase Pension Plans
Stock Ownership Plans (ESOPs)
and Disadvantages of an ESOP
and Savings Plans
Savings Accounts (HSAs)
E. Self-Employed Retirement (KEOGH or
F. Individual Retirement Accounts
2. Types of
Trustee and Custodial Responsibilities
Custodial IRAs - Own Bank Deposits
Custodial IRAs - Non Bank Deposits
G. Savings Incentive Match Plan for
H. Compliance With the Employee
Retirement Income Security Act of 1974 (ERISA)
Covered/Not Covered by ERISA - ERISA Section 401
of Plan - ERISA Section 402
Requirements - ERISA Section 403
Responsibilities - ERISA Section 404
Examination Applications of Fiduciary Responsibility Provisions
Targeted Investments (ETIs or Social investing)
Plans - Employer Securities Investments - Prudence
Plans - Employer Securities Investments - Valuation
Account (Section 404(c)) Plans
Company Stock Investments
Voting and Corporate Governance
Liability - ERISA Section 405
and Delegation of Fiduciary Responsibility
Transactions - ERISA Section 406
Insiders - Party in Interest Defined
Transactions With Parties in Interest
Transactions With Fiduciaries
Transaction Liabilities of Non-Fiduciary Parties In Interest
Examination Applications of Prohibited Transaction Provisions
Executing Securities Transactions
to Common Borrowers - General
to Common Borrowers - Lending Limits
- Takeout Financing
- Own-Bank Origination and Servicing
(Residential), Investment in
Funds, Conversion from Collective Investment Funds (CIFs)
Funds, Investment in Proprietary (Own-Bank or Affiliated) and Advised
of Own Bank Employee Benefit Plans In Proprietary Mutual Funds
Funds, Receipt of 12b-1 Fees
and Interest-Free Loans
Professional Asset Managers (QPAMs) - Transactions With Investment Managers
Issued - Proceeds Used to Reduce Debt at a Party in Interest
(19). Soft Dollars
of Claims and Extensions of Credit
in Connection with Litigation
in Employer Securities and Real Property - ERISA Section 407 and 408(e)
Employer Real Property
of Employer Securities and/or Real Property
From Prohibited Transactions
and Individual Exemptions
Services Statutory Exemption
of Services by IRAs and Keogh Plans Exemption
Investment Funds (CIFs) Statutory Exemption
Interest-Bearing Statutory Exemption
Stock Ownership Plans (ESOPs) - Loans to Plans Statutory Exemption
to Plan Participants Statutory Exemption
Requirements for Loans to Plan Participants
Authorization and Conditions for Loans to Plan Participants
Statutory and Regulatory Requirements for Loans to Plan Participants
Protection Laws and Loans to Plan Participants
of Plan Sponsors
(2) Prior DOL
j. Alternative Execution Systems
k. Service Providers
l. Foreign Exchange Transactions
n. Inadvertent Prohibited Transactions
and Indemnification Provisions
I. Disclosures to employees and
J. Reporting to government agencies
Return/Report of Employee Benefit Plan (Form 5500)
Benefit Guarantee Corp (PBGC) Annual Premium Filing (Form PBGC-1)
K. Bank sponsored employee benefit
Treatment for ESOPs
- Permissibility vs. Prohibited Transactions
or Alienation of Plan Benefits
L. Compliance with state laws
Treatment for Multiple Employer Welfare Arrangements (MEWAs)
M. Compliance with the internal
N. Referrals of ERISA Violations to
the Department Of Labor (DOL)
O. Account Documentation and IRS
Documentation in General
Letter of Determination
P. Voluntary Correction Programs
Q. Catch-up Contributions
The field of employee benefits is one which applies to banks with or without
trust departments. Employee benefit plans are vehicles for which the benefits
promised by an employer are funded, administered, and provided to eligible
employees or members. Individual Retirement Accounts (IRAs) established by
individuals under certain provisions of the tax laws are also covered in this
Employee benefit plans represent a diverse field. Plans vary according to the
types of benefits provided, the manner in which plan assets are administered,
and the manner in which benefit amounts are provided to the
employees/participants and their beneficiaries. Every bank offers various types
of employee benefits to its employees and their beneficiaries. As such,
portions of the material in this section of the manual are relevant to every
bank supervised by the FDIC.
Bank trust departments may manage the bank's own employee benefit plan(s) for
its own employees. The trust department may perform the same services for the
bank's parent holding company and affiliates. In addition, the trust department
may service employee benefit plans sponsored by outside corporations, unions,
individuals, and government entities.
B. Scope of
A bank may serve in various capacities with respect to employee benefit
plans. For example, a bank may be appointed trustee or co-trustee
for a plan, or may accept an appointment as agent, custodian, depository, or
recordkeeper for a plan, or fulfill a combination of these duties. In
addition to the duties described above, a bank may also perform administrative
functions for a plan. The duties of the bank with respect to an employee
benefit account depend upon the governing plan documents and the written
documents, including trust and agency agreements, between the bank and the
sponsor of the employee benefit plan.
While banks provide various trust and agency services to employee benefit plans
sponsored by non-affiliated corporations, unions, government entities and
individuals, they often provide such services for own-bank or affiliated
institution plans. Since a bank is not required to obtain trust powers in
order to serve as trustee for its own-bank plans, many banks without trust
departments will also be subject to ERISA and Department of Labor
regulations. Therefore, the material covered in this section will be
applicable to banks that do not operate a trust or fiduciary services
Moreover, banks often serve as trustee or custodian for retirement benefit plans
established by individuals. The most common type of retirement plan
established by individuals is the Individual Retirement Account (IRA).
While retirement plans established by individuals are not subject to ERISA or
Department of Labor regulations, they are, due to their tax-advantaged status,
subject to various sections of the Internal Revenue Code and regulation by the
Internal Revenue Service. This section also covers IRA's and other
individual retirement plans, along with the applicable Internal Revenue Code
and IRS regulations governing such plans.
C. Types of Benefits
One way of describing various types of employee benefit plans is to reference
the types of benefits the plan provides. In general, there are two types of
benefits: retirement and welfare.
Retirement plan benefits generally arise when an employee is qualified to
retire, and often provide benefits to the employee's spouse and dependents.
Some retirement plans involve the deferral of income for periods extending to
the termination of employment, or beyond. Such plans usually cover key members
of management. Retirement plans involve a number of different types of plans
and funding arrangements. Although trust departments are generally more active
in the retirement benefits field, examiners need to be aware of the general
requirements for welfare benefit plans as well.
The term welfare benefits is used to describe non-retirement benefits. Welfare
benefits may involve health and life insurance, scholarships and education
assistance, day care centers, apprentice programs, prepaid legal services,
vacation and sick-leave programs, and all other non-retirement benefits.
D. Types of Plans
A second, and more common way of generically describing various types of
employee benefit plans involves the method used to determine how assets are
contributed to the plan. In this regard, there are two main types of pension
plans: defined benefit and defined contribution plans.
Most plans operated by private employers are offered, at least in part, because
contributions to the plan are tax deductible to the plan sponsor. In order to
be tax deductible, an employee benefit pension plan must meet certain minimum
standards and have certain provisions required by the Internal Revenue Service
(IRS). As the tax laws and regulations tend to change often, the specific
requirements, eligibility, conditions, and thresholds also are subject to
Employee Benefit Pension Plans
(based on Salary & Longevity)
(based on "Pay Credit" and "Interest credit")
Vested Account Balance
costly than traditional defined benefit plan
(+ Employer) Contributions
Defined Benefit Plans
A defined benefit plan is one which establishes a formula to define what the
participant (employee) is entitled to receive. The formula is usually based on
longevity and/or income. Most traditional pension plans use this approach,
which often provides greater benefits the longer the employee stays with the
plan sponsor. Employees/participants are entitled to the percentage of the
benefits established under the plan. This entitlement is termed "vesting."
D.1.a. Defined Benefit Pension Plans
In this approach, the benefit payment is defined. The participant is
entitled to whatever amount the formula results in, and has a claim against all
of the plan's assets for payment of the vested benefit. The plan sponsor
(employer or union) is responsible for ensuring that sufficient assets are in
the plan to pay those defined benefits. The most common type of defined benefit
plan is the traditional pension plan.
Pension plan benefits are generally paid out in the form of a life annuity
beginning at the participant's normal retirement date. Other methods of paying
benefits are installment payments and lump sum distributions, with options
sometimes given to the participant. The Pension Benefit Guarantee Corporation
(PBGC) insures the benefits of private defined benefit plans to the extent
provided in Title IV of ERISA.
In private plans, it is common for retirement benefits payable under the
pension plan to be set in conjunction with Social Security benefits. Benefits
calculated in this manner are said to be integrated with Social Security
retirement benefits. IRS regulations governing the integration of Social
Security benefits are complex and designed to prevent discrimination in favor
of highly paid employees.
Defined benefit plans are more expensive to administer and operate than defined
contribution plans. Defined benefit plans involve projecting a host of
variables to estimate the amount of benefits payable upon retirement and the
amount of assets that must be contributed today to fund those benefits in the
future. Actuaries are required to perform the projections. Due to the extra
costs involved, defined benefit plans have become less popular, with many
defined benefit plans terminated and replaced by defined contribution plans.
D.1.b. Cash Balance Plans
Another form of defined benefit plan is the "cash balance" plan. Cash
balance plans are similar to traditional defined benefit pension plans in that:
(a) they guarantee a specific benefit upon retirement which is not
dependent upon the plan's investment performance; (b) retirement
benefits are payable as an annuity with surviving spouse protection;
(c) employers must follow minimum funding policies under ERISA, and
(d) basic plan benefits are guaranteed by the PBGC up to limits set by
In recent years, this type of plan has become increasingly popular. Most of
these plans have emerged as conversions from overfunded traditional defined
benefit pension plans. Following conversion, plan assets remain intact. And
employers cannot remove overfunded assets unless the plan has been terminated
and full benefits under the terminated plan have been funded. Despite this
protection, some conversions by high profile employers have attracted media
attention. The focus of much of the attention, and controversy, surrounds
diminished benefits for employees with long years of service. Unless employers
take explicit steps to protect older employees with long company service,
conversions from traditional pension plans (whose benefits are largely
determined by years of service and final average pay) into cash balance plans,
may impact these employees negatively.
Cash balance plans differ from traditional defined benefit plans in that they
define benefits in terms of a stated "account balance," as opposed to a
specific monthly benefit for life under traditional defined benefit pension
plans. In this form of plan, employers credit a participant's account each year
with a "pay credit" (typically based on a percentage of compensation) plus an
"interest credit" (either a fixed rate, or a rate which is linked to an index,
such as the one year treasury bill rate). When a participant retires under a
cash balance plan, he or she is entitled to the balance of his or her vested
benefit (similar to a defined contribution plan), which may be taken as an
annuity or in a lump sum. This is opposed to retirements under traditional
defined benefit pension plans, where retirees are entitled to lifetime monthly
annuities based upon years of service and pay.
A transition device, called "wearaway," is
sometimes offered to employees with long service when traditional defined
benefit pension plans are converted to cash balance plans. Wearaway provides
employees the option of receiving the greater of their frozen benefit under the
phased out pension plan formula, or their total benefit under the cash balance
formula. Employees near early retirement age may accrue little or nothing for a
prolonged period under a cash balance plan until the phased out plan benefit is worn
away. This is because the value of the traditional pension plan benefit
may be far greater than future accruals under the cash balance plan.
Furthermore, beginning balances under the cash balance plan may be set lower
than the present value of the phased out plan's accrued benefit. This
serves to worsen the wearaway effect. Some employers temper the adverse
conversion impact on long service employees by:
(a) "grandfathering" them under the older plan's benefit
formula, (b) providing higher "pay credits," (c) setting
their opening balances higher, or (d) permitting employees to choose
between benefit formulas under the old or new plans.
Employer accruals under a typical cash balance plan remain relatively level,
increasing only slightly toward the end of an employee's career. Employer
accruals under a traditional defined benefit pension plan begin relatively low,
but increase sharply as an employee approaches retirement. This tends to make
cash balance plans less costly to fund and operate than traditional defined
benefit pension plans. Unlike traditional pension plans, cash balance plans
also typically eliminate early retirement options but permit participants to
receive retirement benefits in a lump sum, which can be rolled over into an IRA
or another employer's plan.
D.2. Defined Contribution Plans
A defined contribution plan is one which establishes a formula defining how much
the plan sponsor will contribute to the plan. The formula may be based on the
sponsor's profitability, on the amount of the participant's earnings, or on any
number of other factors or combinations. In some plans, the sponsor determines
the amount of contribution on a discretionary basis.
Profit sharing, employee stock ownership, thrift 401(k) and 403(b), Simplified
Employee Pension (SEP)-IRA, Salary Reduction SEP (SARSEP), Savings Incentive
Match Plan for Employees (SIMPLE), and other types of commonly encountered
plans use the defined contribution approach. As with defined benefit plans,
plan participants are entitled to their vested percentage of the benefits, as
established under the plan.
In this approach, the contribution is defined; the benefit payment is
not. The benefit amount is dependent on both the amount contributed and the
success of the investment results. Under this approach, the participant is
entitled only to the amount in his or her account, based on the varying amounts
contributed and the investment return. The participant has a claim only on the
assets of his or her account in the plan; there is no claim against all of the
plan assets belonging to other plan participants. The PBGC does not insure the
benefits of defined contribution plans.
In general, there are five basic types of plans or formulas for defined
contribution plans: profit sharing, money purchase pension, target benefit,
stock bonus, and employee stock ownership.
D.2.a. Profit Sharing Plans
A profit sharing plan is a qualified defined contribution plan which is also an
Individual account plan. These plans are subject to ERISA. Plan assets are
often invested wholly in the employer's stock. ERISA diversification
requirements are not generally violated so long as the plan or trust instrument
allows no more than 10% of the plan's assets to be invested in employer
securities, except as provided in Section 407(a) of ERISA. Such plans are
believed to foster productivity on the part of employees, who will own part of
There are two types of profit sharing plans: current or deferred plans. In a
current profit sharing plan, profits are paid directly to employees in cash,
check, or stock as soon as profits are determined. Deferred profit sharing
plans are more common. Deferred profit sharing plans are defined contribution
plans operating under a written plan and qualified under the Internal Revenue
Code (IRC) where the employer provides retirement benefits.
The employer's contribution to the plan each year can be either purely
discretionary (nothing at all, if the employer wishes) or based on some type of
predefined formula. If a formula is used, it typically relates the contribution
to the employer's profits. The term profit sharing plan implies that an
employer must have profits before any contributions are made to the plan.
However, this requirement was eliminated under the Tax Reform Act of 1986.
Contributions to profit sharing plans are not required to be based on an
employer's profits according to Section 401(a)(27)(A) of the IRC.
The plan must provide a definite predetermined formula for allocating the
contributions made to the plan among the participants. In addition, the plan
must provide a predetermined formula for distributing the fund accumulated
under the plan after a fixed number of years; attainment of a stated age; or
upon the prior occurrence of some event such as layoff, illness, disability,
retirement, death, or severance of employment.
Generally, contributions are allocated to participants in proportion to their
compensation with subsequent allocations reflecting future contributions
adjusted by the investment experience of the plan. Plan benefits consist of the
amount accumulated in each participant's account including: (1) employer
contributions, (2) forfeitures from other employee's accounts, and
(3) interest and capital gains. Many plans permit participants to borrow
against their vested interest in the plan.
D.2.b. Money Purchase Pension Plans
A Money Purchase Pension Plan (MPPP) is a defined contribution plan which is
also an Individual account plan. Employer contributions are usually determined
based upon a percentage of compensation for specific Individuals. As with the
profit sharing plan, benefits for each participant are derived from the amounts
contributed to each Individual account. Unlike a profit sharing plan,
forfeitures are not added to participants' accounts but are used to reduce the
Money purchase pension plans differ from profit sharing plans in a number of
MPPPs must state a definite formula or approach for employer contributions;
contributions may not be determined annually by the employer;
MPPPs are subject to minimum funding requirements of the IRC;
MPPPs must provide for a life annuity as a distribution option;
MPPPs have different deduction limitations under the IRC than profit sharing
MPPPs distributions are not permitted before retirement age, death, disability,
or termination of either the plan or employment.
D.2.c. Target Benefit Plans
Target benefit plans are intended to provide a target benefit to each
participant upon retirement. Employer contributions to each participant's
account are established through a defined benefit formula. The amount of the
contribution is determined by an actuary. The plan does not guarantee that the
target benefit will be paid at retirement; its only obligation is to pay
whatever can be provided by the amount in the participant's account depending
on the actual investment results achieved by the fund. A life annuity must be
one distribution option for the employee.
Target benefit plans are hybrids of a money purchase plan and a defined benefit
plan. Target benefit plans are Individual account plans because contributions
are allocated to each participant's Individual account.
D.2.d. Stock Bonus Plans
Stock bonus plans are identical to profit sharing plans and are usually
established to permit employees to share in the ownership of the business
and/or to reward meritorious service. Contributions, as with profit sharing
plans, are not necessarily based upon profits and the benefits are
distributable in cash or stock of the employer.
Generally, the plan must allow the participant to demand that the benefit be
distributed in employer securities. If employer stock is not traded on an
established market, the employee must have the right to require the employer to
repurchase the stock under a fair market value formula.
D.2.e. Employee Stock Ownership Plans
The information presented under this section will apply to both ESOPs sponsored
by the bank for its own employees, and ESOPs found in the bank's trust
department which are sponsored by different employers. In addition to the
material presented under this heading, examiners should also refer to the
(1) ESOP Plans - Employer Securities Investments -
Prudence; (2) ESOP Plans - Employer Securities Investments -
Valuation; and (3) ESOPs Loans to Plans - Section
408 Statutory Exemption.
The pertinent areas related to ESOPs are noted below:
D.2.e.(1). ESOPs, In General
An ESOP is an Individual account plan that is either a qualified stock bonus
plan or a combination qualified stock bonus and qualified money purchase plan.
ESOPs provide separate accounts for each participant. Benefits are based solely
on amounts contributed to each Individual account including attributable
income, expenses, gains and losses, and allocated forfeitures of other
participants' accounts. ESOPs are defined in
Section 407(d)(6) of ERISA,
Department of Labor (DOL) ERISA Regulation 2550.407d-6, and
Section 4975(e)(7) of
the IRC. See Appendix E.
Congress has provided a number of tax incentives to encourage the formation and
continuation of ESOPs. ESOPs operate primarily under IRS requirements but are
also subject to certain ERISA provisions. Since tax incentives impact
government revenues, the rules under which ESOPs operate are subject to change
by Congress and implementing IRS regulations. Some ESOPs which reflect various
statutory or regulatory approaches have special names: Tax Reform Act Stock
Ownership Plans (TRASOPs), Payroll-deduction Stock Ownership Plans (PAYSOPs),
Most ESOPs invest solely in the employer's stock. Since many companies are
either closely-held or have a very limited market for their stock, valuing the
stock can prove problematic and provide opportunities for abuse. The value of
the employer's stock greatly impacts the employee's eventual benefits.
In reviewing the administration of an ESOP's investments, the examiner must be
cognizant of the following facts pertaining to ESOPs. ESOPs:
As tax-qualified plans, ESOPs must follow applicable IRS requirements, in
addition to ERISA provisions. Except as otherwise indicated below,
IRS Regulation 54.4975-11 (see Appendix E) establishes most of the
following operational requirements for ESOPs. An ESOP must:
Be formally designated as an ESOP in the plan document.
Be designed to invest primarily in qualifying employer securities. For
leveraged ESOPs, investments are restricted to the employer's common stock or
convertible preferred stock; stock rights, warrants, and options are not
considered in the definition. For non-leveraged ESOPs, the definition also
includes marketable bonds, debentures, notes, and similar marketable debt
instruments of the employer.
The types of qualifying employer securities are covered by
DOL ERISA Regulation 2550.407d-5 defines the term qualifying. See
Value employer securities in accordance with both IRS and ERISA requirements.
The valuations affect purchases and sales of employer securities, market-value
reporting on the Annual Report (Form 5500), allocations to participants'
accounts, and distributions to participants.
ERISA Section 408(e)(1)
and DOL ERISA
Regulation 2550.408e require that transactions for employer
securities involve no more than
adequate consideration. This term is defined in
ERISA Section 3(18).
of IRS Regulation 54.4975-11 requires certain steps when valuing
employer securities by an ESOP. For securities traded on securities exchanges,
the quoted prices may be used. If the stock is publicly traded, no appraisal is
necessary. But if it is traded infrequently, an appraisal may still be needed.
In general, employer securities which are not readily tradable on an
established securities market must be valued by an independent appraiser.
Valuations must be made in good faith and based on all relevant factors:
In any transaction between the ESOP and a disqualified person, the value of the
securities must be determined as of the date of the transaction. In such
transactions, an independent appraisal, by itself, does not automatically equal
For all other transactions, values must be determined as of the most recent
valuation date under the plan. In such transactions, an independent appraisal
will generally be deemed to be a good faith determination of value.
Include a put option. IRC Section 401(a)(23) also states that, to be qualified,
a stock bonus plan must include a put option for securities that are not
With a put option, an employee who is entitled to a distribution from an ESOP
has the option of requiring the employer to repurchase employer securities from
the employee's Individual account in the plan. If the securities are not
readily tradable on an established market, the securities must be valued at a
reasonable fair market value. Through this arrangement, the employee receives a
cash distribution instead of an in-kind distribution of illiquid securities.
Include a suspense account for which assets are added to and maintained.
In addition, an ESOP must (1) pass voting rights through to participants
for those shares allocated to Individual accounts according to Security and
Exchange Commission (SEC) Regulation 240.14c-7 and (2) meet stringent
nondiscrimination tests as to employee participation according to IRS
ESOPs can acquire assets through: (1) an outright gift of cash or newly
issued common stock to the plan, (2) a thrift arrangement under which
employees contribute money (PAYSOPs), (3) a profit-sharing arrangement
where the employer's annual contribution is a percentage of profits, or
(4) a money purchase arrangement where a percentage of compensation is
contributed each year irrespective of profits. Most ESOPs; however, obtain
initial funding through loans and are termed leveraged ESOPs. Loans to
ESOP plans must comply with IRS and Labor Department requirements. Refer to the
Leveraged ESOPs caption below.
D.2.e.(2). Leveraged ESOPs
Since a majority of ESOPs are leveraged, the examiner needs to understand the
concept of a leverage ESOP and the conditions that apply. A corporation creates
an ESOP, alone or in addition to (sometimes referred to as piggyback) another
qualified retirement plan. The ESOP applies for a loan. The lender is usually
an independent third party, but it could be anyone, including a party in
interest such as the plan sponsor or the bank.
A number of conditions apply to such loans when the loan is with or guaranteed
by a party in interest. The ESOP loan should be primarily for the benefit of
participants and beneficiaries. Demand loans are not permitted and the loan
must be payable over a set period. Terms of the loan must be, at the time it is
made, at least as favorable to the ESOP as those of a comparable loan
negotiated at an arm's-length basis by independent parties. No more than a
reasonable rate of interest may be charged. While the loan may be unsecured,
most ESOP loans are secured. If collateral is given by the plan to a party in
interest, it may consist only of qualifying employer securities.
Leveraged financing may operate in two different ways. In the first way, the
company gives the lender a written guaranty promising that the ESOP will repay
the loan and that, each year, the employer will contribute to the ESOP
sufficient funds to permit the ESOP to make its annual repayment of the loan.
In the second way, the company borrows money from a bank and lends the money to
the ESOP under terms identical to those negotiated between the company and the
bank (mirror loan). After one of the financing options is chosen, the ESOP
takes the loan proceeds and purchases qualifying employer securities at a
reasonable price. Purchases must meet the conditions of ERISA
Section 408(e) to avoid violating prohibited transaction rules.
Company contributions to the ESOP, which are tax-deductible under IRC
Section 404, are used to pay off the loan. The employer's entire plan
contribution (used to pay back the loan) is deductible within the limits of the
IRC. If the employer borrowed the money directly, only the interest paid on the
loan, and not repayment of the principal, would be deductible. The payments
release a proportionate amount of securities from the loan's collateral. The
securities, which were held in a suspense account by the plan, can be allocated
among the plan participants as portions of the loan are paid off.
D.2.e.(3). Advantages and Disadvantages
of an ESOP
There are a number of factors that influence the decision to sponsor an ESOP.
Many of the considerations are tax-oriented. The plan sponsor, participating
employees, and other parties all derive various advantages and disadvantages
from the operation of an ESOP.
The employer's advantages include the fact that ESOPs are believed to foster
productivity on the part of employees who will own part of the company. An ESOP
may also provide a means of raising capital internally without resorting to
outside financing, which may be more expensive. If leverage for the ESOP is
necessary, the lender may offer a lower interest rate to the plan since
interest received on the loan may be non-taxable to the lender (see
to ESOPs). In addition, an ESOP may be used to convert a public company
to a private one or to resist an unwanted takeover. An ESOP used for such a
purpose is subject to, among other things, the fiduciary responsibility and
prohibited transaction provisions of Title I of ERISA, Protection of Employee
Operating an ESOP also offers the employer a number of tax advantages. Tax
deductions are available for stock or cash contributions to the plan, cash
dividends paid to plan participants, and dividends used to repay the loan.
Particularly noteworthy is that the employer's entire plan contribution (used
to pay back the loan) is deductible within IRC Section 404 limits.
Disadvantages for the employer involve the dilution of ownership and/or
control, and the difficulties and costs inherent in arriving at recurring fair
market valuations for thinly-traded securities.
The primary consideration for most employees is that contributions made by the
employer and accumulated earnings are tax-deferred. In addition, taxes on stock
appreciation, when the stock is distributed, may be deferred by rolling the
distribution over into an Individual Retirement Account (IRA). The fact that
ESOPs offer employees a stake in the employer corporation through stock
ownership has meant, in some situations, that employees have been able to save
their jobs by purchasing a company or production facility which was scheduled
One significant disadvantage is that the employee bears all investment risk. In
addition, the employee's investment is concentrated in one company's stock
performance and valuations for the employer stock may be difficult to achieve.
If the outlook for the employer's industry or for the employer itself is poor,
the employee's retirement benefits may be threatened. Ownership of marginal or
poorly managed companies, or those in declining industries, is of little value
to employees and no foundation for careful retirement planning. As with any
defined contribution plan, the employee's benefits are not insured by the PBGC.
When employees own stock in the employer, they exercise a certain amount of
control over the employer. However, their influence may be limited as most
ESOPs do not own a majority of the company's stock. Only shares allocated to
Individual accounts have voting rights. And, the allocation of stock to
Individual employees' accounts is a slow process in leveraged ESOPs. Voting
rights are fully passed through only in publicly traded companies; in non
publicly traded companies, only certain issues are voted on by participants. In
a number of instances where an ESOP was formed to permit employees to purchase
a facility from the employer, the employees owned a majority of the stock but
management controlled voting authority. In effect, the employees may have
little or no say in how the company they own is managed or operated.
To qualify for tax credit under IRC Section 409, ESOPs are required to pass the
following voting rights on to Individual accounts holding allocated shares. IRC
Section 409(e)(2) requires plans holding registered employer securities to
permit plan participants to direct the plan on how to vote allocated
securities. Where plans hold non-registered securities, IRC Sections
409(e)(3) and (5) require plans to permit plan participants to direct the plan
on how to vote allocated securities with respect to corporate matters, such as:
mergers, consolidations, recapitalization, reclassification, liquidation,
dissolution, sale of substantially all assets of a business, or similar
IRC Section 409(e) is located in Appendix E.
Lenders to ESOPs
Tax laws provide incentives for lenders to grant loans to ESOPs. Under IRC
Section 133, 50% of the interest the lender earns from an ESOP loan is
non-taxable income when certain conditions are met:
The ESOP owns at least 50% of each class of the outstanding stock of the
corporation issuing the stock (or 50% of all outstanding stock) immediately
after the acquisition (there are some limited additional provisions for
The term of the loan isn't for more than 15 years; and
The participants can direct the plan how to vote the shares allocated to their
Individual accounts and acquired with the exempt loan.
These loans carry normal credit risk to the lender; plan sponsors in weak
financial condition may involve more than normal credit risk. If the employer
is unable to make its contributions to the ESOP, the plan will be unable to
repay the lender. If the lender exercises its rights as a secured lender (the
employer stock collateral pledged by the ESOP and the employer guarantee), it
may wind up owning and operating the company.
Company Shareholder Considerations
Generally, if an ESOP exists, shareholders of the employer have a ready market
for their stock. In addition, if a shareholder sells his or her employer stock
to the ESOP, any unrealized gain may be deferred. The shareholder may elect not
to recognize the gain on the sale of stock to the ESOP if qualified replacement
property is purchased within the replacement period. Refer to IRC Section 1042
regarding the Sales of Stock to Employee Stock Ownership Plans or Certain
D.2.f. Thrift and Savings Plans
A thrift or savings plan is a defined contribution plan which is also a type of
Individual account plan. These plans are employer sponsored and employee
participation is normally voluntary. The plans permit the employee to make
contributions, usually established as a percentage of pay. Employers normally
make matching or partially matching contributions.
In many thrift and savings plans, employees can direct their plan assets into
several pre-selected investment vehicles. Many corporate plans include employer
stock as one of the investment options for these plans. An advantage to a plan
where the employee decides how to invest funds in his or her plan account is
that there is a reduced fiduciary liability for both the plan sponsor and any
bank trustee. Self-directed thrift plans must generally comply with the
requirements of DOL ERISA
This is discussed further in
subsection H.5.c.(6), Individual Account (Section 404(c))
Most thrift and savings plans are tax-qualified. Section 401(k) of the
IRC, which originally was added in 1978, permits employers to establish
tax-qualified cash or deferred profit sharing or stock bonus plans. Under such
plans, taxes on amounts contributed by both the employer and the employee, as
well as accumulated earnings are deferred. With a salary reduction-type
arrangement, the employees receive less current cash income and pay
correspondingly lower Federal income taxes. Essentially, what a salary
reduction plan accomplishes is to permit employees to provide for their own
retirement with pre-tax dollars, rather than after-tax dollars.
To qualify for the mentioned tax benefits, the IRS requires the plan document
to cover a number of specific areas. Among these are nondiscrimination in
eligibility for the plan, and provisions to assure that executives and
highly-paid employees do not receive preferential treatment. Vesting,
withdrawals, participant loans, distribution of benefits, and other
requirements must be met. The IRS rules governing these matters are complex and
are primarily a concern for the plan sponsor, not a bank fiduciary.
D.2.g. Welfare Benefit Plans
The more common types of employee welfare benefit plans and the related benefits
Health Plans which provide for hospital expenses, diagnostic X-ray and
laboratory fees, surgical and medical fees, medicine and drugs, major medical
insurance, accidental death and dismemberment, and life insurance benefits.
Such plans may also provide for dental care, visual care, psychiatric care, and
preventive medical examinations.
Disability Plans which normally provide benefits during periods of
inability to work because of physical incapacity from illness or injury.
Vacation and Holiday Plans which provide cash benefits to cover time
off for vacation purposes.
Apprenticeship, Educational, and Similar Plans which provide funds for
retraining Individuals in the event of termination of a job in a particular
industry, provide an opportunity to expand skills to improve job performance,
or take on new responsibilities within or outside of the company.
Multiple Employer Welfare Arrangements (MEWAs) which permit a pooling
of employer contributions to purchase health insurance for their employees at
favorable rates. Problems can arise because some suppliers offer attractively
priced but unfunded "insurance-like" products without complying with
state insurance laws. These suppliers claim their products are employee benefit
"plans" and are, therefore, preempted from state insurance laws by
ERISA. In doing so, they attempt to avoid state regulation and insurance
reserve requirements. The following rules apply: (1) when a MEWA is covered by
ERISA and fully insured (which rarely happens), state insurance laws may apply
to the extent they provide specified levels of reserves and contributions to
pay future benefits; (2) when a MEWA is covered by ERISA and not fully insured,
any state insurance law "not inconsistent" with ERISA may also apply;
(3) when a MEWA is not covered by ERISA, no preemption can be claimed. Refer to
subsection L, Compliance with State Laws for
additional comment on state law and MEWAs. [The term MEWA is defined for
purposes of Title I of ERISA in
Section 3(40)(A); section 514(b)(6) of ERISA addresses the issue of
presumption with respect to MEWAs.]
Most single employer welfare plans are either insured plans or unfunded plans.
The insured plans typically provide medical and/or life insurance. The unfunded
benefit plans most common for single employers are vacation and sick leave
plans. The establishment of a single trust, to which contributions are made and
from which benefits are paid, normally involves multiple employer plans.
Occasionally larger corporations may provide medical and life benefits on a
self-insured basis. In these instances, a trust to which annual contributions
are made may be established.
Since welfare benefits are normally included in group insurance programs, an
examiner will infrequently encounter a trust department acting as trustee of a
welfare benefit plan. However, trusteed welfare benefit plans are subject to
the various provisions of ERISA in the same manner as pension benefit plans.
Thus, when encountered in trust departments there must be a plan and trust
document which defines the manner of contribution, provides the basis for
payment of benefits, and describes the manner in which such plan funds are to
Plan Program facilitates the termination of, and distribution
of benefits from, individual account pension plans that have been
abandoned by their sponsoring employers. The program was established
pursuant to three final regulations and a related class exemption
and is administered by Employee Benefits Security Administration
national and regional offices.
business events, such as bankruptcies,
mergers, acquisitions, and other
similar transactions affecting the status of an employer,
too often result in employers,
particularly small employers, abandoning
their individual account pension plans (e.g., 401(k) plans). When
this happens, custodians such
as banks, insurers, mutual fund
companies, etc. are left holding the assets of these abandoned
plans but do not have the authority
to terminate such plans and make
benefit distributions – even in response to participant
demands. In these situations, participants and beneficiaries have
great difficulty accessing the benefits they have earned. In response,
the Labor Department’s Employee Benefits Security Administration
(EBSA) has developed rules to facilitate a voluntary, safe and
efficient process for winding up the affairs of abandoned individual
account plans so that benefit distributions are made to participants
and beneficiaries. Information about the program is available
under the Abandoned Plan Program section of EBSA’s Web
site at www.dol.gov/ebsa.
The regulations, 29
CFR Parts 2550 and 2578, establish standards for determining
when a plan is abandoned, simplified
procedures for winding up the
plan and distributing benefits
to participants and beneficiaries,
and provide guidance on who may
initiate and carry out the winding-up process.
A plan generally
will be considered abandoned if no contributions to or distributions
from the plan have been made for a period of at least 12 consecutive
months and, following reasonable efforts to locate the plan sponsor,
it is determined that the sponsor no longer exists, cannot be
located, or is unable to maintain the plan.
Only a qualified
termination administrator (QTA)
may determine whether a plan is abandoned under the regulations.
To be a QTA, an entity must hold the plan’s assets and be
eligible as a trustee or issuer of an individual retirement plan
under the Internal Revenue Code (e.g., bank, trust company, mutual
fund family, or insurance company).
and Winding-Up Process
establish specific procedures that QTAs must follow, including:
EBSA prior to, and after, terminating
and winding up a plan.
and updating plan records.
benefits payable to participants
participants and beneficiaries
of the termination, their rights
benefits to participants and
a summary terminal report.
A QTA is not
required to amend a plan to accommodate the termination.
include model notices that the QTA may use.
Safe Harbor for Missing Participants
establish a fiduciary safe harbor for distributions from terminating
individual account plans (whether or not abandoned) on behalf
of missing participants.
In most cases,
the account of a missing participant will be transferred directly
to an individual retirement plan. In some cases, accounts of $1,000
or less may be distributed to a bank account or state unclaimed
property fund on behalf of the missing participant.
QTAs that follow
the regulations will be considered generally to have satisfied
the prudence requirements of ERISA with respect to winding-up
A QTA does
not have an obligation to conduct an inquiry or review to determine
whether or what breaches of fiduciary responsibility may have
occurred with respect to a plan prior to becoming the QTA for
A QTA is not
required to collect delinquent contributions on behalf of the
plan, provided that the QTA informs EBSA of known delinquencies.
than one entity may be holding assets of a plan, the regulations
provide a safe harbor for other asset custodians who cooperate
with the QTA.
provide annual reporting relief, under which QTAs are not responsible
for filing a Form 5500 Annual Report on behalf of an abandoned
plan, either in the terminating year or any previous plan years;
but the QTA must complete and file a summary terminal report at
the end of the winding-up process.
on how to file the terminal report will be available under the
Abandoned Plan Program section of EBSA’s Web site at www.dol.gov/ebsa.
the regulations is a class exemption,
2006-06 (116KB PDF file - PDF Help), that provides
conditional relief from ERISA’s prohibited
would cover transactions where the QTA selects and pays itself:
services rendered prior to
becoming a QTA.
provide services in connection
with terminating and winding
up an abandoned plan.
distributions from abandoned
plans to IRAs or other accounts
maintained by the QTA resulting
from a participant’s
failure to provide direction.
D.4. Health Savings Accounts (HSAs)
Accounts (HSAs) were created on December 8, 2003 under Title
XII of the Medicare Prescription
Drug, Improvement and Modernization
Act of 2003," (MPDIMA of 2003) and updated under Title
III of the Tax Relief and Health
Care Act of 2006 (TRHCA of
HSAs are tax-exempt trusts or custodial accounts created exclusively
to pay for the qualified medical expenses of the account holder
and his or her spouse and dependents. Individuals with a high
deductible health plan (and no
other health plan other than a plan that provides certain permitted
coverage) may establish an HSA. However, individuals who may
be claimed as a dependent on another person’s tax return
are not eligible to open an HSA. HSAs provide tax-favored treatment
for current medical expenses as well as the ability to save on
a tax-favored basis for future medical expenses. Within limits,
contributions to an HSA made by or on behalf of an eligible individual
are deductible by the individual. Where
the establishment of an HSA is voluntary on the part of an employee,
and the employer does not influence or limit the investment or
use of HSA funds, the HSA does not constitute "employee
welfare benefit plans" for purposes of Title I of ERISA. Individuals
may make tax deductible contributions to the HSA even if they
do not itemize deductions; the individual’s employer can
make contributions that are not taxed to either the employer or
the employee; and, employers sponsoring cafeteria plans can allow
employees to contribute untaxed salary through salary reduction.
Individuals age 55 and older are also allowed to make additional
catch-up contributions to their HSAs. Furthermore,
certain credits on behalf of the individual by plan sponsors are
permissible and not viewed as a prohibited
transaction under ERISA or the Code. Amounts contributed to
an HSA belong to the account
holder and are portable. Earnings on HSAs are not taxable, and
can grow tax-free through investment
earnings. Unlike amounts in Flexible
Spending Arrangements that are forfeited if not used by the end
of the year, unused funds
remain available for use in later
years. Distributions from an HSA for qualified medical expenses are
not includible in gross income. However, distributions from an
HSA which are not used for qualified medical expenses are includible
in gross income and subject to an additional 10 percent tax. The
additional tax does not apply if the distribution is made after
death, disability, or the individual attains the age of 65. After
an individual has attained age 65 and becomes enrolled in Medicare
benefits, contributions cannot be made to an HSA.
high deductible health plan
is a health plan that, for
2007, has a deductible that
is at least $1,100 for self-only
coverage or $2,200 for family
coverage and that has an out-of-pocket
expense limit that is no more
than $5,500 in the case of
self-only coverage, and $11,000
in the case of family coverage.
Out-of-pocket expenses include
deductibles, co-payments, and
other amounts (other than premiums)
that the individual must pay
for covered benefits under
the plan. A plan is not a high
deductible health plan if substantially
all of the coverage is for permitted
coverage or coverage that
may be provided by permitted
insurance. A plan does
not fail to be a high deductible
health plan by reason of failing
to have a deductible for preventive
insurance is: (1) insurance
if substantially all of the
coverage provided under such
insurance relates to (a) liabilities
incurred under worker’s
compensation law, (b) tort
liabilities, (c) liabilities
relating to ownership or use
of property (e.g., auto insurance),
or (d) such other similar liabilities
as the Secretary of Treasury
may prescribe by regulations;
(2) insurance for a specified
disease or illness; and (3)
insurance that provides a fixed
payment for hospitalization.
coverage is coverage (whether provided through insurance or otherwise)
for accidents, disability, dental care, vision care, or long-term
spending arrangement (“FSAs”) and health reimbursement
arrangements (“HRAs”) are health plans that constitute
other coverage under the HSA rules. An individual who is covered
by a high deductible health plan and a health FSA, or HRA, is
generally not eligible to make contributions to an HSA. An individual
is eligible to make contributions to an HSA if the health FSA
or HRA is: (1) a limited purpose health FSA or HRA; (2) a suspended
HRA; (3) a post-deductible health FSA or HRA; or (4) a retirement
of and Limits on Contributions
to an HSA by or on behalf of an eligible individual are deductible
(within limits) in determining adjusted gross income. In addition,
employer contributions to HSAs (including salary reduction contributions
made through a cafeteria plan) are excludable from gross income
and wages for employment tax purposes. In the case of an employee,
contributions to an HSA may be made by both the individual and
the individual’s employer. All contributions are aggregated
for purposes of the maximum annual contribution limit. Contributions
to Archer MSAs (medical savings accounts for self-employed individuals
and employees of small employers with 50 or fewer employees) reduce
the annual contribution limit for HSAs. The maximum aggregate
annual contribution that can be made to an HSA is the lesser of
(1) 100 percent of the annual deductible under the high deductible
health plan, or (2) (for 2007) $2,850 for self-only coverage and
$5,650 for family coverage. The annual contribution limit is the
sum of the limits determined separately for each month, based
on the individual’s status and health plan coverage as of
the first day of the month. The annual contribution limits are
increased for individuals who have attained age 55 by the end
of the taxable year. In the case of individuals and covered spouses
who are age 55 or older, the HSA annual contribution limit is
increased by catch-up contributions of $700 in 2006, $800 in 2007,
$900 in 2008, and $1,000 in 2009 and thereafter. As in determining
the general annual contribution limit, the increase in the annual
contribution limit for individuals who have attained age 55 is
also determined on a monthly basis. Contributions, including catch-up
contributions, cannot be made once an individual is enrolled in
Medicare. In the case of individuals who are married and either
spouse has family coverage, both spouses are treated as having
only the family coverage with the lowest annual deductible. The
annual contribution limit (without regard to the catch-up contribution
amounts) is divided equally between the spouses unless they agree
on a different division (after reduction for amounts paid from
any Archer MSA of the spouses). An excise tax applies to contributions
in excess of the maximum contribution amount for the HSA. The
excise tax generally is equal to six percent of the cumulative
amount of excess contributions that are not distributed from the
HSA. Amounts can be rolled over into an HSA from another HSA or
from an Archer MSA.
306 of the TRHCA of 2006 requires employers to make available
comparable contributions on behalf of all employees with comparable
coverage during the same period. Contributions are considered
comparable if they are either of the same amount or the same
percentage of the deductible under the plan. If employer contributions
do not satisfy the comparability rule during a period, then
the employer is subject to an excise tax equal to 35 percent
of the aggregate amount contributed by the employer to HSAs
for that period. The comparability rule does not apply to contributions
made through a cafeteria plan.
from an HSA for "qualified
medical expenses" of the individual and his or her spouse
or dependents are excludable from gross income. Qualified medical
expenses include expenses for diagnosis, cure, mitigation, treatment,
or prevention of disease. Qualified medical expenses do not include
expenses for insurance other than for (1) long-term care insurance,
(2) premiums for health coverage during any period of continuation
coverage required by Federal law, (3) premiums for health care
coverage while an individual is receiving unemployment compensation
under Federal or State law, or (4) health insurance premiums for
Medicare, other than premiums for Medigap policies. Qualified
health insurance premiums include Medicare Part A and Part B premiums,
Medicare HMO premiums, and the employee share of premiums for
employer-sponsored health insurance. Distributions from an HSA
that are not for qualified medical expenses are includible in
gross income. Distributions includible in gross income also are
subject to an additional 10 percent tax unless made after death,
disability, or the individual attains the age of 65.
Spending Arrangements and Health Reimbursement Arrangements
commonly used by employers to reimburse medical expenses of their
employees include health flexible spending arrangements (“FSAs”)
and health reimbursement accounts (“HRAs”). Health
FSAs are typically funded on a salary reduction basis. If the
health FSA meets certain requirements, the compensation that is
forgone is not includible in gross income and reimbursements for
medical care from the health FSA are excludable from gross income
and wages. Health FSAs are subject to the general requirements
relating to cafeteria plans, including a requirement that a cafeteria
plan generally may not provide deferred compensation. This requirement
is referred to as the “use-it-or lose-it-rule.” Until
May of 2005, this requirement was interpreted to mean that amounts
available from a health FSA as of the end of a plan year must
be forfeited by the employee. In May 2005, the Treasury Department
issued a notice that allows a grace period not to exceed two and
one half months immediately following the end of the plan year
during which unused amounts may be used. An individual participating
in a health FSA that allows reimbursements during a grace period
is generally not eligible to make contributions to the HSA until
the first month following the end of the grace period even if
the individual's health FSA has no unused benefits as of the end
of the prior plan year. HRAs operate in a manner similar to health
FSAs, in that they are an employer maintained arrangement that
reimburses employees for medical expenses. Some of the rules applicable
to HRAs and health FSAs are similar, e.g., the amounts in the
arrangements can only be used to reimburse medical expenses and
not for other purposes. Some of the rules are different. For example,
HRAs cannot be funded on a salary reduction basis and the use-it-or
lose-it rule does not apply. Rather, amounts remaining at the
end of the year may be carried forward to be used to reimburse
medical expenses in the next year. Reimbursements for insurance
covering medical care expenses are allowable reimbursements under
an HRA, but not under a health FSA. Subject to certain limited
exceptions, health FSAs and HRAs constitute other coverage under
the HSA rules.
from Health FSAs and HRAs into HSAs for a Limited Time
302 of the TRHCA of 2006 permits certain amounts in a health
FSA or HRA to be distributed
from the health FSA or HRA
and contributed through a direct
transfer to an HSA without
violating the requirements
for such arrangements. The
amount that can be distributed
from a health FSA or HRA and
contributed to an HSA may not
exceed an amount equal to the
lesser of (1) the balance in
the health FSA or HRA as of
September 21, 2006 or (2) the
balance in the health FSA or
HRA as of the date of the distribution.
Amounts contributed to an HSA
under this section are excludable
from gross income for tax purposes,
are not taken into account
in applying the maximum deduction
limitation for other HSA contributions,
and are not deductible. Contributions
must be made directly to the
HSA before January 1, 2012.
The rollover is limited to
distribution with respect to
each health FSA or HRA of the
individual. This provision
was designed to assist individuals
in transferring from another
type of health plan to a high
deductible health plan. If
an individual for whom a contribution
is made under the provision
does not remain an eligible
individual during the "testing
period," the amount of the contribution is includible
in gross income of the individual.
An exception applies if the
employee ceases to be an eligible
individual by reason of death
or disability. The amount is
includible for the taxable
year of the first day during
the testing period that the
individual is not an eligible
individual. A 10 percent additional
tax applies to the amount includible.
A modified comparability rule
applies with respect to contributions
under the provision. If the
employer makes available to
any employee the ability to
make contributions to the HSA
from distributions from a health
FSA or HRA under this section,
all employees who are covered
under a high
deductible plan of the employer
must be allowed to make such
distributions and contributions.
The IRS issued guidance regarding
rollovers from FSAs and HRAs
into HSAs. See Internal
Revenue Service Notice 2007-22.
Certain FSA Coverage Treated as Disregarded Coverage
302 of the TRHCA of 2006 provides that, for taxable years
beginning after December 31, 2006, coverage under a health flexible
spending arrangement (“FSA”) during the period immediately
following the end of a plan year during which unused benefits
may be paid or reimbursed to plan participants for qualified
expenses is disregarded coverage. Such
coverage is disregarded if (1) the balance in the health FSA
at the end of the plan year is zero, or (2) the entire remaining
balance in the health FSA at the end of the plan year is contributed
to an HSA.
Repeal of Annual Plan Deductible Limitation on HSA Contribution Limitation
303 of the TRHCA of 2006 modifies the limit on the annual
deductible contributions that can be made to an HSA. The maximum
deductible contribution is not limited to the annual deductible
under the high deductible health plan. The maximum aggregate
annual contribution that can be made to an HSA in 2007 is $2,850
for self-only coverage and $5,650 family coverage.
Indexing of Cost of Living Adjustments
304 of the TRHCA of 2006 provides that for adjustments made
for any taxable year beginning after 2007, the Consumer Price
Index for a calendar year will be determined as of the close
of the 12-month period ending on March 31 of the calendar year
for the purpose of making cost-of-living adjustments for the
HSA dollar amounts that are indexed for inflation ( contribution
limits and high-deductible health plan requirements).
for Months Preceding Month that Taxpayer is an Eligible Individual
305 of the TRHCA of 2006 allows individuals who become covered
under a high deductible plan in a month other than January to
make the full deductible HSA contribution for the year. An individual
who is an eligible individual during the last month of a taxable
year is treated as having been an eligible individual during
every month during the taxable year for purposes of computing
the amount that may be contributed to the HSA for the year.
For the months preceding the last month of the taxable year
that the individual is treated as an eligible individual solely
by reason of this section, the individual is treated as having
been enrolled in the same high deductible health plan in which
the individual was enrolled during the last month of the taxable
year. If an individual makes contributions permitted by section
305 but does not remain an eligible individual during the "testing
period," the contributions preceding the month in which
the individual was an eligible individual are includible in
gross income. An exception applies if the employee ceases to
be an eligible individual by reason of death or disability.
period" is the period beginning with the last month
of the taxable year and ending on the last day of the 12th month
following such month. The amount is includible for the taxable
year of the first day during the testing period that the individual
is not an eligible individual. A 10-percent additional tax applies
to the amount in question.
Employer Comparable Contribution Requirements for Contributions Made to Nonhighly
306 of the TRHCA of 2006 provides an exception to the comparable
contribution requirements which allows employers to make larger
HSA contributions for nonhighly compensated employees than for
highly compensated employees. Highly compensated employees are
defined as under section 414(q) and include any employee who
was (1) a five-percent owner at any time during the year or
the preceding year; or (2) for the preceding year, (A) had compensation
from the employer in excess of $100,000 (for 2007) and (B) if
elected by the employer, was in the group consisting of the
top 20 percent of employees when ranked based on compensation.
The comparable contribution rules continue to apply to the contributions
made to nonhighly compensated employees so that the employer
must make available comparable contributions on behalf of all
nonhighly compensated employees with comparable coverage during
the same period.
Rollovers from IRAs into HSAs
307 the TRHCA of 2006 permits a one-time contribution to
an HSA of amounts distributed
from an individual retirement
The contribution must be made
in a direct trustee-to-trustee
transfer. Amounts distributed
from an IRA under this section
are not includible in income,
and are not subject to the 10
percent tax on early distributions.
The amount that can be distributed
from the IRA and contributed
to an HSA is limited to the
maximum deductible contribution
to the HSA computed on the
basis of the type of coverage
under the high deductible health
plan at the time of the contribution.
The amount that can otherwise
be contributed to the HSA for
the year of the contribution from
the IRA is reduced by the
amount contributed from the
IRA. No deduction is allowed
for the amount contributed
from an IRA to an HSA. Only
one distribution and contribution
may be made during the lifetime
of the individual. However, if a distribution
and contribution are made during
a month in which an individual
has self-only coverage as of
the first day of the month,
an additional distribution
and contribution may be made
during a subsequent month within
the taxable year in which the individual has
family coverage. The limit
applies to the combination
of both contributions. If the
individual does not remain an eligible
individual during the "testing
period," the amount of the distribution and contribution
is includible in gross income.
An exception applies if the
employee ceases to be an eligible
individual by reason of death
or disability. The amount is
includible for the taxable
year of the first day during the testing period
that the individual is not
an eligible individual. A 10-percent
additional tax applies to the
amount in question. Section 307 does
not apply to simplified employee
or to SIMPLE retirement accounts.
The IRS issued guidance on
this matter in the form of
Notice on March 5, 2007.
Guidance Regarding HSAs
The DOL has
issued gudiance on several issues
concerning HSA and the application
of ERISA and the Internal Revenue
Code to HSAs. In 2004, the DOL
issued Field Assistance
Bulletin 2004-01 which addressed the application
of ERISA to HSAs established
in connection with employment.
DOL expanded on this guidance
by issuing Q&As in Field
Assistance Bulletin 2006-02. In addition, in 2004, DOL issued
Advisory Opinion 2004-09A,
which addresses the application of
the prohibited transaction provision
of IRC Section 4975 to certain
contributions to HSAs.
E. Self-Employed Retirement (KEOGH or
Self-employed Individuals are permitted to establish tax-qualified pension and
profit sharing plans for themselves and their employees. A self-employed
Individual is a sole proprietor or partner who works in his or her
unincorporated business. Such arrangements are normally designated as Keogh or
HR-10 plans, trusts, or accounts. Sometimes Keogh accounts are termed
Self-Employed Retirement Plans (SERPs). Keogh plans are generally comparable to
corporate-sponsored defined contribution plans that are Individual account
There are specific provisions in the IRC covering Keogh accounts. Only
self-employed Individuals may deduct contributions to a Keogh plan.
Participants may be permitted to make nondeductible contributions to a plan in
addition to employer contributions. Even though these employee contributions
may not be deductible, the earnings on them and the contributions by the
employer are tax deferred until the Individual begins retirement withdrawals.
Retirement withdrawals may commence upon attainment of age 59 1/2 but
must commence by the end of the calendar year in which the Individual attains
age 70 1/2. The owner-employee may contribute up to 25% of the first
$150,000 of earned income or $30,000, whichever is less. In addition, the IRC
requires that contributions, in the same percentage of compensation as for the
owner-employer, be made on behalf of common law employees with three or more
years of service. Plan participants rarely direct their own investments.
In self-employed retirement plans, the contribution is defined but the
benefit payment is not. Benefits are subject to both the amount contributed and
the success of the investment results. Under this approach, the participant is
entitled only to the amount in his or her account, based on the varying amounts
contributed and the investment return. The participant has a claim only on the
assets of his or her account in the plan; there is no claim against all of the
plan assets belonging to other plan participants. The PBGC does not insure the
benefits of defined contribution plans. IRS Publication 560, Retirement Plans
for the Self-Employed, provides more detailed information on both defined
benefit and defined contribution Keogh plans.
A bank may serve as a trustee or custodian for Keogh or HR-10 plans. As
trustee, the bank's responsibilities may range from ministerial functions to
the exercise of broad discretionary duties. As custodian, responsibilities are
essentially ministerial in nature. In either case, the bank's responsibilities
will be governed by the instrument and ERISA.
Keogh accounts which cover only the owner-employer, and no other employees, are
subject to compliance with the prohibited transaction provisions of
Section 406 and the parallel
IRC Section 4975 (refer to
subsection H.7, Prohibited Transactions - ERISA
Keogh accounts which cover both the owner-employer and other employees are
subject to ERISA
Sections 404 and
406, covering fiduciary responsibility and prohibited transactions
(refer to subsection H.7,
Prohibited Transactions - ERISA Section 406).
Section 408(m) indicates that if self-directed and Individual
account plans invest in collectibles, the investment will be treated as a
distribution. Collectibles include: stamps, coins, artwork, gems, antiques,
etc. An exception is made for U.S. American Eagle gold coins, which are
permissible investments (refer to
A bank may accept non-deposit self-directed Keogh custodial accounts without
trust powers under Section 333.101(b) of the FDIC's Rules and Regulations,
if the appropriate state authority also permits such accounts to be accepted
without trust powers. Despite the fact that trust powers are not needed, banks
accepting such accounts must implement appropriate controls. Refer to
Section 2, subsection O, Self-Directed IRAs and Keogh Accounts.
Examiners should also be aware that Keogh accounts may not normally be invested
in Collective Investment Funds (CIFs) without violating Federal securities
laws. There are a few approaches where collective investments are possible, but
with many restrictions. Refer to
Section 7, subsection D.1, Keogh Account Usage Of Collective Investment Funds.
Under certain conditions, banks may offer beneficiaries of Keogh accounts
reduced or no cost banking services, refer to
5, subsection H.9.c. Receipt of Services by IRAs and Keogh Plans.
F. Individual Retirement Accounts
As tax laws change, the types of IRA and the conditions affecting their
availability and operation change. An IRA is a personal savings plan that
offers a person tax advantages to set aside money for retirement. Two
advantages for the individual include that they may be able to deduct
contributions to the IRA in whole or in part, and generally, earnings and gains
are not taxed until retirement distributions commence. Tax qualification for
IRAs is achieved pursuant to IRC Section 408.
(Note: Traditional IRAs are IRAs which are
neither Roth IRAs nor SIMPLE IRAs.)
In 2003 and 2004, an individual may contribute the lesser of $3,000 ($3,500 if
the individual reached age 50 before 2004) or taxable compensation into an
An individual and a non-working spouse (a one-income couple) are limited to
$6,000 per year in contributions ($3,000 each to a Traditional IRA and a
Spousal IRA). This limit increases to $6.500 if one individual reached
age 50 before 2004, or $7,000 if both reached 50 before 2004. The amount
contributed is deductible on the Individual's tax return. IRA contributions
must end in the year the participant turns 70 1/2.
IRA deductibility for Federal income tax purposes is limited based on income
tax filing status, the amount of earned income, and/or coverage of the
participant or spouse by an employer-sponsored retirement plan(s). Even if
Individuals cannot take a full deduction because of one of the limitations
described above, they may still contribute up to the maximum amount permitted in
the current year (refer to IRS Publication 590 for detailed information
pertaining to IRA contributory and deductibility limits, these limits are
subject to change). Retirement withdrawals may commence upon
attainment of age 59 1/2, but must commence by the end of the calendar year in
which the Individual attains age 70 1/2.
Under certain conditions, banks may offer beneficiaries of IRAs reduced or no cost banking
services, refer to
subsection H.9.c. Receipt of Services by IRAs and Keogh
IRS Publication 590, Individual Retirement Arrangements provides further information on IRAs.
IRS Interpretive Letter EP:R:9 - Valuation of IRA Assets to Partnership
Valuations, Inc. is located in Appendix E.
IRS Revenue Ruling 59-60
- Valuation of Non-Traded Assets, in Appendix E also provides
general guidance on valuing non-traded assets.
F.1. Operating/Filing Requirements
The IRS requires all IRAs to operate under either one of two versions of IRS
Form 5305, or under a written agreement which incorporates the provisions
of either of the versions of this form. The two forms are identical except for
the interchangeability of the terms trust and custodian throughout the forms.
As custodian, responsibilities are essentially ministerial in nature.
The examiner should note:
Under IRC Section 408(h) - bank custodians of IRAs are considered trustees,
Under IRC Section 408(i) - IRA trustees are required to report contributions,
distributions, and other matters required by regulation (including the fair
market value of assets) to the IRS and the IRA owner on an annual basis. As the
value of some types of assets, such as limited partnerships, is not easily
ascertainable, the administration of some IRA accounts can be problematic.
In a 2-24-93 letter to Partnership Valuations, Inc.,
Annapolis, Maryland, the IRS indicated that trustees of IRAs were responsible
for ensuring that IRA assets are properly valued on an annual basis, including
assets which are "hard to value". It also stated that IRA trustees could not
evade evaluation responsibility by having the IRA owner sign a release,
indemnification or other instrument. The IRS indicated that IRA contributions,
distributions, and valuations should be reported on IRS Form 5498 (Individual
Retirement Arrangement Information) to satisfy annual reporting requirements. A
copy of the 2-23-93
F.2. Types of IRAs
In addition to IRAs for Individuals, a number of different variations now exist
and are highlighted below:
Rollover IRAs enable an employee to transfer, tax-free, lump-sum
distributions from a previous employer's tax-deferred retirement plan to a
new IRA. Rollovers may also be used to transfer funds from one IRA account to
another IRA account. The transfer permits the employee to continue tax-deferred
When a lump-sum distribution from an employee benefit plan is "rolled"
into an IRA, the entire distribution from the previous plan must be transferred
to one or more rollover IRAs. In addition, if the funds being transferred
originate from either a lump-sum distribution or represent the movement from an
existing IRA account to a new IRA account, the transfer must be done directly
from the previous plan or IRA to the rollover IRA. If the transfer is done by a
check to the employee, the employee must:
Pay 20% of the total amount to the government for Federal income taxes,
which is withheld from the initial disbursement;
Furnish the 20% that was withheld in order to avoid tax consequences since the
entire amount of the initial distribution must be rolled into the new rollover
Place the total amount of funds into the rollover IRA by the 60th day after the
day the distribution is received.
discussed above, and provide for refunded premiums to pay for future premiums
or to buy additional benefits before the end of the calendar year after the
year the refund is received, and it must begin distributions by April 1 of
the year the owner reaches age 70 1/2. IRS Publication 590,
Individual Retirement Arrangements, provides further basic information on IRAs.
Individual Retirement Annuity
is an IRA which is established by purchasing an annuity contract or an
endowment contract from a life insurance company. The annuity must be issued to
the IRA owner, and either the owner or their surviving beneficiaries may
receive benefits from the IRA. The entire interest in the contract must be
nonforfeitable, it must provide that the owner cannot transfer any portion of
it to any person other than the issuer, it must (for contracts issued after
11-6-78) have flexible premiums to permit annuities to change as the owner's
compensation changes, it must limit annual contributions to the maximum amount
Individual Retirement Bonds are IRAs which were funded through the
purchase of Individual retirement bonds issued by the Federal government. The
program was suspended after 4-30-82. It had the following characteristics: the
bonds paid interest only until they were cashed in by the owner; no interest
was paid on the bonds after the owner reached 70 1/2 years of age; upon
the owner's death, the bonds stopped paying interest at the earlier of 5
years after the date of death or the date on which the owner would have reached
age 70 1/2; and the bonds could not be sold, discounted, or used as
collateral or security. IRS Publication 590, Individual Retirement
Arrangements, provides further basic information on IRAs.
Traditional IRAs above), the
employee may contribute the difference. SEP-IRAs are much
simpler and involve less administrative cost for the employer
than do other types of retirement plans. I RS
Publication 560, Retirement Plans for the Self-Employed,
provides information on SEP-IRA plans.
Simplified Employee Pension (SEP)-IRA
is a pension plan where the employer establishes an IRA account for the benefit
of each covered employee. Employer contributions are excluded from an
employee's income. In any year where the employer's contribution is less than
the normal IRA maximum for Individuals (refer to
Section Q. Catch-Up Contributions
for additional details.
The Economic Growth and Tax Relief Reconciliation Act of 2001amended
Sections 402 and 414 of the Internal Revenue Code, enabling individuals age 50
and over to make elective retirement plan deferrals (catch-up contributions) to
401(k) plans, SIMPLE IRA plans, simplified employee pensions (SEP), Section
403(b) arrangements, and Section 457 governmental plans effective for plan
years beginning after December 31, 2001. Refer to
Salary Reduction Simplified Employee Pension Plan (SARSEP) is a type
of defined contribution employee benefit plan established under the Tax Reform
Act (TRA) of 1986. SARSEPs are sometimes referred to as elective deferral
arrangements or as salary reduction arrangements. SARSEPs operate with pretax
employee contributions, thus reducing the employee's income tax liability.
New SARSEPs could be adopted by employers through December 31, 1996. Beginning
January 1, 1997, SARSEPs were replaced by Savings Incentive Match Plans for
Employees (SIMPLEs), and no new SARSEPs may be established. SARSEPs adopted
prior to 1997 can be continued with additional contributions made to them.
SARSEPs were available to employers with 25 or fewer employees, and with at
least 50% of eligible employees participating in the plan. Employees contribute
a percentage of their salary, thus reducing current income and current income
taxes. Income and capital gains earned by SARSEPs are tax-deferred. The annual
limit on salary contributions to a SARSEP is limited ($9,500 in 1996), with the
limit indexed. In top heavy plans, the amount contributed for the highly
compensated employees cannot be more than 125% of the average percentage of pay
contributed by all non-highly-compensated employees.
IRS Publication 560, Retirement Plans for the Self-Employed, also provides
information on SARSEP plans.
Inherited Individual Retirement Accounts are subject to special rules.
The IRA is included in the estate of the decedent who owned it. Unless the
inheriting beneficiary is the decedent's surviving spouse, the beneficiary
cannot treat the IRA as their own. Only the surviving spouse can elect to: make
contributions to the IRA, including rollover contributions; rollover the
inherited IRA into another IRA; and to delay receipt of distributions until
(the surviving spouse reaches) age 70 1/2. All other inheriting
beneficiaries must take distributions from the IRA, which is dependent upon the
IRA owner's election at the time the IRA was opened and minimum
distribution requirements. IRS Publication 590, Individual Retirement
Arrangements, provides further basic information on IRAs.
Roth Individual Retirement Accounts were
introduced in 1998. Except for some special rules which apply only to Roth
IRAs, these Individual retirement accounts are subject to the same IRS rules as
are traditional IRAs. IRS Publication 590, Individual Retirement Accounts,
extensively discusses all types of IRAs, and it should be used as general
guidance when reviewing IRAs. Some of the basic Roth IRA rules follow:
A Roth IRA must be initially designated as a Roth IRA when
it is established. Neither SEP-IRAs nor SIMPLE IRAs may be designated
or operated as Roth IRAs.
Contributions to Roth IRAs are
not tax deductible and are not reported on the individual's tax return:
Roth IRA contribution limit:
contributions are made only to Roth IRAs, the contribution limit for 2003
for individuals under age 50 is generally the lesser of:
$3,000 ($3,500 if the individual is 50 or older in
individual's taxable compensation for the year.
$3,000 and $3,500 amounts do not increase in 2004.
Contributions to both traditional and Roth IRAs for same year:
contributions are made to both a Roth IRA and a traditional IRA, the
contribution limit for 2003 is the lesser of:
$3,000 ($3,500 if the individual is 50 or older in
2003) minus all contributions (other than employer contributions under a SEP or
SIMPLE IRA plan) for the year to all IRAs other than Roth IRAs, or
individual's taxable compensation minus all contributions (other than employer
contributions under a SEP or SIMPLE IRA plan) for the year to all IRAs other
than Roth IRAs.
individual's modified adjusted gross income is above a certain amount,
contribution limits may be reduced and must be computed. IRS
Publication 590, Individual Retirement Arrangements, details how to
calculate the reduced contribution limits.
An individual can contribute to a Spousal Roth IRA,
The contributions satisfy the Spousal IRA limit
Traditional IRA Spousal Limit
A joint tax return is filed for the year, and
The couple's modified adjusted gross income is less
Contributions to Roth IRAs may continue even after the
owner has reached 70 ½ years of age, there is no age limit for contributions.
A contribution to one type of IRA may be
"recharacterized" as a contribution to a different IRA, but it must be
performed in a trustee-to-trustee transfer.
Roth IRAs are not subject to any minimum distribution,
and account balances can be left in the IRA as long as the owner lives.
Traditional IRAs, SEP-IRAs, and SIMPLE IRAs can be
converted to Roth IRAs if the owner has a "modified adjusted gross income" of
not more than $100,000 and (if married) files a joint return. Except for the
one year waiting period, most rollover rules for traditional IRAs apply.
A Traditional IRA may be
converted to a Roth IRA. The conversion is treated as a rollover, regardless
of the conversion method used. Most of the rules for rolloversapply
to these rollovers. However, the 1-year waiting period does not apply.
Although the conversion of a Traditional IRA is considered a rollover for
Roth IRA purposes, it is treated as a taxable distribution from the
Individuals who convert traditional IRAs to Roth IRAs,
but who are ineligible to do so, are subject to a taxable distribution for the
amount of the conversion, plus any additional taxes on early withdrawals. A
Roth IRA conversion may be "re-characterized" by converting it back to a
traditional IRA prior to the owner's tax return due date, including extensions.
For tax years 1998 and 1999, IRA owners were permitted
to convert an amount from a traditional IRA to a Roth IRA, transfer that amount
back in a "re-characterization," and then reconvert it back to a Roth IRA in a
"re-conversion." After 1999, owners cannot convert and reconvert an amount
during the same taxable year.
Qualified distributions from Roth IRAs are not taxable,
if they are made after a 5 year period beginning with the first taxable year
for which a contribution was made, and the distribution is:
Made on or after the date the
owner reaches age 59 ½,
Made because of the owner's
At the owner's death, made to a
beneficiary or the to the owner's estate, or
One that meets the traditional
IRA "First" home requirements, up to a lifetime limit of $10,000.
Distributions of regular contributions are not taxable.
If the owner of a Roth IRA dies, the minimum
distribution rules that apply to traditional IRAs apply to Roth IRAs as though
the Roth IRA owner died before his or her required "beginning date" (by April 1
of the year following the year in which the owner reaches age 70 ½ ).
Generally, upon the death of the owner, the entire
interest in the Roth IRA must be distributed to a beneficiary by the end of the
fifth year of the owner's death, unless the interest is payable to a designated
beneficiary over his or her life expectancy.
A beneficiary of a Roth IRA may aggregate an inherited
Roth IRA with another Roth IRA, if: (i) either the beneficiary
inherited the other Roth IRA from the decedent, or was the spouse of the
decedent, (ii) the beneficiary is the sole beneficiary of the Roth IRA, and
(iii) the beneficiary elects to treat it as his or her own IRA.
If the sole beneficiary of a Roth IRA is the spouse, he
or she can either delay distributions until the decedent would have reached age
70 ½ , or treat the IRA as his or her own.
Excess contributions are subject to a 6% excise tax.
Early withdrawals are subject to a 10% premature
distribution tax in addition to other applicable taxes.
and/or excise tax as prohibited transactions under the IRS Code.
to deemed IRAs may only be made on a voluntary basis by the employee and are
not deductible from income. These contributions do not affect the dollar
amount of employer based contributions under a qualified plan. Deemed
IRAs must be maintained in a separate account or annuity under the plan, and
are subject to IRA rules, not qualified plan rules. However,
plan may commingle deemed IRA assets with qualified employer plan assets for
The IRS issued
Revenue Procedure 2003-13
outlining amendment guidance for existing qualified employer plans. The
revenue procedure also provides sample plan amendment language which allows
qualified plans to include deemed IRAs. For Deemed IRA purposes, the IRS
has ruled that qualified employer plans include Section 401(a) defined benefit
and defined contribution plans, Section 401(k) plans, Section 403(a) annuity
plans and 403(b) plans, and Section 457 deferred compensation plans.
They do not, however, include Savings Incentive Match Plans for Employees of
Small Employers (SIMPLE) IRAs. Procedures for amending qualified employer
plans are also provided in IRS Bulletin 2003-4.
IRS Revenue Ruling 2004-67
extends the ability to participate in group trust investments described in
Revenue Ruling 81-100 to Roth individual retirement accounts described in §
408A and deemed individual retirement accounts described in § 408(q).
(Note: investing IRAs in
common or collective funds is prohibited under Federal securities laws, refer
IRS Revenue Ruling 81-100
in Section 7.)
Abusive Roth IRA Transactions - The Treasury Department issued Notice 2004-8 identifying
and prohibiting certain abusive Roth IRA contribution transactions. The
notice was effective on the date of issuance, December 31, 2003. The
transactions in question are used to avoid Roth IRA contribution limitations
and, in some instances, taxation as income or capital gains. These and
similar types of transactions subject the IRA to possible
Education Savings Accounts (ESAs) - referred to as Education
IRAs until July 26, 2001 - are not Individual Retirement Accounts or retirement
arrangements of any kind. They are trust or custodial accounts
established for the purpose of paying "qualified higher education expenses"
(tuition, fees, books, supplies, equipment, and "contributions to a qualified
state tuition program") of a designated beneficiary at an "eligible educational
institution" (either an eligible postsecondary school - any college,
university, vocational school, or other post secondary educational institution
qualified to participate in student aid programs by the U.S. Department of
Education; or an eligible elementary or secondary school - any public, private,
or religious school that provides elementary or secondary education -
kindergarten through grade 12 - as determined under state law.)
Excess contributions are subject to a
6% excise tax. No contributions may be made to an ESA in any tax year in
which the beneficiary receives a contribution toward a "qualified state tuition
Earnings on investments grow tax free until distributed.
Upon distribution, if the withdrawals are less than the beneficiary's qualified
higher education expenses, the withdrawals are tax free. Any portion of a
withdrawal which is greater than the beneficiary's educational expenses is
taxable to the beneficiary. Taxable distributions are subject to a 10% tax in
addition to other applicable income taxes.
To be treated as an ESA, the account must
be designated as such when it is established. Any Individual, including
the designated beneficiary, can contribute to an ESA if the individual's
modified adjusted gross income for the year is less than $110,000 ($220,000 for
individuals filing joint returns). Contributions are not tax deductible.
There is no limit on the number of ESAs which
can be established for the same beneficiary, and there are no limits to the
number of beneficiaries a contributor may contribute towards in the same
year. However, total contributions for the same beneficiary in any
tax year cannot exceed $2,000. Contribution limits are gradually reduced
if a contributor's modified adjusted gross income is between $95,000 and
$110,000 (between $190,000 and $220,000 if filing a joint return).
Education IRA Account
The trustee or custodian must be a bank or an entity
approved by the IRS.
The document must provide
that the trustee or the custodian can only accept a contribution that:
is in cash,
is made before the beneficiary reaches age 18 (no
contributions can be made to an ESA after the beneficiary reaches age 18,
unless the beneficiary is a special needs beneficiary (not defined as of 2004),
would not result in total
contributions for the tax year (not including rollover contributions) being
more than $2,000.
Money in the account cannot be invested in life
Money in the account cannot be combined with other property except
in a "common trust fund or common investment fund." (Note: investing IRAs in
common or collective funds is prohibited under Federal securities laws, refer
IRS Revenue Ruling 81-100
Generally, the balance in the account must be
distributed within 30 days after the beneficiary reaches age 30, or the death
of the beneficiary. Assets distributed upon the death of a beneficiary
must either be made to the beneficiary's estate, or to a beneficiary named by
the designated beneficiary. However, distribution is not required if the
Education IRA is transferred to a surviving spouse or other family member under
IRS Publication 970,Tax Benefits for Education
provides information on Education IRAs.
Bank Trustee and Custodial Responsibilities
As trustee, the bank's responsibilities may range from ministerial
functions to the exercise of broad discretionary duties. In most instances,
IRAs found in trust departments are subject to the investment direction of the
Individual or possibly an investment advisor. However, the trust department may
be given full discretion in the investment selection process. As custodian,
responsibilities are essentially ministerial in nature. The examiner should
IRC Section 408(h)
considers bank custodians of IRAs to be trustees, hence fiduciaries (refer to
Whether acting as trustee or custodian, the bank's responsibilities and duties
will be controlled by provisions of the instrument under which the relationship
is established. Examiners should perform a careful review of this instrument in
order to ascertain the degree of responsibility assumed by the bank and
conformity with the duties imposed upon the institution under the agreement.
F.3.a. Self-Directed Custodial IRAs -
Own Bank Deposits
The majority of IRAs serviced by banks are handled in the commercial department
in a custodial capacity. These accounts are restricted to investments in own
bank deposits. Unless state law provides to the contrary, trust powers for such
accounts are not required, even if the account document indicates the bank is a
Self-Directed Custodial IRAs - Non Bank Deposits
A bank may accept non-deposit self-directed custodial IRAs without trust powers
under Section 333.101(b) of the FDIC's Rules and Regulations, if the
appropriate state authority also permits such accounts to be accepted without
trust powers. Despite the fact that trust powers are not needed, banks which
accept such accounts must implement appropriate controls. Refer to
Section 2, subsection O, Self-Directed IRAs and Keogh Accounts for
F.4. Special Examination Application
There are several provisions involving IRA accounts which examiners should be
IRS Revenue Ruling 81-100 in Section 7
- According to
Advisory Opinion 93-33A issued by the
PWBA Office of Regulations and Interpretations of the US Department
of Labor on December 16,
1993, pursuant to Regulation 2510.3-2(d),
the DOL does not have jurisdiction over IRAs which are not part
of an employer sponsored
pension plan falling under Title I of
ERISA. Nevertheless, under Presidential Reorganization Plan No.
4 of 1978, effective December
31, 1978, the DOL was given the authority
to issue interpretations of section
4975 of the Internal Revenue Code (with certain exceptions,
including sections 4975(a), (b), (c)(3),
(d)(3), (e)(1), and (e)(7)) involving
prohibited transactions of that section of the Code. Accordingly,
employer sponsored IRAs are subject to
ERISA and fall under DOL jurisdiction.
Traditional or individual
IRAs are not subject to ERISA and fall
under the supervision of the Secretary
of the Treasury. They are, however, subject to
DOL interpretations of section 4975 of
the Code with regard to prohibited transactions
under that section of the Code. (Refer also to subsection
H.7, Prohibited Transaction - ERISA Section
Several IRA-specific interpretations have been issued by the Labor Department,
which has authority over ERISA and also to interpret IRC Section 4975. All
of the Advisory Opinions (AOs) noted below deal with self-directed
AOs 88-9 and 88-28
deal with investment in the fiduciary bank's stock (or that of its holding
company). These AOs include guidance on purchases of treasury stock and stock
issued in an Initial Public Offering (IPO).
AO 88-18 deals with a loan from the IRA to a company where the
grantor/customer has a substantial interest. Under the circumstances described,
DOL concludes that a prohibited use of plan assets for the benefit of a
disqualified person under
Section 4975(c)(1)(D) or an act of self-dealing under
Section 4975(c)(1)(E) is likely to result if the customer directs
the IRA to lend funds to the company.
AO 89-3 deals with the investment of IRA assets in the stock of the
company which employs the grantor/customer. In this case, the stock was
purchased directly from the employer company. Under the circumstances
described, particularly that the employer had no involvement with the
establishment or maintenance of the IRAs, the employer company is not a
disqualified person under
Section 4975(e)(2); therefore, no prohibited transaction under
exists. The AO cautions that a prohibited transaction may occur under other
provisions of Section 4975.
SEP-IRAs are subject to ERISA Sections 404 and 406, covering fiduciary
responsibility and prohibited transactions.
IRS Forms 5305 (the governing IRA document) prohibit the Individual
sponsoring an IRA from borrowing from the account or from pledging the account
as collateral for a loan.
IRS Regulation 1.408-4 regarding the Treatment of Distributions from IRAs
states that if the Individual establishing the account uses, directly or
indirectly, any portion of the IRA as security for a loan, the amount used as
collateral will be deemed a distribution for that tax year [IRS
Regulations 1.408-1(c)(4) and 1.408-4(d)(2)]. The regulation requires
the issuing of a W2-P to the borrower and to the IRS to report the
distribution. If the distribution occurs prior to the Individual reaching
age 59½, a premature distribution would take place, involving an IRS
penalty equal to 10% of the pledged amount under IRS
Section 408(m) of the IRC indicates that if an IRA invests in
collectibles, the investment will be treated as a distribution. Collectibles
include: stamps, coins, artwork, gems, antiques, etc. Both Section 408(m)
and DOL Prohibited
Transaction Class Exemption (PTE) 91-55
provide an exception for U.S. American Eagle gold coins, which
are permissible investments.
Group Trust/Collective Investment Funds - Examiners
should be aware that IRAs of all types may not invest in OCC Regulation 9.18
Collective Investment Funds (CIFs) without violating Federal securities laws. A
number of lawsuits have resulted from IRAs being placed in CIFs, and there is
one instance of the SEC taking enforcement action against an FDIC-supervised
bank for having done so. There are a few approaches where IRAs may be
collectively invested, with many restrictions. The investments are usually
confined to mutual funds, but never to Regulation 9.18 CIFs. (Refer to
Savings Incentive Match Plan for Employees (SIMPLE)
Savings Incentive Match Plans for Employees (SIMPLEs) plans
are defined contribution employee benefit plans which replaced SARSEP plans
effective January 1, 1997
. SIMPLE plans permit small employers and their employees to make salary
reduction contributions toward a simplified retirement arrangement.
Employers may establish a SIMPLE IRA plan: (a) if they had 100 or fewer
employees who received $5,000 or more in compensation in the preceding year;
and (b) they do not maintain another qualified plan, unless the other plan is
for collective bargaining employees. These plans must be maintained on a
calendar year basis, and may be established as either:
Employer matching contributions - employers are required
to match each employee's salary reduction contributions on a
dollar‑for‑dollar basis up to 3% of the employee's compensation.
This requirement does not apply if employers make non‑elective
Non‑elective contributions - employers may choose
to make non-elective contributions of 2% of compensation on behalf of each
eligible employee who will earn at least $5,000 (or a lower employer designated
amount ) in the current calendar year. Employers opting for this
contributory method must make non‑elective contributions whether or not
employees elect to make their own salary reduction contributions.
Employees earning at least $5,000 during any 2 years
preceding the current calendar year, and who are reasonably expected to do so
in the current calendar year, are eligible to participate in a SIMPLE
plan. Employees may elect to contribute up to $8,000 for 2003
(increasing $1,000 each tax year until it reaches $10,000 in 2005).
Salary reduction contributions under a SIMPLE IRA plan count toward the overall
annual salary exclusion limit ($12,000 for 2003) when employees participate in
other employer plans with elective salary reductions or deferred
compensation. Participants who are age 50 or over at the end of the
calendar year may make catch-up contributions. The catch-up contribution
limit for 2003 is $1,000; it increases by $500 each year until it reaches
$2,500 in 2006. The limit is subject to cost-of-living increases
The Economic Growth and Tax Relief
Reconciliation Act of 2001amended Sections 402 and 414 of the Internal Revenue
Code, enabling individuals age 50 and over to make elective retirement plan
deferrals (catch-up contributions) to 401(k) plans, SIMPLE IRA plans,
simplified employee pensions (SEP), Section 403(b) arrangements, and Section
457 governmental plans effective for plan years beginning after December 31,
2001. Refer to
Section Q. Catch-Up Contributions
for additional details.
IRS Publication 560, Retirement Plans for the
Self-Employed provides information on SIMPLE plans.
H. Compliance with the Employee
Retirement Income Security Act of 1974 (ERISA)
ERISA is a very complicated law and the employee benefit area is constantly
being impacted by changes in Federal tax laws. In addition, the Labor
Department issues various regulations, interpretations, and opinions in
response to changes in the industry and the need to clarify various
requirements of ERISA. As a result, the material in this part is grouped
according to the various requirements of ERISA.
Before reviewing the entire ERISA section of this manual, the examiner should
initially review four parts of this section which may highlight plans,
accounts, and/or circumstances, which in general, ERISA does not apply. The
four sections include: (1) Accounts Covered/Not
Covered by ERISA; (2) Fiduciaries
Defined; (3) Exemptions
from Prohibited Transactions; and (4)
Compliance with State Laws.
The primary objective of ERISA is to protect the rights and interests of
participants and their beneficiaries in the various plans and accounts
described above. Plans and accounts which fall under ERISA are required to:
contain certain data, be properly administered in an arm's-length manner,
make disclosures to employees and beneficiaries, and comply with government
Two government agencies are primarily responsible for administration and
enforcement of ERISA. DOL is responsible for interpreting and enforcing
fiduciary provisions of ERISA and also interprets those sections of the IRC
dealing with fiduciary requirements for employee benefit plans. The IRS is
responsible for IRAs, Keogh accounts that cover only the Individual/employer,
and various tax-related provisions of the IRC.
ERISA also established the Pension Benefit Guaranty Corporation (PBGC), which
insures participants' and beneficiaries' vested interests in defined benefit
pension plans to a maximum monthly benefit as specified in Title IV of ERISA.
PBGC also acts as trustee and receiver for pension plans voluntarily terminated
by their sponsors, or involuntarily terminated because of the failure of the
sponsor for financial or other reasons. All private defined benefit pension
plans meeting certain requirements must, under ERISA, make required annual
premium payments to the PBGC.
Accounts Covered/Not Covered by ERISA -
ERISA Section 401
ERISA basically covers the administration and operation of all kinds of employee
benefit plans. This includes pension plans, profit-sharing plans,
and Keogh Plans (HR-10
Accounts). Banks which sponsor these for their own employees or offer them to
bank customers must comply with ERISA. Bank trust departments which administer
the bank's own plan or the plans of others must also comply with ERISA. As a
result, ERISA applies to all plans sponsored by banks and their holding
companies, and will apply to most employee benefit plans the examiner will
encounter in trust departments.
Described below are three frequently encountered employee benefit plans which
are not subject to ERISA. ERISA does not apply to:
Government plans. These include plans sponsored by Federal,
State, and local government instrumentalities (Nonqualified deferred
compensation plans offered by government agencies may also be referred to as
457 plans). As a result, plans for county or city employees, fire and police
forces, economic development authorities, etc. are excluded from ERISA
requirements. In 1986, a tax-deferred savings plan was established for Federal
employees pursuant to the Federal Employees' Retirement System Act of 1986.
Church plans. Plans sponsored by religious (church)
organizations and their affiliated organizations.
Excess benefit plans that are unfunded. In general, these plans cover
a select group of highly compensated employees and provide benefits in addition
to those provided under a tax-qualified plan. Excess benefit plans are funded
solely out of the general assets of the employer. These plans are not
tax-qualified nor protected in a trust from creditors of the plan sponsor. The
reason these plans are not tax-qualified is that benefits provided under the
plan are in excess of those permitted for tax-exemption under the IRC and
coverage under the plan is limited to highly paid employees. (Examiner note:
there is nothing illegitimate or inappropriate about this type of plan if
established and administered properly.)
The above list is not all inclusive and the examiner should refer to ERISA
Section 4(b) for a complete listing. The types of employee benefit plans that
are exempt from ERISA are generally subject to State statutes.
H.3. Establishment of Plan
ERISA Section 402
Every employee benefit plan shall be established and maintained pursuant to a
written instrument. Such instrument shall provide for one or more named
fiduciaries who jointly or severally shall have authority to control and manage
the operation and administration of the plan. Every employee benefit plan
Name a Plan Administrator;
Provide a procedure for establishing and
carrying out a funding policy;
Describe any procedures for the
allocation of responsibilities for the operation and
administration of the plan;
Provide a procedure for amending such
plan, and for identifying the persons with authority to amend
the plan; and
Specify the basis on which payments are made to and from the plan.
Examiners should note that the plan sponsor is generally responsible for
ensuring that the plan meets the requirements of
ERISA Section 402.
H.4. Trustee Requirements
ERISA Section 403
Section 403 of ERISA requires that all assets of employee benefit plans must be
held in trust by one or more trustees. There is no requirement that a bank or
other corporate fiduciary be used. Individuals may serve as plan trustees under
Trusteed plans are those most frequently encountered and a trust agreement, as
distinguished from the governing plan, establishes the trustee's duties and
responsibilities. Principal among these, the trustee holds title to and takes
possession of account assets. The trustee is also responsible for safekeeping
and asset management, to the extent this is not delegated to others. Other
typical trust agreement provisions relate to irrevocability and non-diversion
of trust assets, as well as investment powers of the trustee, payment of legal
and other fees, periodic reports by the trustee, records and accounts to be
maintained, payment of benefits, and the rights and duties of a trustee in case
of amendments to or termination of the plan.
H.5. Fiduciary Responsibilities
- ERISA Section
ERISA codifies traditional fiduciary responsibilities into a single nationwide
standard. The primary section of the ERISA which deals with fiduciary
responsibilities is Section 404. The standards enunciated by
Section 404 amount to an itemization of how a fiduciary should act.
H.5.a. Fiduciary Defined
For the most part, the definition of a fiduciary under ERISA is a functional
definition. Therefore, a person is a fiduciary 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;
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
Possesses any discretionary authority or discretionary responsibility in the
administration of such plan.
Section 3(21)(A) of ERISA.
Certain entities with respect to a plan are automatically fiduciaries:
trustees, named fiduciaries, plan administrators and investment managers. This
includes the management of the plan sponsor. For a bank's own employee benefit
plan, this would typically mean the bank's board of directors, senior
management, and any plan committee. Employees (if any) of a plan who exercise
discretionary authority or responsibility in the administration of a plan
become fiduciaries with respect to such plan. In addition, banks sometimes
provide plan administration services, especially for the bank's own plan, and,
as a result, are fiduciaries with respect to such plans.
Every qualified plan must have at least one named fiduciary person designated
as the one responsible for operating the plan. This person may be the trustee,
the plan administrator, the employer/plan sponsor, or the investment advisor.
Fiduciaries generally do not include accountants, attorneys, insurance agents,
insurance companies, consultants, or actuaries unless they exercise control
over the plan in some fashion.
The examiner should remember that DOL has ruled that a bank serving solely as
custodian is not a fiduciary according to Advisory Opinion 77-45.
Benefit - ERISA Section 404(a)(1)(A): The overall thrust of
ERISA is that the plan must be operated solely for participants and
beneficiaries of the plan. Section 404(a)(1)(A) expands on this underlying
theme by stating that the plan must be operated for the exclusive purpose of
providing benefits and defraying reasonable administration expenses. Any
violations of ERISA's self-dealing or conflict of interest provisions
(Section 406 prohibited transactions) would also normally involve a
violation of Section 404 addressing the exclusive benefit provisions.
Prudent Man Rule - ERISA Section 404(a)(1)(B): This section of
ERISA requires that fiduciaries act prudently. Prudence is normally associated
with asset management, but this section also applies to all of a fiduciary's
duties for a plan. ERISA Section 404(a)(1)(B) states that fiduciaries must
manage the plan:
With the care, skill, prudence, and diligence under the circumstances then
prevailing that a prudent man acting in a like capacity and familiar with such
matters would use in the conduct of an enterprise of a like character with like
The wording of the prudence requirement under ERISA includes an implication that
a trust department may be held to a higher standard of prudence than Individual
fiduciaries. The text of ERISA refers to a fiduciary acting in like capacity
and familiar with such matters would use in the conduct of an enterprise of a
like character with like aims. A fiduciary which holds itself out as having a
certain expertise (such as a trust department marketing and charging fees for
its services and expertise) is to be held to a higher standard of prudence than
merely a prudent Individual.
Section 404(a)(1)(B) of ERISA discusses investment duties of the fiduciary
which somewhat mirror the Prudent Investor approach. This approach differs from
the traditional Prudent Man Rule in two major aspects:
No category of investment is deemed inherently imprudent by its very nature.
Prudence is evaluated by looking at the entire investment portfolio. The
Prudent Man Rule approach looks at Individual investments, ignoring all
investments with gains and focusing only on those with losses.
Prudence is generally viewed by evaluating the decision-making process, not
necessarily the results. Therefore, investment decisions tend to be viewed as
of the date of the transactions, not on the basis of what happened after an
investment was made. Also see related discussions of the
Prudent Man Rule and
Prudent Investor Act in
Section 3 - Asset Management and in Appendix C - Fiduciary Law.
Examiners should be aware that a plan's exemptions under
408 from prohibited transactions under
Section 406 of ERISA, do not release the fiduciary's duty under
regarding prudence. The fact that a bank has plan and statutory authority to
invest up to x percent of its assets in employer securities does not mean it
can make an investment if, to do so, would be imprudent. This is true even if
the only investment that can be made under the plan is restricted to employer
Appropriate Consideration of Investment Decisions - DOL ERISA Regulation
2550.404a-1(b): The Labor Department has provided guidance on the actions a
fiduciary must take in order to demonstrate it was prudent.
DOL ERISA Regulation 2550.404a-1(b) addressing Investment Duties
provides the fiduciary must exercise appropriate consideration when making
investment decisions including:
Determining that the investment or investment course of action is reasonably
designed as part of the portfolio (or the portion of the plan's portfolio for
which the fiduciary has investment duties) to further the purposes of the plan,
taking into account the risk of loss and the opportunity for gain associated
with the investment or investment course of action; and
Considering the portfolio's or portion of the portfolio's: (1) diversification,
(2) liquidity and current return relative to plan cash flow and needs, and (3)
projected return relative to plan funding requirements.
The regulation points out that contemplation of an investment decision must
include the above considerations, but that it is not necessarily limited to
only the itemized points. The regulation does not explicitly state that the
appropriate consideration must be in writing; however, documentation is the
only logical way a bank could demonstrate prudent actions at a later date.
Examiners, therefore, should expect to see reasonable written documentation of
investment decisions for ERISA plans, although failure to have appropriate
documentation is not a violation. Examiners should remember that a bank is not
responsible for reviewing the prudence of investment decisions made by outside
investment managers to whom investment responsibility has been properly
delegated by the plan administrator or other authorized party.
of Investments - Section 404(a)(1)(C): Section 404(a)(1)(C)
of ERISA requires that plan investments be diversified in order to minimize the
risk of large losses. Prior DOL rulings indicate an appropriate benchmark of
one-third (33%) of the total portfolio of assets should be used in evaluating
whether an investment is diversified. The 25% banking statutory standard to
determine concentrations of credit does not apply to ERISA accounts.
While ERISA requires that plan assets be diversified, and failure to do so is a
violation, there are a number of specific instances where the diversification
standard does not apply, including the following:
Individual account plans where the participant directs his or her own
investments. See the discussion on
Section 404(c) plans.
Insured bank, thrift, and credit union deposits which comply with the statutory
exemptive provisions of ERISA
Section 408(b)(4) and
DOL ERISA Regulation 2550.408b-4.
Bank, thrift, and credit union deposits which are in excess of the amounts
covered by Federal insurance, if the institution's assets are diversified, and
if the transaction also complies with the statutory exemptive provisions of
ERISA Section 408(b)(4) and DOL ERISA Regulation 2550.408b-4. Also
refer to DOL
Advisory Opinion 77-46 in Appendix E.
Mutual funds, collective investment funds, Real Estate Investment Trusts
(REITs), and annuities, as these investments are not considered single
investments. Refer to DOL Advisory Opinions 75-93, 80-13, 78-30, and 75-79,
to Plan Document - ERISA Section 404(a)(1)(D): Section 402(a)(1)
of ERISA requires that every employee benefit plan shall be governed by a
written plan instrument. Failure to follow this governing plan document is
normally a violation of ERISA Section 404(a)(1)(D).
If the trustee's actions comply with the plan or trust agreement but would
violate ERISA, the plan or agreement may not be followed. In such instances,
ERISA takes precedence over the governing documents.
Indicia of Ownership of Plan Assets - ERISA Section 404(b): In order to
facilitate oversight and enforcement by appropriate agencies,
ERISA Section 404(b) requires that documents evidencing ownership
of plan assets must be maintained within the jurisdiction of United States
(U.S.) courts. These documents (securities, certificates, etc.) are termed
indicia of ownership. A number of specific exceptions to holding plan assets
which are foreign securities outside the U.S. are outlined primarily in
DOL ERISA Regulation 2550.404b-1 and, under certain circumstances,
the accompanying Preamble. Listed below are some of the exceptions provided by
the regulation. Each of the exceptions is subject to specific conditions.
American Depository Receipts (ADRs). ADRs that enable a person to demand
delivery of a foreign security constitutes the indicia of ownership of the
foreign security. This exception is specifically noted in the Preamble to DOL
ERISA Regulation 2550.404b-1.
Assets that are under the management and control of a U.S. regulated bank,
insurance company, or investment adviser, which is organized under the laws of
a State or of the U.S. In addition, the plan fiduciary's principal place
of business must be in the U.S. and certain minimum financial conditions must
Foreign securities which are in the physical possession of, or in transit to, a
U.S.-based bank or registered broker or dealer and certain other conditions are
Contributions made on behalf of plan participants who are Canadian citizens or
residents may be maintained in Canada if required by Canadian tax or other
Foreign Currency maintained outside the U.S. solely as an incident to the
purchase, sale, or maintenance of securities by a U.S. plan.
Assets which are maintained by a registered broker or dealer in SEC-designated
satisfactory control locations if certain other conditions are met. The SEC
regulation covering designation of satisfactory control locations is
Rule 15c3-3 [17 C.F.R. 240.15c3-3].
The DOL's indicia of ownership rules also address any securities (other than
those issued by Individuals) the principal trading market for which is outside
the jurisdiction of the U.S. District courts. SEC Rule 17f-5(c) provides
fiduciary standards for Eligible Foreign Custodians. These standards concern
whether: (1) the Eligible Foreign Custodian has the requisite financial
strength to provide reasonable care for the foreign assets, (2) the Custodian
has adequate reputation and standing, and (3) the mutual fund will have
jurisdiction over and be able to enforce judgments against the Custodian.
The FDIC has been advised that an eligible
foreign custodian as defined in SEC Rule 17f-5 of the Investment
Company Act of 1940 [17 C.F.R. 270.17f-5], may fulfill the requirements
of a satisfactory control location. An eligible foreign custodian under the
revised rule is any one of the following:
An entity that is incorporated or organized under the laws of a country other
than the United States and which is a Qualified Foreign Bank or
which is a majority-owned direct or indirect subsidiary of a U.S. Bank or
Under the revised rule: (1) A Qualified Foreign Bank is a bank or trust company,
organized under the laws of a country other than the United States, and which
is regulated by that country's government or an agency of the country's
government. (2) U.S. Bank is: (i) a national bank; (ii) a Federal Reserve
member bank; (iii) a state chartered bank or trust company which is supervised
by state or federal authority; or (iv) a receiver, conservator, or other
liquidating agent of any of these institutions. (3) Foreign Assets consist of
investments for which the primary market is outside the United States, and any
cash and cash equivalents reasonably necessary to effect transactions in those
H.5.c. Special Examination Applications
of Fiduciary Responsibility Provisions
A number of areas not specifically covered in the ERISA statute are particularly
relevant to banks and trust departments. Many areas are noted because of
frequent inquiries by examiners and bankers, while other areas have been
subject to criticism in examination reports. The special application of a
number of issues regarding ERISA plans are commented on below, grouped
alphabetically by topic.
|(1) Contributions, In-Kind
|(3) Economically Targeted Investments (ETIs)
Section 3, F.3.e and
|(4) ESOP Plans - Employer Securities Investments -
|(5) ESOP Plans - Employer Securities Investments -
|(6) Individual Account (Section 404(c)) Plans
|(7) Loans - Documentation
|(8) Own-Bank/Holding Company Stock Investments
|(9) Proxy Voting and Corporate Governance
|(10) Directed Trustees
H.5.c.(1). Contributions, In-Kind
Instead of making a cash contribution to an employee benefit plan, some plan
sponsors have attempted to make a contribution of non-cash assets, usually
termed an in-kind contribution.
DOL Interpretive Bulletin 94-3 explains that it is a prohibited
transaction for the sponsor to make in-kind contributions in satisfaction of an
obligation to contribute to defined benefit plans and certain defined
contribution and welfare benefit plans. Refer to
H.7.f.(2), Contributions, In-Kind for additional information regarding
in-kind contributions and the associated prohibited transaction under
Independent of the application of the prohibited transaction provision,
Interpretive Bulletin 94-3 also states that a fiduciary has a duty to review
in-kind contributions when such contributions are permissible. The bulletin
indicates that automatic acceptance of an in-kind contribution may violate
ERISA Sections 404(a)(1)(A) addressing the exclusive benefit rule,
404(a)(1)(B) addressing the Prudent Investor Rule, and/or 404(a)(1)(C)
regarding the lack of diversification. If accepting an in-kind contribution
results in ERISA violations of 404(a)(1)(A), (B), and/or (C); the fiduciaries
of the plan would be liable for any losses resulting from such a breach of
fiduciary responsibility, even if the contribution in-kind does not constitute
a prohibited transaction under ERISA Section 406.
Derivative investments are not automatically contrary to ERISA's provisions. It
should, however, be considered imprudent and an apparent violation of ERISA
Section 404(a)(1)(B) if an employee benefit plan invests in derivatives
without: (1) understanding the investment vehicle, (2) realizing that the
investment involves derivatives, either directly or through a pooled investment
vehicle which uses derivatives; (3) adequately evaluating the market, legal,
credit and operational risks associated with investments in derivatives; (4)
obtaining timely and accurate market prices for investments in derivatives; and
(5) adequately monitoring investments in derivatives. For a further discussion
of derivatives, associated risks, and considerations in evaluating prudence,
subsection F.2.C of Section 3 of this Manual. In addition,
refer to the Labor
Department letter issued to the Office of the Comptroller of the Currency
regarding Investments in Derivatives dated March 21, 1996 (refer to
One of the problems associated with derivatives is the inability to properly
price and value the investment, both at acquisition and during the period that
the investment is held. Often, derivatives are overvalued at book value, rather
than the lower market value. Failure to value such investments at a fair market
value for employee benefit plans may have two further consequences on:
Fees - If the plan's fees are based on its asset size, as is common, the
overvaluation of derivatives will cause the plan to pay unwarranted fees.
Reports - The overvaluation of the derivatives will normally result in a
parallel failure to accurately report the plan in regulatory filings,
particularly the Form 5500
annual report. In such cases, an appropriate violation for inaccurate
reporting should be cited.
H.5.c.(3). Economically Targeted
Investments (ETIs or Social investing)
Social investing is an investment approach whereby the investor attempts to
inject non-investment criteria into the investment process. Normally, the
investment manager desires to either promote or endorse a non-investment
criteria or attempts to criticize or avoid certain criteria (for example,
promotes environmentally friendly firms and avoids tobacco firms). The
screening process may deal with Individual companies, or entire countries and
industries. Many times, a potential investment is reviewed through multiple
filters or screens to determine whether the non-investment goals can be met.
In 1994, the Labor Department issued
Interpretive Bulletin 94-1 dealing with ETIs. The bulletin
indicates that an ETI philosophy is not, in and of itself, imprudent. The
Interpretive Bulletin states that ETIs are subject to the same standards as any
other plan investment in that the investment must be: (1) prudent, (2)
authorized by the plan, and (3) considered in light of other available
investment alternatives. In accordance with the standard of care (Section 227)
and duty of loyalty (Section 170) in the Prudent Investor Rule, an ETI would
not be prudent if it would be expected to provide a plan with a lower rate of
return than available alternative investments with commensurate degrees of
risk, or if the ETI is riskier than alternative available investments with
commensurate rates of return. Refer to
Section 3 of this Manual for additional comment.
H.5.c.(4). ESOP Plans - Employer
Securities Investments - Prudence
Some ESOPs are sponsored by companies which are encountering difficulties (for
example, banks with low capital) or are in declining industries. While the ESOP
plan document may restrict plan investments to employer stock, the prudence of
such an investment may be open to question. This is especially true if the
employer eventually fails, the plan's employer stock become worthless, and
hindsight is used.
A number of court challenges have been brought against bank trustees who
followed the plan document and continued purchasing employer stock, even as the
employer trended toward eventual failure. The actual failure of the employer is
not necessarily required for a challenge -- merely the loss of a major portion
of the stock's value. The fact that the trustee followed the plan document
which authorized no other investment vehicle, has not always been a sufficient
defense for the trustee. In addition, the price paid by the plan for the
employer stock may be called into question.
Court decisions have reportedly differed, in some cases deciding for the
trustee and in other cases deciding for the plan participants. A
of court cases appears in Appendix E. The court decisions provide
guidance for how such investment transactions may be evaluated. When an ESOP
invests in employer securities, the examiner should:
Determine if the trustee (bank, directors, officers, plan committee, etc.) is
following the plan document(s) [Reference:
Statewide Bancorp ESOP court case.
Determine if the plan requires investment in the employer securities or if the
language is permissive.
If the plan requires investment in employer securities, the trustee must comply
unless "compliance would be impossible or illegal" or a court
approves a deviation.
If investment language is permissive, prudence is required in the acquisition
and retention of the securities. A fiduciary is presumed to have complied with
ERISA unless the facts and circumstances would defeat or substantially impair
the plan's purpose. If trustees are also directors of officers of the
employer (likely in own-bank plans), they must show that they acted impartially
in investigating available investment alternatives -- particularly if the
employer is experiencing financial difficulty.
In evaluating a fiduciary's prudence when an ESOP's investment
language is permissive, the examiner should evaluate the reasonableness of the
fiduciary's actions based on whether the action:
Complies with the provisions of the plan;
Complies with the goals of the plan; and
Conflicts with the substantive or procedural requirements of ERISA, or the
U.S. Supreme Court Case, Firestone Tire and Rubber Co. v. Bruch, 489
U.S. 101 (1989); and Moench v. Robertson, 62 F.3d 553 (3d Cir. 1995).]
Evaluate, based on the facts presented, if the trustee administered its
investment responsibilities prudently in either continuing or discontinuing the
purchase of the employer stock.
In those situations where the value of the securities and/or the financial
stability of the employer is declining, and in the examiner's judgment the
trustee is acting imprudently, the examiner should criticize the administration
of the account and cite the apparent violation(s) of the applicable ERISA
section(s) [primarily ERISA Section 404(a)(1)(B)].
H.5.c.(5). ESOP Plans - Employer
Securities Investments - Valuation
Many of the ESOPs that FDIC examiners will encounter are sponsored by small
banks and small companies in small towns. The stock of such entities is
typically closely held and not listed or traded on securities exchanges or
NASDAQ. Brokers usually do not make a market for the stock and it is thinly
traded in the local area. The question of fair and proper valuation of such
stock is critical to any ESOP plan.
The valuation of employer stock is covered in both IRS and DOL regulations
applicable to ESOPs. The standard established in DOL regulations requires that
no more than adequate compensation may be paid. IRS regulations expand on this
somewhat by providing that an independent appraiser must be used to establish a
fair price. The IRS stresses that the mere presence of a written appraisal does
not necessarily mean that the appraisal arrived at a fair valuation. Refer to
subsection D.2.e., Employee Stock Ownership Plans (ESOPs)
regarding valuing employer securities in accordance with both IRS and ERISA
Both the DOL and IRS indicate that no one method of valuation is acceptable or
unacceptable in every situation. Examiners must use judgment in assessing if
adequate consideration for the transaction was provided. In general; however,
book value by itself is not considered a sufficient independent basis for
Despite the guidelines above, a number of abuses or potential abuses have
occurred in ESOPs, including those sponsored by banks and bank holding
companies. The abuses often involve insiders of the employer, who set
unrealistically high values for the employer stock. In some instances, the
inflated prices help maintain a market for the employer's stock. In other
cases, the insiders sell their stock to the ESOP at the inflated price. The
FDIC has referred a number of these plans to the Labor Department for apparent
ERISA violations involving the pricing of the employer securities.
Failure to value employer securities at a fair market value for the plan itself
will normally result in an apparent violation of ERISA 404(a)(1)(B). In
addition, failure to value employer securities at fair market value will result
in a parallel failure to accurately report the plan assets in regulatory
filings, particularly the Form 5500
annual report. In such cases, ERISA Section 103(b)(3)(A) should be
cited for inaccurate reporting (refer to DOL ERISA Regulation 2520.103-1(a)(1)
and -1(b)(2)(i) for additional guidance).
H.5.c.(6). Individual Account (Section
of ERISA provides limited relief from certain fiduciary
responsibilities and duties for plans which permit participants to self-direct
their plan investments. Plans such as 401(k) and 403(b) are Individual account
plans. Under Section 404(c), plan participants who direct their own investments
are not considered to be fiduciaries, provided that the conditions set forth in
DOL Regulations under Section 404(c) are met.
Plan sponsors can limit their fiduciary liability if the plan operates in
DOL ERISA Regulation 2550.404c-1. Compliance with the regulation
is optional, but if a plan does not comply with the regulation, the relief
provided by Section 404(c) is not available. The regulation is generally
for transactions beginning with the first day of the second plan year beginning
on or after October 13, 1992. Transactions occurring before that date are
subject only to the general requirements of Section 404(c) of ERISA,
without regard to the specifics of regulation.
Compliance with the regulation generally imposes requirements on the plan, not
the participants. The Individual account plan must permit participants with the
Choose from a broad range of investment alternatives. At least three investment
alternatives must be provided, each of which is diversified and has materially
different risk and return characteristics [see
In practice, the three alternatives will generally consist of the following
types of investment vehicles: (1) a no-risk investment [for example, money
market mutual fund, Short-Term Investment Fund (STIF), or Guaranteed Investment
Contract (GIC)]; (2) a stock investment; and (3) a fixed-income investment.
Employer stock may be a choice but special requirements apply to this
Give investment instructions with a frequency appropriate to the market
volatility of the investment alternatives. Plan participants must be able to
make changes to at least three of the investment vehicles not less than once a
If an investment vehicle permits investment changes more often than quarterly,
the participant must have the ability to immediately roll the proceeds into
another plan investment vehicle that is a low risk, liquid investment choice
2550.404c-1(b)(2)(ii)(C)(2)]. Special provisions are given for
investments in stock of the employer/sponsor.
Diversify investments within and among investment alternatives. [refer to DOL
Obtain sufficient information to make informed investment decisions. This
involves specific disclosures about the plan itself, as well as each
authorized investment alternative within the plan with respect to
participants or beneficiaries of a plan.
2550.404c-1(b)(2)(i)(B)(1) and (2)].
The Labor Department has released special guidance on this requirement to
provide investment information and education to plan participants [see
Bulletin 96-1]. Examiners should be aware that this guidance
applies primarily to plan sponsors, not to bank trustees who service outside
accounts. It will; however, apply to banks and bank holding companies who
sponsor Individual account plans for their own employees. The bulletin will
also apply in those instances where banks provide such investment information
and/or education to outside plan sponsors.
Special provisions are given for investments in stock of the employer/sponsor
Under Section 404(c) of ERISA and the implementing regulation, the plan
sponsor and fiduciaries have no obligation to provide investment advice to plan
participants and beneficiaries. However, the plan sponsor and fiduciaries do
have an obligation (see requirements above) to provide sufficient information
on which the participants can make informed and intelligent decisions.
H.5.c.(7). Loans - Documentation
The FDIC has made a number of ERISA referrals to the Labor Department regarding
loans made by plans where the loans lacked key or common documentation.
Examiners applied normal underwriting or documentation standards that examiners
would expect to find if the loan had been made by the bank itself. Granting of
loans in the absence of such key documentation was cited as an apparent
violation of the ERISA prudence standards. Examples of the documentation
deficiencies reported include nonexistent corporate borrowing authority,
missing financial information, unsupported repayment capacity, and inadequate
For each referral, Labor Department investigators determined that either such
documentation deficiencies did not represent a violation of ERISA, or the
matter did not qualify for further investigation. As a result, examiners should
not cite apparent violations of ERISA Section 404(a)(1)(B) regarding prudence
for such documentation exceptions.
H.5.c.(8). Own-Bank/Holding Company
One common inquiry from examiners involves discretionary investments of an
outside account's assets in the stock of the fiduciary bank or its holding
company. In a
1980 letter to the OCC, the Labor Department stated that a
discretionary investment in own-bank or own-holding company stock was an
imprudent act. DOL commented that such a discretionary investment burdens our
imagination to envision a situation in which a trustee with investment
discretion could make an objective decision, solely on the basis of the
prudence standard, regarding the purchase or sale of its own stock.
In a number of situations DOL has indicated that self-directed or
non-discretionary purchases, sales, and retention of own-bank and own-holding
company stock are permitted. Specific guidance was given for self-directed IRA
purchases and initial public offerings of savings bank stock upon conversion
from a mutual to a stock institution [see
in Appendix E].
H.5.c.(9). Proxy Voting and Corporate
Bulletin 94-2, the Labor Department has stated that
the voting of proxies is a fiduciary responsibility under the prudence
requirements of ERISA. Trustees have the duty to execute proxies unless they
receive proper instructions from the named fiduciary. The absence of explicit
proxy voting instructions in a plan document or trust agreement does not
relieve the fiduciary of the duty to vote the proxies. If the investment
management responsibility has been properly delegated to an investment manager
by a named fiduciary, the investment manager has authority to execute proxies
unless the right to vote proxies (in whole or in part) has been reserved by the
plan to the trustee or named fiduciary. The fiduciary is responsible not only
for voting all proxies which it receives, but also for ensuring that it
receives all proxies to which a plan is entitled. Records must be kept of proxy
The fiduciary duties of prudence and loyalty to participants and beneficiaries
require trustees and investment managers to vote on every proposal that might
affect the value of a plan's investment. In voting proxies, the fiduciary may
consider only those factors that affect the value of a plan's investment. The
impact on the plan participants and beneficiaries of the subject being voted
upon may not be considered. This is especially relevant in cases of leveraged
buyouts or unfriendly takeovers, where the jobs of the participants may be in
The Labor Department has also stated that an activist stance in shareholder
rights is not automatically imprudent. A plan may undertake activities intended
to monitor or influence the management of corporations in which the plan owns
stock. Circumstances where this may occur are in closely-held companies, or
stock intended to be held as a long-term investment. Actions might be
undertaken for such concerns as mergers and acquisitions, capitalization and
debt levels, executive compensation, and long-term business plans.
While a plan trustee is always a fiduciary under ERISA
not all trustees have the same level of
control or authority over the management
of a plan's assets. A directed trustee
is a plan trustee who is, by the terms
of the plan, subject to the direction of
a named fiduciary who is not a trustee.
403(a) of ERISA recognizes that
such trustees have limited authority
and discretion, and, therefore, limits
the fiduciary liability of directed trustees
provided that the directions being carried
out for named fiduciaries are proper, in
accordance with the terms of the plan,
and not contrary to ERISA. On December
17, 2004, DOL issued Field
Assistance Bulletin 2004-03, Fiduciary Responsibilities
Of Directed Trustees, which provides, in
the context of publicly traded securities,
guidance regarding the fiduciary duties
of directed trustees and factors to be
considered in determining whether the directions
of a named fiduciary are "proper." See
FAB 2004-03 for a complete discussion.
H.6. Co-Fiduciary Liability
ERISA Section 405
ERISA Section 405(a) provides that, in general, a fiduciary is liable for
the actions of another fiduciary that breaches fiduciary responsibilities if
Participates knowingly in an act or omission of the other fiduciary.
Undertakes knowingly to conceal an act or omission of the other fiduciary.
Enables the other fiduciary to breach its duties by a failure to comply with
Section 404(a)(1) [Prudence] in the administration of its specific fiduciary
Possesses knowledge of a breach by the other fiduciary and does not make
reasonable efforts under the circumstances to remedy the act.
Examiners must be careful in citing violations of this section as a fiduciary is
not automatically liable for the misconduct of a co-fiduciary. The fiduciary is
required to know that: (1) a co-fiduciary exists, (2) the other fiduciary
participated in the act in question, and (3) the action was a breach of
Fiduciaries with limited required duties (for example, when fiduciary
responsibilities are properly allocated or delegated), do not insulate
themselves from breaches in other areas by other plan fiduciaries. On one hand,
a fiduciary may become liable if it merely knows of a breach of fiduciary duty
by another fiduciary and does nothing to remedy the problem. On the other hand,
failing to adequately monitor the conduct of another fiduciary may be an
imprudent act and cause co-fiduciary liability to be incurred.
One of the remedies often proposed by a fiduciary who learns of a
co-fiduciary's misconduct is to offer resignation of the fiduciary appointment,
thereby attempting to insulate itself from the co-fiduciary's misconduct.
However, mere resignation by the fiduciary as a protest against the breach is
not sufficient. Action must be taken to rectify the breach of fiduciary
A successor trustee is not responsible for breaches of fiduciary
responsibilities by predecessor trustees. However, it cannot ignore any
misconduct by a previous trustee. The successor trustee has a duty to correct
prior improper investments upon assuming responsibilities.
H.6.a. Allocation and Delegation of
Each plan document must designate a named fiduciary as defined in
Section 402(a)(2) of ERISA. While this is often a plan committee, it
may also be Individuals identified by name or position. The named fiduciary is
primarily responsible for managing the plan and for selecting and monitoring
any outside trustees, investment managers, and other fiduciaries.
The allocation of responsibilities usually requires specific authorization in
the plan document. If properly implemented, allocation procedures can protect
named fiduciaries. In addition, proper allocation procedures may permit one
fiduciary to insulate itself from the actions of another fiduciary, despite the
co-fiduciary liability provisions of ERISA Section 405. Refer to
ERISA Section 405(c)(2).
405 of ERISA contain various overlapping provisions dealing with the
allocation and delegation of duties and responsibilities among fiduciaries. Two
significant provisions note that a named fiduciary:
May allocate either trustee responsibilities (authority and discretion to
manage and control plan assets) and/or non-trustee responsibilities (fiduciary
duties that do not involve asset management) to entities, groups, Individuals,
etc., other than those referenced in the plan document as named fiduciaries.
May not allocate trustee responsibilities (non-trustee fiduciary
responsibilities are permissible) among themselves, as named fiduciaries are
jointly and severally liable for such responsibilities.
Trustee responsibilities normally lie with the named fiduciary. However, if the
plan states a non-trustee named fiduciary may appoint outside trustees:
The named fiduciaries are insulated from the actions of the outside trustee.
But, the named fiduciaries must monitor the outside trustee's actions.
The outside trustee is obligated to follow the proper directions of the named
fiduciary. Proper directions are those which follow the plan document and do
not violate ERISA. [References:
ERISA Sections 402(c)(3),
403(a)(1), and 405(c)(3)]
ERISA also permits the named fiduciary to delegate authority to one or more
qualified investment managers. A qualified investment manager is: (1) a bank,
(2) an investment manager registered with the SEC under the Investment Advisors
Act of 1940, or (3) an insurance company which is qualified under the laws of
more than one state to perform services, and which has acknowledged in writing
its fiduciary status with the plan. If responsibilities are delegated to a
qualified investment manager:
Named fiduciaries are insulated from the actions of the investment manager as
The investment manager was prudently chosen and retained.
The investment manager does not violate the fiduciary responsibilities of ERISA
The named fiduciary monitors the performance of the investment manager. This
may occur by formal periodic review, day-to-day contact and evaluation, or
other appropriate means.
Trustees are not responsible for the actions of a properly-appointed investment
manager, even when the trustee is subject to direction from the investment
Where the plan permits, named fiduciaries may allocate responsibility for
non-trustee fiduciary responsibilities among themselves. If the named fiduciary
delegates non-trustee responsibilities, they are not liable for such other
person(s) who carry out these responsibilities, provided that:
H.6.b. Directed Accounts
One aspect of employee benefit account administration that merits special
examiner attention relates to directed accounts. ERISA provides statutory
protection from liability for trustees who follow the directions of
an investment manager as defined in Section 3(38), or of a plan
participant, who is properly authorized in the plan instrument(s) to instruct
the trustee in the investment of plan funds.
For example, many plans permit the sponsor (employer) or the plan
administrative body (Individual, plan committee, etc.) to appoint investment
managers who are authorized to direct the trustee in the selection of trust
investments. Where a duly qualified investment manager has been appointed,
Section 405(c) of ERISA affords the trustee substantive protections in
following the investment manager's directions.
Some plans include provisions authorizing each plan participant, at his or her
election, to direct investment of funds allocated to their account. In these
Section 404(c) affords protection to plan fiduciaries, including
the trustee, if the conditions set forth in
DOL Regulation 2550.404c-1 are met. However, it is not uncommon for the
plan document(s) to permit the employer, plan administrator, or plan
administrative committee to instruct the trustee to retain or dispose of
specific trust assets at their option. Other plans specifically require that
the employer or the plan administrative body direct all investments. Thus,
examiners will frequently find it necessary to determine whether investment
selection by an outside party is merely allowed, or is required by terms of the
plan and trust instruments.
The trustee should insist that all directions received from a participant,
investment manager, employer, or plan administrative body relative to
investment purchases or sales be in writing, whether or not the plan/trust
instruments require such documentation. Where the plan documents require that
investment instructions, or any other instructions, from outside parties to the
trustee be in writing, a trustee's failure to obtain such documentation would
constitute a violation of
Section 404(a)(1)(D) of ERISA.
As a result of the statutory protections afforded directed trustees under
ERISA, many trust managers have taken the position that as long as they
faithfully follow the instructions of an outside party who is duly authorized
to select investments, the bank is fully protected. This is not the situation
in all instances. Where the trustee follows instructions of an outside
fiduciary which violate the prohibited transaction provisions of
Section 406, or the limitation provision relative to holdings of
employer securities or real property of
Section 407 of ERISA, the trustee would be equally liable with the
co-fiduciary. In instances where the employer or plan administrative body
instructing the trustee failed to: (1) adhere to the prudence standards
prescribed in Section 404(a)(1)(B),
(2) diversify plan investments as required by
Section 404(a)(1)(C), or (3) act in accord with the documents and
instruments governing the plan as prescribed by
Section 404(a)(1)(D) of ERISA, the trustee would be exposed to
liability as a co-fiduciary under
Section 405 of ERISA in accepting and acting upon such
H.7. Prohibited Transactions - ERISA
ERISA prohibits a fiduciary of an employee benefit plan from causing the plan to
engage in certain transactions with a "party in interest". Generally,
all transactions with parties in interest are prohibited, even if done on an
arm's length basis. Certain transactions with parties in interest are
exempted from the prohibition, either by statute or by an administrative
exemption granted by the U.S. Department of Labor (DOL).
Section 406, the primary section dealing with prohibited
transactions, is divided into two parts. The first part prohibits fiduciaries
of plans from causing the plan to engage in transactions with parties in
interest. The second part sets forth additional prohibitions on transactions
between a plan and a fiduciary of the plan. ERISA
Section 407 contains special provisions covering securities and
real estate of the employer sponsoring the plan. ERISA
provides the statutory exemptions for certain prohibited transactions and
authorizes the issuance of administrative exemptions by the DOL. All three of
these sections are very pertinent to bank trust departments and own-bank plans.
Examiners need to be aware of provisions that may appear in more than one
section of the law, as well as covered in various exemptions.
A prohibited transaction violation usually generates a corresponding violation
of the fiduciary responsibility provisions (exclusive benefit and/or prudence
rules) of ERISA
Section 404. In drafting Report of Examination comments, the
examiner should bear in mind that the prohibited transaction violation is
generally deemed to be the more concrete and significant of the two sets of
Examiners should note that there is a parallel set of
of the IRC for most types of prohibited transactions. While IRC Section 4975 is
similar to the provisions of ERISA regarding prohibited transactions, the two
are not identical. Where applicable, both sets of violations should be cited.
subsection M, Compliance with the Internal
Revenue Code for coverage of these provisions. Where possible, a
cross reference to IRC Section 4975 is given.
H.7.b. ERISA Insiders - Party in
3(14) of ERISA provides a definition of a party in interest.
Definitions applicable to bank insiders from banking laws and regulations do
not apply. Reference is made to the text of
and the summary of
interpretations for a more complete description.
In general, a party in interest will include the following:
The plan sponsor and its directors and officers.
Fiduciaries, legal counsel, and employees of the plan. Fiduciaries include plan
administrators, investment managers and trustees of the plan.
Service providers and their directors, officers, and employees.
Certain subsidiaries, affiliates, and controlling shareholders of parties in
interest are themselves considered parties in interest, as well as relatives of
certain parties in interest.
Section 3(15) defines the term relative as a spouse, ancestor, lineal
descendant, or spouse of a lineal descendant [also see
A bank normally serves in one or more of the primary party in interest
positions. For own-bank plans, the bank is the plan sponsor and therefore a
fiduciary, and also may also be a service provider. For outside plans, the bank
may serve as fiduciary and service provider. Examiners should note that a bank
serving as a mere custodian is generally not a fiduciary (As explained in
subsection H.7.c., the definition of fiduciary is a functional one.),
but is a party in interest under ERISA.
The chart below is a summary of the major party in interest provisions. For
each of the primary party in interest positions, the chart indicates if the
organization/Individuals, directors and officers, owners, and affiliates are
considered to be a party in interest. Reference is made to the appropriate
section(s) of ERISA. For further details, consult the definition of a
party in interest and ERISA Section 3(14) in Appendix E [Also see
ERISA INSIDERS (Party
Corporations, Partnerships, Joint Ventures, Trusts, and Estates
H.7.c. Prohibited Transactions With
Parties in Interest
406(a) of ERISA prohibits a fiduciary from causing an ERISA plan to
engage in five general types of transactions between the plan and parties in
interest, if the fiduciary knows or should know that the transaction
constitutes a direct or indirect:
Selling, exchanging, or leasing of any property [see
Section 406(a)(1)(A) and
Lending of money or other extensions of credit [see
Section 406(a)(1)(B) and
Exceptions exist for own-bank deposits, overdrafts, repurchase agreements,
securities lending, and loans to plan participants. See Special Examination
Furnishing goods, services, or facilities [see
Section 406(a)(1)(C) and
IRC 4975(c)(1)(C)]. Much of this prohibition is negated by the
ancillary service exemptions in
Transferring of plan assets to a party in interest, or use of plan assets by
(or for the benefit of) a party in interest [see
Section 406(a)(1)(D) and
Acquiring or holding of sponsor employer securities or employer real property.
Special exemptions are included in
Section 407, with different provisions for different types of
plans [see Section
406(a)(1)(E)]. There is no parallel IRC provision, but see
subsection H.5.c.(5) for special IRC rules for
Transactions are prohibited even when done on an arm's-length basis.
ERISA Section 408 and related DOL Regulation
2550.408 contain a number of statutory exemptions
for transactions covered by Section 406. In addition, the DOL has issued a
number of official interpretations and class exemptions for transactions
covered by Section
H.7.d. Prohibited Transactions With
of ERISA prohibits three general types of self-dealing transactions between
ERISA plans and fiduciaries, even if done on an arm's-length basis. The
fiduciary is prohibited from:
As is the case with Section 406(a), there are statutory exemptions, as well as
DOL interpretations and transaction class exemptions, that cover certain
transactions covered by Section 406(b).
H.7.e. Prohibited Transaction
Liabilities of Non-Fiduciary Parties In Interest
As explained above, ERISA Section 406 prohibits fiduciaries from causing a plan
to engage in a prohibited transaction. In Harris Trust and Savings Bank v.
Salomon Smith Barney, Inc., No. 99-579, 120 S.Ct. 2180, (June 12,
2000), the U.S. Supreme Court held that non-fiduciary parties in interest who
participate in prohibited transactions also may be held liable under ERISA.
Salomon Smith Barney, Inc. (Salomon) provided broker-dealer services to the
Ameritech Pension Trust (APT). Salomon acted on a non-discretionary basis,
subject to the direction of APT's investment manager. Solomon accordingly
was considered a party in interest, but not a fiduciary, of APT. APT's
trustee, Harris Trust and Savings Bank, sued Salomon when certain motel
interests sold by Salomon to APT were discovered to be nearly worthless.
Solomon had provided financing for two motel chains and, in exchange, received
a percentage of the net cash flow generated by the motels and a share of any
increase in the property value. Solomon sold these interests to APT. Both
motels went bankrupt shortly after being sold to APT.
The action was brought under ERISA Section 502(a)(3), which authorizes civil
actions to obtain "appropriate equitable relief" to redress
violations of ERISA, and sought rescission of the transaction, restitution and
disgorgement of profits. Salomon moved for summary judgment, noting that ERISA
Section 406 applies only to fiduciaries, and asserting that "absent a
substantive provision of ERISA expressly imposing a duty upon a non-fiduciary
party in interest, the non-fiduciary party may not be held liable under ERISA
The Supreme Court rejected Salomon's position. It stated that ERISA
Section 502(a)(3) "itself imposes certain duties, and therefore . . .
liability under that provision does not depend on whether ERISA's
substantive provisions impose a specific duty on the party being sued."
Actions under ERISA Section 502(a)(3), the Supreme Court found, are not limited
to specific defendants, but are limited by the requirement that relief sought
be "appropriate equitable relief."
Utilizing a similar analysis, several other courts have found that entities
that are neither parties in interest nor fiduciaries may be sued under ERISA
Section 502(a)(3) for participation in a prohibited transaction. See LeBlanc v.
Cahill, 153 F.3d 134 (4th Cir. 1998); Reich v. Compton,
57 F.3d 270 (3d Cir. 1995).
H.7.f. Special Examination Applications
of Prohibited Transaction Provisions
A number of areas not specifically covered in the ERISA statute are particularly
relevant to banks and trust departments. Many of the topics have been the
subject of inquiries by examiners and bankers and subject to criticism in
examination reports. In some cases, banks have been subject to Labor Department
lawsuits or investigations, plan or beneficiary reimbursements, and/or penalty
payments. The topics most relevant to examiners are noted below and grouped
alphabetically by topic.
AO 2003-09A -
ABN AMRO Trust Services Company:
H.7.f.(1). Brokers Executing Securities
Prohibited Transaction Class Exemption
(PTE) 86-128 is designed more for securities brokers who execute
transactions for ERISA plans than it is for banks and trust departments.
However, there are several portions which are very applicable to trust
departments. In general, PTE 86-128 permits fiduciaries to execute securities
transactions for ERISA accounts. The PTE states to what extent the fiduciaries
may charge and retain commissions on the transactions.
PTE 86-128 is based on the ancillary services statutory exemption of
Section 408(b)(2). The PTE provides relief only from the
prohibited transaction provisions of ERISA Section 406(b), which involves
plan transactions with a fiduciary. Direct and indirect sales (or other
underlying transactions) under ERISA Section 406(a) between an ERISA plan
and a party in interest are not covered.
There are a number of other exclusions from the PTE that are relevant to trust
departments. Custodians, non-discretionary trustees, and trustees of
self-directed plans are excluded from the general definition of trustee. In
addition, it explicitly does not exempt churning of account assets, inter-trust
transactions where the bank has discretion on both sides of a transaction, and
transactions of IRAs.
PTE 86-128 deals with securities transactions which occur in several
Non-Profit Basis - Under the PTE, any fiduciary (including trustees,
plan administrators, and plan sponsors) may execute securities transactions for
Individual ERISA plans if all profits earned in connection with the
transaction are credited back to the plan. This is termed a recapture. Both
direct and reasonable indirect costs (including overhead) of executing the
transaction may be retained. The nonprofit approach would apply to both
discretionary and non-discretionary trust department accounts.
Profit Fees Charged - The PTE permits broker-dealers to execute
securities transactions for ERISA accounts and charge commissions to make a
profit. Ordinarily, a broker providing services to an ERISA plan is a party in
interest, and the plan is prohibited from having any transactions with such an
This portion of the PTE covers fiduciaries who are not trustees, plan
administrators, and plan sponsors. As such, it would cover bank-affiliated
securities brokers, custodians, non-discretionary trustees, and trustees of
Collective Investment Funds (CIFs) - For CIFs with ERISA accounts, the
recapture method is authorized. Alternatively, commissions from CIF
transactions may be retained if:
The employer-bank's ERISA plan(s) amounts to no more than 20% of the CIF, and
The total commissions from all CIFs containing the employer-bank's ERISA
plan(s) amount to no more than 5% of all brokerage commissions received by the
bank during the calendar year.
These provisions seem primarily aimed at preventing abuses by the bank of its
own-bank ERISA plan(s) invested in the bank's CIFs. The conditions are intended
to prevent undue commissions from being paid by the bank's plan(s) to a
bank-affiliated broker through the medium of the CIF transactions.
Inter-Account Transactions - These transactions (agency cross
transactions), where the buyer and seller of a security use the same broker,
are permitted, if certain conditions are met. Inter-trust account transactions,
where the bank has discretion over both accounts, are not included in this part
of the PTE.
PTE 86-128 also sets conditions for Individual plans pertaining to: (1)
Information, (2) Non-discretionary Status, (3) Authorization, (4) Disclosure
and Approval, (5) Confirmations, and (6) Summary Reports. Refer to the
PTE 86-128 for further details.
H.7.f.(2). Contributions, In-Kind
Instead of making a cash contribution to an employee benefit plan, some plan
sponsors have attempted to make a contribution of non-cash assets, usually
termed an in-kind contribution. Based on a Supreme Court case, the Labor
Interpretive Bulletin 94-3, which indicates that a prohibited
transaction exists when the plan sponsor makes such a contribution to defined
benefit and certain defined contribution and welfare benefit plans.
An in-kind contribution to a defined benefit plan by a plan sponsor
constitutes a prohibited transaction in violation of
ERISA Section 406(a)(1)(A) and a violation of
IRC Section 4975(c)(1)(A).
The transaction constitutes a prohibited transaction because such a
contribution would be credited to the plan's funding standard account.
Such an in-kind contribution is considered a prohibited transaction even if the
value of the contribution exceeds the funding obligation for the plan year, as
it would be credited against future funding obligations.
An in-kind contribution to a defined contribution plan or a welfare plan
is considered a prohibited transaction if it reduces an obligation of the plan
sponsor to make a contribution measured in terms of cash amounts. As an
example, the Interpretive Bulletin states that an in-kind contribution to a
profit sharing plan, the terms of which require the employer to make annual
contributions of a specified percentage of profits, would be considered a
prohibited transaction, even if the terms of the plan permit an in-kind
contribution. On the other hand, an in-kind contribution to a plan which is
funded solely at the employer's discretion would not constitute a
Bulletin 94-3 also provides details about a fiduciary's duty to review
in-kind contributions. This is covered in the material for
Section 404 of ERISA dealing with fiduciary responsibilities in
H.5.c.(1), Contributions, In-Kind.
H.7.f.(3). Float Management
When employee benefit funds are distributed from a trust account, funds are
transferred from the trust account to a general Demand Deposit Account (DDA)
for the trust department. This DDA is normally with the commercial side of the
bank. Until the checks are returned and paid, the bank earns the float from the
demand deposit balance.
Advisory Opinion 93-24A and a follow-up
to the American Bankers Association, DOL indicates that a violation
ERISA Section 406(b)(1), and possibly
406(b)(3), may occur. The DOL asserted that this would be the case
regardless of whether the funds are technically considered
plan assets after they were transferred from the trust. On November 5,
2002, the DOL issued Field Assistance
Disclosure and other Obligations Relating to “Float, ” in which
DOL discusses the factors that a fiduciary must consider
in assessing the reasonableness of an agreement wherein
a service provider retains float and the disclosure
requirements for service providers under such an arrangement.
The statutory ancillary services exemption of
ERISA 408(b)(6) does not include the float earned by the fiduciary
bank from a DDA to the extent that it is reasonably possible to earn a return
on such funds. Retention of float would be permissible; however, if it was a
part of the trust department's overall compensation from the plan and if
appropriate disclosures regarding the use of float were provided to the plan.
H.7.f.(4). Foreign Exchange
Protection Act of 2006 added a statutory exemption for
foreign exchange transactions. See Section H.9.l for details
concerning the exemption contained in
408(b)(18). Prior to the enactment of the statutory exemption, DOL
issued several PTEs covering certain foreign exchange transactions.
Class Exemption 94-20 (PTE 94-20) permits banks and broker-dealers
to effect foreign currency exchanges and foreign currency
options transactions for
employee benefit plans for which the banks or broker-dealers
are parties in interest. To qualify for PTE 94-20, the transactions may be performed only
for non-discretionary accounts or upon the direction of an independent
fiduciary. In addition, the terms of the transaction must be the same afforded
on an arm's-length basis, written policies must be maintained, written
confirmations (with specified contents) must be provided, and appropriate
records retained for six years. PTE 94-20 is effective for transactions
incurred on June 18, 1991, and later. Provisions are also included
for transactions prior to that date. The full text of PTE
94-20 can be found in
Under the Labor Department's
Transaction Class Exemption 98-54 (PTE 98-54), [located in
Appendix E], the following foreign exchange transactions between
employee benefit plans and banks or broker-dealers (which are trustees,
custodians, fiduciaries or other parties in interest with respect to the
plans), are permitted pursuant to standing instructions:
conversions of interest, dividends or other securities distributions into U.S.
dollars, or into other currencies, in an amount equivalent to no more than
$300,000 U.S. dollars. Note: As stated in footnote 4 of
98-54, although the Department of Labor believes that the $300,000
threshold is appropriate for large plans that purchase and sell foreign
securities, the Department notes that such dollar limitations may not be
appropriate for smaller plans (e.g., plans with aggregate plan assets of less
than $50 million), and
the purchase or sale of foreign currencies in an amount equivalent to no more
than $300,000 U.S. dollars, in connection with the purchase or sale of foreign
The exemption contains both retroactive conditions for transactions prior to
January 12, 1999, and prospective conditions for transactions occurring after
that date. Prospective conditions include the following: (1) arm's-length
terms; (2) no discretionary authority or control or investment advice by the
bank or broker-dealer with respect to the plan assets involved in the
transaction; (3) deadlines for trades following the receipt of good funds, and
daily establishment of an exchange rate for the trades; (4) advance written
authorization by an independent fiduciary; (5) written policies and procedures
for handling foreign exchange transactions for plans; (6) written
confirmations; (7) compliance with certain recordkeeping procedures.
H.7.f.(5). Loans to Common Borrowers -
In a number of banks, examiners have found that employee benefit plans sponsored
or administered by the bank have invested plan assets in loans to the same
borrowers as the bank itself. This would appear to violate
Section 406(b)(2) in that the plan's interests are, directly or
indirectly, in conflict with the bank's interests as lender to the same party.
Examiners should review the performance and credit quality of such loans,
applying normal loan examination standards. Where loans are delinquent,
appropriate comments should be made and the examiner should also review the
procedures used to monitor loan performance. Examiners should also sample the
status of loans made by the commercial loan department to the same borrowers.
When both loans are delinquent, examiners should
provide details of both sets of loans and also review adequacy of procedures to
protect the plan's interests. In several instances, examiners have noted
favoritism given to the loans made by the bank over those made by the plan.
Examiners should be aware that, like any investment, loans of this nature may
represent a violation of the diversification and prudence requirements of
Section 404(a)(1). The bank must also be able to demonstrate that
it exercised the appropriate consideration of
Regulation 2550.404a-1 regarding investment duties for investing
plan assets in a loan where the plan's interests conflict with that of the
H.7.f.(6). Loans to Common Borrowers -
FDIC examiners have encountered a number of instances where a bank used an
employee benefit plan to circumvent state legal lending limits. When the amount
of a loan (or credit line) exceeds the bank's legal lending limit, either a
separate loan is made by an employee benefit plan or the employee benefit plan
participates in the bank's loan. This is clearly a conflict of interest and
self-dealing, irrespective of the credit quality of the borrower.
The primary ERISA violation in such cases is
Section 406(b)(1) in that the transaction would primarily have
taken place to enable the bank to make the loan or keep a customer
relationship, which would otherwise have violated state law.
Section 404(a)(1)(A), which requires that the plan be operated
exclusively for the benefit of plan participants and beneficiaries, would
coexist with the Section 406(b)(1) violation. The bank is also likely to
be in violation of
ERISA Section 406(b)(2). The bank's interests as a lender to the
same borrower as the plan would, directly or indirectly, be in conflict with
the interests of the plan.
Examiners should be aware that, like any investment, loans of this nature may
represent a violation of the diversification and prudence requirements of ERISA
Section 404(a)(1). The bank must also be able to demonstrate that it
exercised the appropriate consideration of
DOL ERISA Regulation 2550.404a-1(b)(2) regarding investment duties
for investing plan assets in a loan where the plan's interests conflict with
that of the bank.
H.7.f.(7). Loans - Takeout Financing
In a number of instances, a bank has granted construction loans in conjunction
with ERISA employee benefit plans. The bank will provide the short-term
construction loan and the employee benefit plan will fund the long-term
financing for the same construction project. This type of arrangement is a
prohibited transaction in violation of
ERISA Section 406(b)(1) and 406(b)(2) because the plan is
providing the financing to pay off the bank's loan. In addition, the
construction loan was most likely granted with the knowledge that the ERISA
plan would provide the permanent financing.
H.7.f.(8). Loans - Own-Bank Origination
Employee benefit plans may invest in loans if authorized by plan documents. A
trust department may utilize the experience and facilities of the bank's loan
department to originate and service loans for employee benefit accounts. Such
arrangements are not prohibited transactions so long as the bank either charges
no fee or charges no more than its direct costs of performing these services
for the plan. Indirect costs may not be charged to the plan.
When the bank acts as a loan originator, great care must be taken to ensure
that all of the loan documents are either (1) in the plan's name, or (2) in the
name of the bank as trustee or agent of the plan. If the loan documents are in
the bank's name, there is a presumption that the loan was made by the bank and
sold to the plan, which would be a prohibited transaction in violation of
ERISA Section 406(a)(1).
When the bank acts as a loan originator and the borrower pays certain fees to
obtain the loan (such as a loan origination fee), all of these fees must flow
back to the plan, and not be retained by the bank. If the bank retained such
fees, it would be a prohibited transaction in violation of
ERISA Section 406(b)(3).
H.7.f.(9). Mortgages (Residential),
Transaction Class Exemption (PTE) 82-87 (as amended by PTE 88-59),
permits employee benefit plans to participate in transactions related to
residential mortgage financing, including commitments for the provision of
mortgage financing, receipt of commitment fees, the making or purchase of loans
or participation interests, and the sale, exchange or transfer prior to the
maturity date of mortgage loans or participations in mortgage loans. The PTE
applies to mortgage loans on single or multiple residential dwelling units,
such as detached houses, townhouses, and condominiums.
The exemption is necessary in the case of plans that engage in mortgage
financing transactions with parties in interest. The exemption provides relief
only from ERISA
Section 406(a), and not
ERISA Section 406(b).
General conditions exist for relief under the PTE, including
mortgage loans acquired must be "recognized mortgage loans" or
participation interests in such loans. "Recognized mortgage loans"
are defined as either residential mortgages eligible for purchase by FNMA,
GNMA, FHLMC, or Federal Housing Administration insured GNMA tandem project
residential mortgage loans.
loans must be made for the purchase of a residential dwelling unit(s).
mortgage loans must be originated by an independent established mortgage
the price paid or received by the plan must be at least as favorable as
available in a similar transaction involving unrelated parties.
certain Individuals may not be fiduciaries with respect to the plan's
decision to engage in the transaction, including developers and builders of the
units, lenders, and existing owners of the mortgage or participation interests.
the decision to engage in the mortgage financing transaction must be made by an
independent qualified real estate manager. This is a financial institution or
business organization that advises institutional investors in similar
investments and which acknowledges in writing that it will make relevant
decisions in the capacity as a fiduciary.
the plan must maintain records for the duration of any loan made pursuant to
the exemption sufficient to demonstrate compliance with the exemption.
The PTE also contains specific conditions applicable to commitments to purchase
either a mortgage loan or a participation interest, and for the purchase of
H.7.f.(10). Mutual Funds, Conversion
from Collective Investment Funds (CIFs)
In a 1994 letter to the
OCC's trust examination section (see Appendix E), the Labor Department
indicated that a transaction involving a CIF used by ERISA accounts which
converted into a proprietary mutual fund would represent a prohibited
ERISA Sections 406(a) and
406(b). The opinion letter specifically notes that
PTE 77-4 [located in Appendix E] covers the acquisition and
sale of mutual funds for cash, but it does not provide relief for conversion
transactions. The Labor Department took the position that a prohibited
transaction occurs because the bank, as an ERISA plan fiduciary, is involved in
Transferring plan assets to itself (by imposition of mutual fund fees) in
violation of ERISA Section 406(a)(1)(D).
ERISA applies because, as either investment advisor or custodian of a mutual
fund, the bank (or an affiliate) gains financially through increased fee
income. Fee income is increased by investing ERISA plan assets in an investment
vehicle where the bank/affiliate's investment advisor or custodian fees are
dependent on the amount of assets invested in the mutual fund.
Dealing with itself (or an affiliate) on both sides of the conversion
transaction, in violation of ERISA Sections:
406(b)(1), dealing with itself, which constitutes self-dealing;
406(b)(2), by serving on both sides of the transaction; and/or
406(b)(3), by receiving fees based on the transaction.
In 1997, the Labor Department issued
Transaction Exemption 97-41 (PTE 97-41) [which is located in
Appendix E], providing relief from the prohibitions of ERISA
Sections 406(a), 406(b)(1) and 406(b)(2) for conversions of CIFs into mutual
funds, and the investment of employee benefit plans in the converted funds.
Note that no exemption is provided from the prohibition of ERISA Section
406(b)(3). PTE 97-41 permits employee benefit plans to: (a) purchase shares of
a mutual fund advised by a bank or investment adviser which is also a fiduciary
to the plan, (b) in exchange for assets transferred in-kind from the CIF,
(c) when the plan's assets are completely withdrawn from the CIF.
These transactions are also subject to in-kind asset transfer requirements of
SEC Rule 17(a)-7, issued under the Investment Company Act of 1940
[17 C.F.R. 270.17(a)-7]. PTE 97-41 is retroactive from
October 1, 1988.
PTE 97-41 requirements for the in-kind transfer of plan assets and purchase of
mutual fund shares are virtually identical for retroactive exemptions of
previous transactions (occurring between October 1, 1988 and
August 8, 1997), and later transactions. In both cases, the transfer
and purchase must be in connection with a complete withdrawal of an employee
benefit plan's assets from a CIF. Conversions occurring after
August 8, 1997 must meet the following conditions:
No sales commissions or other fees are paid by the employee benefit plan in
connection with the purchase of mutual fund shares.
All transferred assets are securities for which market quotations are readily
available, or cash.
The transferred assets constitute the employee benefit plan's pro rata portion
of all assets that were held by the CIF immediately prior to the transfer.
The employee benefit plan receives mutual fund shares that have a total net
asset value equal to the value of the plan's transferred assets on the date of
the transfer, in accordance with SEC Rule 17a-7.
An independent fiduciary with respect to the employee benefit plan receives
advance written notice of the in-kind transfer and purchase of assets, and full
written disclosure of information concerning the mutual funds, including:
A current prospectus for each mutual fund to which the CIF assets may be
Fees to be paid by an employee benefit plan and the mutual funds to the Bank or
Reasons why the Bank or Plan Adviser considers the transfer and purchase to be
appropriate for the employee benefit plan;
Limitations with respect to plan assets which may be invested in shares of the
mutual funds, and, if so, the nature of such limitations;
The identity of all securities to be valued in accordance with SEC Rule
The identity of fixed-income securities to be allocated on the basis of each
employee benefit plan's pro rata share of the aggregate value of such
An independent fiduciary must give prior written approval for each purchase of
mutual fund shares in exchange for the employee benefit plan's assets
transferred from the CIF.
An independent fiduciary of each employee benefit plan is provided, in writing:
Within 30 days of purchase--(i) The identity of each transferred security that
was valued in accordance with Rule 17a-7(b)(4); (ii) The current market
price, as of the date of the in-kind transfer, of each such security; and (iii)
The identity of each pricing service or market-maker consulted in determining
the current market price of such securities.
Within 105 days following each purchase--(i) The number of CIF units held by
the plan immediately before the in-kind transfer, the related per unit
value, and the total dollar amount of such CIF units; and (ii) The number of
shares in the mutual funds held by the plan immediately following the
purchase, the related per share net asset value, and the total dollar amount of
With respect to each of the mutual funds which an employee benefit plan
continues to hold shares acquired in connection with the in-kind transfer, the
Bank or Plan Adviser must provide the independent fiduciary--(i) A prospectus
of such fund annually; and (ii) Upon request, a description of all fees
paid by the fund to the Bank or Plan Adviser.
The combined total of all plan fees received by the Bank or Plan Adviser must
not be in excess of "reasonable compensation" within the meaning of
of the Act.
All dealings in connection with the in-kind transfer and purchase between the
employee benefit plan and a mutual fund must be on a basis no less favorable to
the employee benefit plan than dealings between the mutual fund and other
As noted above, the PTE does not provide relief for prohibited transactions in
ERISA Section 406(b)(3). However, the PTE provides that a transaction
that complies with the exemption is deemed to satisfy certain conditions under
PTE 77-4 (which does provide such relief), and therefore may qualify under that
exemption if the additional conditions are met. PTE 77-4 provides relief for
ERISA Section 406(a) and 406(b), including 406(b)(3). Accordingly, a bank that
PTE 97-41 may receive investment management and advisory fees with
respect to the plan's assets invested in the fund if it complies with the
additional requirements of PTE 77-4.
Another type of CIF conversion, involving liquidation-to-cash of a CIF's
assets, with simultaneous rollover of the cash proceeds into a mutual fund, is not
considered an ERISA prohibited transaction. Further, employee benefit CIFs are
permitted by the IRS to convert into a mutual fund using the
liquidation-to-cash method without being subject to capital gains taxes.
Examiners should consider conversions of ERISA CIFs into proprietary mutual
funds which fall outside the requirements of PTE 97-41, or the
liquidation-to-cash method, to be a prohibited transaction.
A bank electing to convert a CIF through an in-kind transfer of assets which
does not meet the conditions of PTE 97-41 may seek an Individual prohibited
transaction exemption from the DOL. See e.g., Allfirst Bank, 64 FR 57129;
Pacific Income Advisors, 63 FR 60408; Society National Bank, 61 FR 44081. [See
29 C.F.R. 2570.30 -.52 Individual and Class Prohibited
Transaction Exemption Requests, which replaced ERISA
Procedure 75-1, for information about the requirements for requesting
The DOL staff has indicated its primary concerns involve (i) the proper
valuation of the CIF and mutual fund assets, and (ii) various fees and
commissions which may be levied, together with the disclosure.
Some bank counsel have suggested that PTE 84-24 regarding Transactions
Involving Insurance Agents and Brokers, Pension Consultants, Insurance and
Investment Companies, and Investment Company Principal Underwriters, may
provide an alternative approach to PTE 77-4. The Labor Department staff
has verbally indicated that this is an unsatisfactory approach.
H.7.f.(11). Mutual Funds, Investment in
Proprietary (Own-Bank or Affiliated) and Advised
A bank that exercises its discretionary authority to cause an employee benefit
plan to invest in the bank's proprietary mutual funds or in mutual funds
advised by a bank's trust department would be engaging in a prohibited
ERISA Sections 406(b)(1) and
406(b)(3). The bank (and its holding company or an affiliate) receives
a management fee from the mutual fund based on the amount of assets advised.
The placement of plan assets in the mutual fund thus generates direct or
indirect compensation for the bank and represents a conflict of interest
prohibited by ERISA Section 406(b).
Prohibited Transaction Class Exemption 77-4 (PTE 77-4)
permits employee benefit plans to invest in mutual funds which are
proprietary to or advised by a bank that is a fiduciary to such plans. If
certain requirements are satisfied, PTE 77-4 exempts fiduciaries from the
ERISA Sections 406(a) and
406(b). In general, PTE 77-4 applies differently to discretionary
and non-discretionary accounts as follows:
Applicability to Discretionary ERISA Accounts
An independent fiduciary must approve purchases and sales of the proprietary
mutual fund for the account. The approval must be:
Indicated in writing prior to
each Individual purchase or sale of the fund,
Indicated in writing prior to
the commencement of a specified purchase program, or
Set forth in the plan documents or in the investment management agreement
between the plan and the fiduciary/investment advisor.
No sales commission load is paid in connection with the purchase.
No redemption fee is paid, unless the fee is:
Paid only to the mutual fund,
Disclosed in the prospectus both at the time of the purchase and at the time of
No investment management/advisory fee is paid to the mutual fund for the entire
period of the investment, subject to specific limitations.
The independent fiduciary receives mutual fund prospectuses, written
disclosures of investment advisory and other fees charged, notification of any
fee changes, and analyses of the advantages of the affiliated arrangement.
Applicability to Non-Discretionary ERISA Accounts
PTE 77-4 also applies to non-discretionary transactions. Only the three
conditions above involving fees would apply in all cases. The final
condition above covering prospectuses would be satisfied if the party
making investment decisions receives the specified information noted above.
PTE 77-4 was released in 1977 and was not intended specifically for
bank-related or bank-affiliated mutual fund investments. The PTE was intended
for mutual funds operated by insurance companies and securities brokers.
Nonetheless, it is the primary guidance available at this time to evaluate
similar arrangements in banks and trust companies.
The Labor Department has released two Advisory Opinions (AO) applying
PTE 77-4 to banking-related situations.
AO 93-13A provides guidance on how PTE 77-4 applies to
affiliated mutual funds and
AO 93-26A provides guidance on how the PTE applies to the use of
affiliated mutual funds by IRA and Keogh accounts.
H.7.f.(12). Investment of Own Bank
Employee Benefit Plans In Proprietary Mutual Funds
As discussed in the
Collective Investment Fund Conversion section above, the Labor
Prohibited Transaction Exemption 97-41 (PTE 97-41), [located in
Appendix E], provides relief from
ERISA Section 406 violations for conversions of CIFs into mutual funds,
and the investment of employee benefit plans in the converted funds. However,
it does not provide a specific exemption for the investment of a bank's
own employee benefit plans in mutual funds which are sponsored, advised, or
underwritten by the fiduciary bank, or any of its affiliates.
Exemption 77-3 (PTE 77-3), [located in Appendix E] provides
relief from ERISA Sections 406 and 407(a) for transactions involving the
purchase or sale of shares of registered open-end investment companies by plans
covering employees of the mutual fund, its investment advisor, its principal
underwriter and affiliates of such entities.
The exemption is conditioned on the following:
the plan may not pay plan-level advisory fees to an investment advisor,
principal underwriter or affiliated person.
the plan may not pay a redemption fee in connection with the sale by the plan
to the mutual fund of shares unless the redemption fee is paid only to the
mutual fund and the existence of the fee is disclosed.
the plan may not pay a sales commission in connection with the purchase or sale
all dealings between the plan, the mutual fund, the investment advisor or
principal underwriter and any affiliate must be on a basis no less favorable to
the plan than dealings with other shareholders of the fund.
PTE 77-3 was not initially intended to cover banks. Nonetheless, it,
together with Department of Labor
Advisory Opinion 98-06A (AO 98-06A), [located in Appendix E],
applies to bank sponsored plans. The AO 98-06A addresses investment in
kind by own-bank plans in funds advised by the bank. The AO provides that
relief is available not only for cash purchases of mutual fund shares, but also
for transactions involving the exchange of securities held on behalf of a plan
for shares of the mutual fund. The AO further provides that
PTE 77-3 requires the same methodology as
PTE 97-41 for valuing the assets of the plan and determining the number
of shares of the fund received by the plan. The AO clarifies that PTE 77-3
would not provide relief for a prohibited transaction arising in connection
with terminating a CIF, permitting certain plans to withdraw from a CIF that is
not terminating, or transferring any plan assets held by a CIF.
The July 30, 1998 opinion, issued in response to an inquiry by
Federated Investors, provides the following cautionary notes:
"...a plan fiduciary considering the in-kind acquisition of shares of a
mutual fund advised by the bank in exchange for assets of the bank's
in-house plan must insure that the fiduciary's or the bank's interest
in attracting and retaining investors in the mutual fund does not conflict with
the interests of the plan or its participants and beneficiaries in the
selection of appropriate investment vehicles."
"If the decision by the plan fiduciary to enter into the transaction is
not "solely in the interest" of the plan's participants and
beneficiaries, e.g., if the decision is motivated by the intent to generate
seed money that facilitates the marketing of the mutual fund, then the plan
fiduciary would be liable for any loss resulting from such breach of fiduciary
responsibility, even if the acquisition of mutual fund shares was exempt by
reason of PTE 77-3."
At least two companies, New York Life Insurance Company and First Union
Corporation, have been sued for breach of fiduciary duty by in-house plan
participants in connection with the investment of in-house plans in proprietary
H.7.f.(13). Mutual Funds, Receipt of
Under SEC Rule 12b-1, mutual funds are permitted to pay, from the assets of the
mutual fund itself, certain distribution costs. These payments may take the
form of commission-like payments to organizations which generate large numbers
of transactions in the mutual fund. Not all mutual funds have 12b-1
406(b)(3) prohibits a fiduciary bank from receiving any direct or
indirect compensation for itself from a plan's investment in a mutual
fund, including the receipt of 12b-1 fees. In addition, a bank with
discretionary authority to invest in a mutual fund which pays the bank a 12b-1
fee would violate
ERISA Section 406(b)(1) because it is involved in a conflict of
interest. The Department of Labor has issued several advisory opinions
clarifying the circumstances in which receipt of 12b-1 fees constitutes a
violation of ERISA Sections 406(b)(1) and (3).
The Department of Labor issued
Advisory Opinion 93-13A on the receipt by a fiduciary of 12b-1
fees from mutual funds involving bank proprietary mutual
funds. In Footnote 4 to AO 93-13A, the DOL was unable to conclude
PTE 77-4 would be available for plan purchases and sales of mutual
fund shares if a 12b-1 fee is paid to the fiduciary or
its affiliate. This means
that the purchase of a proprietary mutual fund would be a
prohibited transaction if a 12b-1 fee was paid to a
fiduciary or affiliate.
The Department of Labor has also issued Advisory Opinions
involving discretionary and non-discretionary accounts
which invest in mutual funds which pay 12b-1
fees to fiduciaries. These opinions are discussed below.
Advisory Opinion 97-15A to Frost National Bank, commonly referred
to as Frost and
Advisory Opinion 97-16A to the Aetna Life Insurance and Annuity
Company, commonly referred to as Aetna appear in Appendix
E. The Department of Labor also issued
an interpretive letter to the American Bankers Association
summarizing the issues addressed by these advisory opinions.
An analysis of ERISA and corresponding exemptions and interpretations, leads to
two potential interpretations, one for discretionary accounts and the other for
self-directed and non-discretionary accounts:
Discretionary Accounts - As a general rule,
ERISA Section 406(b)(3) prohibits a fiduciary from using the
control, authority, or responsibilty that makes
it a fiduciary, to cause such fiduciary to receive
any direct or indirect compensation for itself
from a plan transaction, including the receipt
of 12b-1 fees. A bank with
discretionary authority to invest in a mutual
fund which pays the bank a 12b-1 fee would
appear to violate ERISA Section 406(b)(1)
because it is involved in a conflict of
interest that causes itself to receive additional
Opinion letter AO 97-15A - Frost National Bank:
The general prohibition with respect to discretionary authority was tempered in
AO 97-15A to Frost National Bank on 5-22-97. The DOL indicated that
advising plan assets invested in mutual funds which pay additional fees to the
advising fiduciary would generally violate the prohibitions of
Sections 406(b)(1) and (b)(3). The DOL indicated, however, that a
fiduciary would not violate these sections by receiving 12b-1 fees from a
mutual fund if the fiduciary used the fees to offset, on a dollar-for-dollar
basis, a plan's obligation to pay the fiduciary for its services.
The DOL further stated that fiduciaries which
do not advise or exercise authority or control
to cause a plan to invest in a mutual fund,
would not violate these sections merely by
the receipt of a fee or other compensation
from a mutual fund in connection with a plan's
investment. See AO 2003-09A, ABN AMRO Trust
Services Company. It cautioned, however, that
if a fiduciary retains authority to delete
or substitute mutual funds which it makes available
to plans, the fiduciary in fact may, depending
upon the circumstances, exercise discretionary
authority or control to cause the payment of
fees to itself. If the fees were used to offset the plan's liability
to the trustee, however, the fiduciary would
Sections 406(b)(1) and (b)(3).
Finally, DOL's Frost opinion noted that with respect to the standards of
fiduciary conduct stated in
ERISA Section 404(a)(1), the plan fiduciary must assure that the
compensation paid directly or indirectly by the plan to its administrator is
reasonable, taking into account the trustee services provided to the plan in
addition to any other fees or compensation received by the plan administrator
in connection with the investment of plan assets. DOL emphasized that the
responsible plan fiduciaries must obtain sufficient information regarding any
fees or other compensation that the plan administrator receives with respect to
the plan's investments in each mutual fund to make an informed decision as to
whether the plan administrator's compensation for services is no more than
reasonable. In addition, DOL required that plan fiduciaries monitor the actions
taken by the plan administrator in the performance of its duties, to assure,
among other things, that any fee offsets to which the Plan is entitled are
correctly calculated and applied.
Self-Directed and Non-Discretionary Accounts - It is possible
that DOL may exempt such transactions if the use
of the mutual funds generating the 12b-1 fees is
specifically authorized in the plan and if a fiduciary's
receipt of the 12b-1 fees is disclosed in the mutual
fund's prospectus and by the plan.
Opinion letter AO 97-16A - Aetna Life Insurance and Annuity Company:
While the DOL has not adopted a Prohibited Transaction Exemption on this
matter, it did release
AO 97-16A on 5-22-97 to the Aetna Life Insurance and Annuity
Company. The opinion addresses the acceptance of fees by
non-discretionary administrative and record keeping service providers.
In application, the letter indicated the mere receipt of a fee or other
compensation from a mutual fund in connection with a plan's investment
would not in and of itself violate section 406(b)(1)
or (b)(3) if a service provider did not advise or otherwise
exercise authority or control to cause a plan to invest in a mutual fund.
In a cautionary note, the DOL stated that service providers retaining authority
to delete or substitute mutual funds made available to plans might, depending
upon the circumstances, be deemed to exercise discretionary authority or
control to cause the payment of fees to themselves. Once again, the DOL took
the position that if the fees were used to offset the plan's liability to the
trustee, the fiduciary would not violate
Sections 406(b)(1) and (b)(3)
Consequently, examiners should not cite the receipt
of 12b-1 fees by self-directed or non-discretionary
accounts as an ERISA violation or recommend
them for referral to the Department of Labor.
A trustee that provides bundled services to plans, but not
investment discretion, may keep 12b-1 fees from affiliated mutual funds as long
as a fiduciary, who is independent of the trustee and it's affiliates, elects
to include the particular fund as one of the allowed investment elections.
If the trustee, however, provides investment advice
within the meaning of regulation
29 CFR 2510.3-21(c),
the trustee will cause a violation of
Except as noted in the following paragraph, a violation of general fiduciary
Section 406(b)(3)) resulting from the receipt of 12b-1 fees by a
fiduciary from a mutual fund can be cured if the fiduciary rebates the 12b-1
fees back to the trust accounts that generated the transactions. Where the bank
has retained 12b-1 fees without the authorizations or directions noted above,
examiners should recommend that the fees be returned to the accounts that
Financial institutions that operate proprietary mutual funds may attempt to
resolve the ERISA conflict of interest and self-dealing concerns that result
when a proprietary mutual fund collects 12b-1 fees from trust accounts that the
institution administers in a discretionary capacity by rebating or waiving such
fees for trust account shareholders. The proprietary fund, however,
collects 12b-1 fees from non-trust account shareholders. The SEC has
indicated that the waiving or rebating of 12b-1 fees for some shareholders, but
not others, may violate the proprietary mutual fund's obligation to treat all
shareholders impartially. See
1986 no-action letter to Southeastern Growth Fund, Inc. If the bank is
using this no-action letter as a defense for not rebating the 12b-1 fees, a
general criticism of the matter should be presented in the examination report
together with a request for a legal opinion. Furthermore, acceptance of 12b-1
fees on discretionary employee benefit accounts invested in such funds would
Section 406(b)(3) as noted above.
H.7.f.(14). Overdrafts and Interest-Free
An overdraft in an ERISA plan's deposit account may be a transaction prohibited
Section 406(a)(1)(B), as overdrafts represent the lending of funds
from a depository institution to an ERISA plan. The depository institution is a
party in interest either because it is a fiduciary (own-bank deposits) or a
provider of services to the plan.
The Department of Labor has recognized that most overdrafts are
of a temporary nature and not abusive. Overdrafts may occur as the result
transactions or check clearings. As a result, the DOL provided relief
Transaction Class Exemption 80-26 (PTE 80-26) [located in Appendix
from the prohibitions of
ERISA Sections 406(a)(1)(B),
for interest free loans and other extensions of credit from parties
in interest to employee benefit plans. The PTE is effective January
1, 1975. The exemption
covers loans or other extensions of credit used for the payment of
ordinary operating expenses of the plan, or for a period of no more
than three days for
a purpose incidental to the ordinary operation of the plan.
The exemption requires the following:
no interest or other fee may be charged to the plan and no discount for payment
in cash is relinquished by the plan.
the loan or extension of credit must be unsecured.
the loan or extension of credit may not be made, directly or indirectly, by an
employee benefit plan.
The Department of Labor also issued PTE 2000-14,
as a temporary amendment to PTE 80-26 (both of which are located in
Appendix E). The purpose of the temporary amendment was to permit parties
in interest to make interest free loans to plans, enabling them to
continue to operate in the event they experienced an inability to
liquidate or access
assets, or to access data caused by Y2K problems. The amendment was
effective from November 1, 1999 until December 31, 2000.
Loans extended under this exemption were to be repaid no later
than December 31, 2000.
In addition to the guidance discussed above, the Department of Labor issued
an advisory opinion on February 10, 2003, that discusses the provision
of overdraft protection services in connection with securities and
other financial market transactions. In AO
2003-02A, the Department
of Labor opined that, under certain circumstances, the extension of
an overdraft to a plan in connection
with the settlement of a securities or other financial market transaction
would satisfy the requirements for the exemptions provided in ERISA
Sections 408(b)(2) and 408(b)(6).
H.7.f.(15). Qualified Professional Asset
Managers (QPAMs) - Transactions With Investment Managers
84-14 (80KB PDF file - PDF
various parties in interest with respect to employee benefit plans
to engage in transactions with investment funds in which plans are invested
investment fund is managed by a "qualified professional asset
manager" (QPAM). Investment funds are accounts subject to the
discretionary authority of the QPAM, including accounts maintained
by an insurance company and trusts maintained by a bank. PTE 84-14,
apply to certain transactions between a bank with discretionary investment
authority over an ERISA plan and parties in interest for such a plan,
provided the bank meets the definition of a QPAM given below. The
banks and other parties in interest to avoid costly ERISA compliance
reviews for investment transactions under consideration. PTE 84-14
December 21, 1982.
A bank that has the power to manage, acquire or dispose of the assets of a plan
qualifies as a QPAM if it has equity capital in excess of $1,000,000 as of the
last day of its most recent fiscal year, and acknowledges in writing that it is
a fiduciary with respect to each plan that has retained it as a QPAM. Savings
and loan associations, insurance companies, and investment advisors that meet
certain qualifying conditions may also be QPAMs. With respect to bank trust
departments, Individual ERISA plans and Collective Investment Funds would
usually satisfy the definition of an investment fund.
The exemption deals with different types of scenarios and, depending on the
type of scenario, provides relief from
Section 406(a) prohibited transactions with parties in interest,
Sections 406(b)(1) and (2) prohibited transactions with
fiduciaries, and Section
407(a) restrictions on investments in employer real estate. No relief
is provided by the PTE from ERISA Section 406(b)(3), involving a fiduciary
earning fees or profiting from the transactions it places. In addition, the
exemption specifically excludes securities lending (PTE
81-06) [refer to subsection
H.7.e.(17), Securities Lending], investments in residential mortgages
[refer to subsection H.7.e.(9), Mortgages (Residential),
Investment In], and investments in mortgage pools (PTE 83-1).
PTE (80KB PDF file - PDF Help)
provides a safe harbor for a number of situations which may occur after a
particular transaction first occurs. For instance, a loan may be
made to an outside person
or organization who later becomes a party in interest [relief provided].
In another situation, a plan purchases an office building from an
but among the building's tenants is an office of an affiliate of
a plan sponsor [relief provided if percentage tests met]. In another
instance, a bank QPAM
hires an outside investment manager for its expertise with a particular
type of asset, with the bank retaining a potential veto power over
relief provided]. The Preamble for the PTE gives more than 20 examples
of when, how, and if the PTE applies.
If certain general conditions of the PTE 84-14 are satisfied, many types of
transactions are exempted if other specific conditions are satisfied.
General Conditions - Although PTE 84-14 addresses seven general conditions, two
of the most important conditions are noted below.
The plan in question, when combined with the assets of other plans established
or maintained by the same employer or by the same employee organization, does
not represent more than 20% of all discretionary assets managed by the
QPAM for the client at the time of the transaction (not just employee benefit
At the time of a transaction, the party in interest (or its affiliate) did not
possess, and during the immediately preceding year did not exercise the
Appoint or terminate the QPAM as
a plan asset manager, or
Negotiate a management agreement for a plan with the QPAM. This includes
renewals or modifications to existing agreements.
Transactions With Employers - A QPAM may have the following
types of transactions with employers or with any person
who is a party in interest by virtue of a relationship
with an employer whose ERISA plans are invested in the
Selling, leasing, or servicing of goods, or the furnishing
of services to an investment fund managed by a
QPAM by a party in interest if the transaction
meets five requirements:
The transaction must be
necessary for the administration or management of the
The transaction takes place in the ordinary
course of business engaged in by the party
in interest with the public;
- Effective as of August 23, 2005, the revenue received from the
investment fund by a party in interest does
not exceed 1% of the party in interest's gross
annual receipts; and
- The requirements of Sections I(c) through I(g) of the General
Exemption are satisfied.
Leasing commercial or office space by an investment
fund managed by a QPAM to a party in interest with
respect to a plan having an interest in the investment
fund if the transaction meets six requirements:
No more than 10% of the
investment fund's assets are invested in the employer's
securities and real estate;
No commissions or fees are paid
by the investment fund to the QPAM or employer (or their
The space leased must be
adaptable to more than one use;
The leased space must represent no more than
15% of the building; and
- For a plan that is not an individual account plan, the aggregate
fair market value of employer real estate and
employer securities held by the investment
funds of the QPAM does not exceed 10% of the
fair market value of the assets of the plan
held those investment funds; and
- The requirements of Sections I(c) through I(g) of the General
Exemption are satisfied.
Leases to the QPAM - This section permits the investment fund to lease to the
bank various office or commercial space in which the investment fund has
invested, if the following general requirements are satisfied:
No commissions or fees are paid by
the investment fund to the QPAM-bank or its affiliates;
The space leased is adaptable to
more than one use;
The leased space is not more than
the greater of 7,500 square feet or 1% of the
The transaction takes place on an arm's length basis.
- Transactions Involving Places of Public Accommodation - Effective
as of August 23, 2005, the restrictions of Sections 406(a)(1)(A)
through (E) and 406(b)(1) and (2), along with the corresponding
taxes imposed by Code Section 4975(a) and (b) do not apply
to the furnishing of services and facilities (and goods incidental
thereto) by a place of public accommodation owned by an investment
fund managed by a QPAM to a party in interest if the services
and facilities (and incidential goods) are furnished on a comparable
basis to the general public.
On August 23, 2005, the Department of Labor's Employee Benefits Security
Administration adopted amendments
to PTE 84-14 (80KB PDF file - PDF
Help). The amendments
provide for the following:
- Eliminates the "one year look-back rule" where the exemption
was not available if a party in interest had exercised the power
to appoint the QPAM within one year preceding a transaction;
- Clarifies that the power to appoint the QPAM provision of the PTE
applies only with respect to the assets involved in a transaction,
opposed to a plan's other assets;
- Makes the exemption available to a party in interest investing in
a commingled investment fund, notwithstanding that the party
in interest has the authority to redeem or acquire units of the
fund on behalf of the plan, if the plan's interest in the fund
represents less than 10% of the investment fund's total assets;
- Amends the definition of affiliate as it applies to sections I(a)
and Part II, to delete those partnerships in which the person
has less than a 10% interest, and to only include highly compensated
employees as defined in IRC 4975(e)(2)(H);
- Amends the determination of when a party in interest is related
to a QPAM to those instances where:
- The QPAM or the party in interest owns a 10% or greater interest
in the other entity; or
- A person controlling, or controlled, by the QPAM or the party
in interest owns a 20% interest in the other entity; or
- A person controlling, or controlled, by the QPAM or the party
in interest owns less than a 20% interest in the other entity,
but nevertheless exercises control over the management or
policies of the other party by reason of its ownership interest.
- States that determinations of whether the QPAM is "related" to
a party in interest for the purposes of Section I(d) may be made as
the last day of the most recent calendar quarter;
- States that shares held in a fiduciary capacity need not be considered
in applying percentage limitations;
- Raises the threshold for client assets from $50 million to $85 million
for registered investment advisors (RIAs) to meet the definition
of QPAM. Client assets are determined as of the last day of the
RIA's fiscal year. Similarly, the minimum shareholders' and
partners' equity for RIAs was increased from $750,000 to $1 million;
- Requires that a QPAM must be independent of an employer with respect
to a plan whose assets are managed by the QPAM, i.e. an employer
cannot be a QPAM for its own plan(s).
H.7.f.(16). Repurchase Agreements
Since a repurchase agreement is generally considered to represent a loan, a
repurchase agreement between a party in interest and the fiduciary bank would
normally be a prohibited transaction under
ERISA Section 406(a)(1)(B). The DOL issued
Prohibited Transaction Class Exemption 81-8 (PTE 81-8) (as amended 50 FR
14043, April 9, 1985) which provides relief from the restrictions of
ERISA Section 406(a)(1)(B). Repurchase Agreements are also discussed in
subsection F.14. of Section 3, Asset Management. The FDIC adopted the
FFIEC Supervisory Policy on Repurchase Agreements of Depository Institutions
with Securities Brokers and Others on November 12, 1985. The
policy statement is located in
addresses a number of short-term investments including repurchase agreements.
The restrictions of
ERISA Section 406(a)(1)(A), (B), and (D) do not apply to the investment
of employee benefit plan assets which involves the acquisition, holding, sale,
exchange or redemption by or on behalf of the plan of banker's
acceptances, commercial paper, repurchase agreements, certificates of deposit
and, as of 1985, securities of certain banks.
Conditions applicable to repurchase agreements in which the seller of the
underlying securities is a bank, broker-dealer, or a dealer who makes primary
markets in securities of the United States or any agency thereof or in bankers
the repurchase agreement must be embodied in a written agreement the terms of
which are at least as favorable to the plan as an arm's-length transaction
between unrelated parties.
the plan must receive interest at a rate no less than in a comparable
transaction with an unrelated party
the repurchase agreement must have a duration of one year or less.
the plan must receive securities, banker's acceptances, commercial paper
or certificates of deposit with a market value of not less than 100 percent of
the purchase price paid by the plan.
upon expiration of the repurchase agreement and the return of the securities or
other instrument to the bank, the seller must transfer to the plan an amount
equal to the purchase price plus appropriate interest.
neither the seller nor an affiliate may have discretionary authority with
respect to the plan assets invested in the transaction, or may render
investment advice with respect to those assets.
the underlying securities or other instruments must be of a type that could be
acquired by the plan without violating the restrictions of the prohibited
transaction rules and such securities may not be not restricted securities
within the meaning of Rule 144 of the Securities Act of 1933.
certain measures must be agreed to such that, during the term of the agreement,
the plan always holds securities or other instruments with a market value equal
to the purchase price paid by the plan.
the seller must furnish the plan with specified financial statements.
The lending of securities from employee benefit plans is a fairly common
practice. When the lending is fully collateralized, there is little risk and
the plan earns additional income from the lending of the securities. Generally,
this activity takes place with the fiduciary bank, a securities broker, and/or
one of their affiliates providing services to the plan. In such cases, a
prohibited transaction in violation of
ERISA Section 406(a) would exist because the fiduciary bank and/or
service providers are considered parties in interest by definition. Securities
lending is also discussed in
subsection F.15 of
Section 3, Asset Management. The FDIC adopted the
FFIEC Supervisory Policy on Securities Lending on
July 22, 1997. The policy statement is located in
Prohibited Transaction Class Exemption 81-6 (PTE 81-6) (as amended 52 FR
18754, May 19, 1987) permits securities lending with parties in
interest if certain conditions are satisfied. In addition,
Transaction Class Exemption 82-63 (PTE 82-63) permits the fiduciary
bank to charge a reasonable fee for securities lending services. A fiduciary
bank may instead use the statutory exemption under
Section 408(b)(6) of ERISA to receive a fee for these services.
PTE 81-6 provides relief from
ERISA Sections 406(a)(1)(A) - (D). Conditions include:
neither the borrower nor an affiliate has discretionary authority or control
with respect to the investment of the plan assets involved in the transaction,
or renders investment advice with respect to those assets;
the plan must receive as collateral either cash, securities issued by the U.S.
Government, or its agencies or instrumentalities, or irrevocable bank letters
collateral must be provided equal to 100 percent of the market value of the
securities lent, and if on any day the market value of the collateral is less
than 100 percent of the market value of the securities lent, the borrower must
deliver additional collateral such that the total collateral equals 100 percent
of the market value of the securities lent;
the borrower must provide the plan with certain financial statements prior to
the loan must be made pursuant to a written loan agreement with arm's
the plan must receive reasonable fees for the loan of the securities, or the
opportunity to invest cash collateral, and also must retain all income from the
securities that were lent under certain circumstances, rebates to the borrower
the plan must be able to be terminate the loan at any time, at which time the
borrower shall deliver to the plan certificates for such securities or the plan
may apply the collateral to the purchase of equivalent securities.
H.7.f.(18). Securities Issued - Proceeds
Used to Reduce Debt at a Party in Interest
If a fiduciary uses its discretionary authority to cause an employee benefit
plan to purchase securities, the proceeds of which will be used to repay a debt
owed by the issuer to a party in interest or a plan fiduciary that is a bank or
a bank affiliate, such a transaction would violate
ERISA Section 406(a). Violations of
ERISA Sections 406(b)(1) and (2) are also possible.
Prohibited Transaction Class Exemption 80-83 (PTE 80-83) permits
the purchase of such securities in several different situations. Generally, the
price paid by the plan for such securities may not be greater than the offering
price described in an effective registration statement under the Securities Act
of 1933 or an offering circular required under applicable federal law, and the
plan must comply with certain recordkeeping procedures. In addition, when a
fiduciary bank's loan is to be repaid with the proceeds of a securities
issue, the PTE includes the following additional requirements that must be
with some exceptions, the securities generally must be purchased prior to the
end of the first full business day after the securities are offered to the
the securities must be offered by the issuer pursuant to an underwriting
agreement under which the underwriters have generally committed to purchasing
all of the securities being offered;
the issuer must have been in continuous operation for at least three years;
the amount of securities purchased by the plan may not exceed three percent of
the total offering;
the price to be paid by the plan may not exceed three percent of the fair
market value of the plan's assets which are subject to the management and
control of such fiduciary;
the total amount of securities in any single offering purchased by the
fiduciary of the plan, combined with all other securities purchased by the
fiduciary on behalf of all other employee benefit plans may not exceed 10
percent of the offering.
H.7.f.(19). Soft Dollars
The term soft dollars refers to the practice whereby the investment manager
of a discretionary account pays more than the absolute minimum commission
securities transactions with a broker. In return, the investment
manager receives research services paid for by the excess commissions. Section 28(e)
of the Securities Exchange Act of 1934 permits this practice and
authorizes a safe harbor if bona fide research services are provided.
In addition to the statutory provision of Section 28(e), the
SEC has issued additional
guidance governing "soft dollar" arrangements. See Securities Exchange
No. 34-23170 and Release
No. 34-54165 (217KB PDF file - PDF
For discretionary accounts,
Technical Bulletin 86-1, indicates that soft dollar transactions which
meet the safe harbor of Section 28(e) do not represent a prohibited
transaction under ERISA. However, those that do not fall within the
safe harbor would represent a violation of
ERISA Sections 406(a)(1)(D),
406(b)(1), and 406(b)(3).
For non-discretionary accounts, the safe harbor is not available. A
non-discretionary account cannot justify paying higher brokerage commissions in
order to receive investment research which won't benefit the account. The same
violations would apply as noted in the preceding paragraph, in such instances.
H.7.f.(20). Sweep Fees
Banks acting as trustees or investment managers to employee benefit
plans may agree to provide "sweep services" to such plans. Sweep services
involve investing excess uninvested cash of a plan in either a deposit
account or other short-term investment vehicle. Depending on how
the arrangement is
structured, provision of sweep services may involve one or more prohibited
ERISA Section 406. In some cases, the statutory exemptions of
ERISA Section 408 may provide a safe harbor.
The primary guidance regarding sweep fees is contained in two DOL opinions,
AO 88-2A and
AO 86-FRB, the Plotkin Letter. The two overriding variables
applicable to sweep fees are whether fees are earned by the bank from
the transaction and whether the bank has discretion to make the sweep
transaction. The key is whether the bank is exercising its fiduciary authority
or control to
cause a plan to pay an additional fee. The examiner needs to identify
the variables present at the bank under examination.
The general rule is that a bank which has authority to decide when a sweep
transaction should be performed and which levies a separate fee for this
service, is in violation of
ERISA Sections 406(b)(1), (2) and (3). Section 406(b)(1)
IRC 4975(c)(1)(E)] is applicable because the bank is exercising
its discretionary authority to cause the plan to pay an extra fee.
Section 406(b)(2) is applicable because the bank is charging
a fee for the sweep
transaction which is adverse to the interest of the plan or the plan's
participants or beneficiaries. Section 406(b)(3) [Also see
IRC 4975(c)(1)(F)] is applicable because the extra fee is being paid
to the bank. Mere authorization by an independent fiduciary does
not preempt a
Whether a bank may provide sweep services involves a number of interrelated
areas. Four primary areas or questions to consider include the following:
(1) Are any extra fees charged for sweep services? (2) Does the bank
have discretion over the plan's investments? (3) What is the bank's
discretion over when sweeps will occur and how much will be
swept? and (4) What type of investment vehicle is used?
For all types of ERISA accounts, the bank may:
Provide sweep services if no fee is charged [Plotkin
Provide investment services, including sweep services, under a single fee
arrangement which is calculated as a percentage of the market value of the
total assets under management [Plotkin Letter].
Charge direct expenses properly and actually incurred in the performance of
such services [Plotkin Letter].
Provide sweep services where a for-profit fee is charged, if a fiduciary
independent of the bank (such as the plan sponsor, plan administrator, or
outside investment manager) [See
Authorizes either Individual sweep
transactions or authorizes a standard procedure as to when
and how sweeps will occur;
Is provided adequate disclosures
of pertinent matters such as the fees, sweep intervals,
and sweep levels;
Authorizes the investment
Is permitted to terminate the
sweep arrangement at any time without penalty; and
Receives notice from the bank, not less than 30 days prior, of any change
in sweep fees.
The independent fiduciary must be provided with sufficient information so that
it can adequately exercise its responsibility to monitor the sweep arrangement
For-profit fees may be based on a percentage of the income paid by the sweep
investment vehicle [Plotkin Letter] or on a percentage of the amount swept.
Normally, uninvested cash is swept to high-quality and highly liquid money
market investment vehicles. Examples of these vehicles include the following
(list is not all-inclusive):
Even with this guidance; however, trust department management may contend that
sweep fees are permissible. One type of defense which may be raised by
management involves the statutory exemptions under
ERISA Section 408. These exemptions are addressed in the Plotkin
letter. Sections 408(b)(4)
Deposits and 408(b)(8) Collective
Investment Funds provide authority to utilize own-bank investment vehicles, but
do not preempt sweep fee violations of
Section 406(b) (see the conditions listed for the use of those
section 408 exemption categories in Section 408(b)(4)(A) and (B) and
408(b)(8)(A) and (C)). The same can be said for the ancillary services
provisions of Sections
(6), particularly with investment vehicles such as repurchase
agreements and commercial paper. In addition, the Plotkin letter discusses the
applicability of the statutory exemptions under Section 408(b)(6)
regarding ancillary services and under Section 408(b)(8) regarding
collective trust funds for sweep service arrangements maintained by a bank.
Release of Claims and Extensions of Credit in Connection
On December 31, 2003, the Department of Labor issued PTE
2003-39 (72KB PDF file - PDF
"Release of Claims and Extensions of Credit in Connection with
Litigation." The exemption provides relief from Sections
406(a)(1)(A), (B), and (D) of ERISA, and the taxes imposed by
4975(c)(1)(A), (B), and (D) of the Internal Revenue Code for
the following transactions:
- The release by the plan, or a plan fiduciary, of a legal or
equitable claim against a party in interest in exchange for
consideration, given by, or on behalf of, a party in interest
to the plan in partial or complete settlement of the plan's
or the fiduciary's claim; or
- An extension of credit by a plan to a party in interest
in connection with a settlement where the party in interest
agrees to repay, over time, an amount owed to the plan for
the settlement of a legal or equitable claim.
The exemption is subject to the following conditions:
- There must be a genuine controversy involving the plan. A
genuine controversy is deemed to exist when a court has certified
as a class-action;
- The fiduciary that authorizes the settlement has no relationship
to, or interest in, any of the parties involved in the litigation,
other than the plan, that might affect the exercise of such
fiduciary's best judgment;
- The settlement is reasonable in light of the plan's likelihood
of full recovery, the risks and costs of litigation, and the
value of the claims foregone;
- The terms and conditions of the transaction are no less favorable
to the plan than comparable arms-length terms and conditions
that would have been agreed to by unrelated parties under similar
- The transaction is not part of an agreement, arrangement,
or understanding designed to benefit a party in interest;
- Any extension of credit by the plan to a party in interest
in connection with the settlement is on terms that are reasonable,
taking into consideration the creditworthiness of the party
in interest and the time value of money; and
- The transaction does not involve matters covered by PTE 76-1,
which relates to delinquent employer contributions to multiemployer
and multiple employer collectively bargained plans.
In addition to the conditions above, transactions entered into
after January 30, 2004 are subject to several additional conditions:
- Where the litigation has not been certified as a class action,
an attorney(s) of the plan, having no relationship to any of
the parties other than the plan, determines that there is a
genuine controversy involving the plan;
- All terms of the settlement are specifically described in
a written settlement agreement or consent decree;
- Assets other than cash may be received by the plan from a
party in interest in connection with the settlement only if:
- Necessary to rescind a transaction that is the subject
of the litigation; or
- Such assets are securities having a generally recognized
market, per ERISA 3(18)(A), and which can be objectively
valued. A settlement wil not, however, fail to meet this
requirement solely because it involves the contribution
of additional qualifying employer securities in settlement
of a dispute involving such qualifying employer securities.
- To the extent that assets other than cash are received by
the plan for the release of claims, such assets must be specifically
described in the written settlement and valued at their fair
market value in accordance with Section 5 of the VFC. The valuation
methodology, including the appropriate date, must be set forth
in the written settlement agreement;
- Nothing precludes the exemption from applying to a settlement
that includes a written agreement to:
- Make future contributions;
- Adopt amendments to the plan; or
- Provide additional employee benefits
- The fiduciary acting on behalf of the plan acknowledges in
writing that it is a fiduciary with respect to the settlement
of the litigation on behalf of the plan.
Finally, the PTE requires the maintenance and retention of certain
records demonstrating compliance with the conditions of the PTE
for a period six years.
H.8. Investment in Employer
Securities and Real Property
ERISA Section 407 and 408(e)
When Congress considered various provisions for ERISA, it reviewed employee
benefit plan losses and abuses. Congress found that a number of plans
incurred major losses because they had placed large amounts of their
assets in employer
securities and/or real property. However, Congress also realized
that some investment in employer securities and real property could be
not done to excess.
ERISA Section 407(a)(2) provides that no employee benefit plan may
invest more than 10% of its assets, valued at market at the time
of the transaction, in employer securities and real property.
In determining the 10%
maximum, both employer securities and employer real property are
added together. Since certain types of employee benefit plans
are designed to invest exclusively
in employer securities (ESOPs, etc.), certain exceptions to the general
limitations were included in the law.
An important exception to the 10% limitation is embodied in
407(b)(1). This section provides that the 10% limitation does not
apply to eligible Individual plans (generally, defined contribution plans)
as defined in
ERISA Section 407(d)(3). Therefore, the 10% limitation usually only
applies to defined benefit plans.
For any investment in employer securities or real property, ERISA
Section 407 establishes three tests. The securities and/or real property
must be: (1) qualifying,
(2) within statutory limits which differ according to the type of
plan, and (3) meet certain fiduciary standards of ERISA Section 404.
The acquisition or sale of such securities and/or real property must
also meet the conditions of
ERISA Section 408(e). Acquiring, holding, or selling employer
securities and/or real estate which do not qualify as such, exceed
the limitations of Section 407, or do not meet the conditions of
Section 408(e) result in a violation of ERISA
Section 406(a)(1)(E) and/or
Examiners should also take special note that there is a parallel
set of violations involving
Section 4975 of the IRC for most types of prohibited transactions.
Both sets of violations should be cited whenever applicable. Refer
subsection M, Compliance with the Internal Revenue Code for coverage
of these provisions.
H.8.a. Qualifying Employer
Section 407(d)(5) defines the term qualifying employer security to
include stock and other marketable obligations of the employer.
provides that securities issued by affiliates of the employer
are also included in the term "employer security." The term affiliate is
itself defined in
Section 407(d)(7). The IRS definition for the term qualifying
employer security" is found in
IRS Regulation 54.4975-12.
For employer stock held in plans, other than eligible Individual account
ERISA Section 407(f) imposes
the following percentage limitations (which should not be confused with
the maximum 10% limitation of employee benefit plan assets discussed
no more than 25% of the aggregate amount of the same
class of stock (issued and outstanding at the time
of acquisition) is held by the plan, and
at least 50% of that amount is held by persons independent
of the issuer.
However, ERISA Section 407(f) also provided temporary exemptive relief
from the limitations until 1-1-93, provided: (1) the stock was
held since 12-17-87, or
(2) the stock was acquired after 12-17-87 (under a contract legally
binding as of 12-17-87) and was continuously held following
Section 407(e) defines marketable obligations to include debt
obligations (bonds, debentures, and notes), certificates, or
other evidence of indebtedness. The same section requires
that the debt obligations must be
acquired for no more than the value which is established independent
of the issuer and meets one of the market price categories
ERISA Section 407(e)(i)(A), (B), or (C). The acquisition of debentures
convertible into stock is deemed to be the acquisition of a debenture,
H.8.b. Qualifying Employer
Section 407(d)(2) states that employer real property includes land and
buildings (and related personal property) leased to an employer
or to an affiliate of the employer.
Section 407(d)(4)(C) permits all of the property to be leased to
the employer or its affiliate. The term affiliate is defined
Real property must satisfy three requirements to be considered qualifying
employer real property:
There must be at least two pieces of real property. A
single parcel of land, or a single building or lease
can never be considered qualifying [ERISA
The real property (consisting of at least two parcels)
must be geographically dispersed. This is decided on
a fact and circumstance basis [ERISA
Each piece of real property and its improvements, must
be adaptable to more than one use. This is also decided
on a fact and circumstance basis [ERISA
ERISA Regulation 2550.407a-1 refers to applicable requirements
ERISA Sections 406 and
407 concerning the acquisition and holding of employer securities and
employer real property.
H.8.c. Statutory Limitations
H.8.c.(1). Defined Benefit
Defined benefit plans and most money purchase plans may invest
no more than 10% of their assets, in aggregate, in employer securities
and employer real
property. Total plan assets are calculated net of plan debt
(including any debt to acquire the securities or real property).
DOL ERISA Regulation 2550.407a-2(c)]
H.8.c.(2). Individual Account
The statutory limit of 10 percent does not apply to "eligible Individual
account plans." Eligible Individual account plans are profit-sharing and
employee stock ownership plans (ESOPs), as well as stock
bonus, thrift and savings plans, that explicitly provide
for the acquisition and holding of
qualifying employer securities or qualifying employer real
Section 407(d)(3)(A)] Generally, these plans are intended to
invest wholly or largely in employer securities. Section 407(d)(3)(B)
requires that such plans must explicitly authorize the holding of
employer securities and/or real property in excess of the
Section 407(d)(3)(A) 10% general limitation.
Plans offering participant-directed investments (such as
401(k) and 403(b) plans) may provide for investment in employer
securities, so long as certain
requirements are observed [see
DOL ERISA Regulation 2550.404c-1 and
subsection H.5.c.(6), Individual Account (Section 404(c))
regulation contains specific requirements when employer securities
are offered as an investment alternative to participants.
Generally, fiduciaries are
provided with limited relief from ERISA fiduciary responsibility
liability if plans meet certain conditions and participants
direct their own investments [see
H.8.d. Acquisition of Employer
Securities and/or Real Property
Section 408(e) and
DOL Regulation 2550.408e indicate that the acquisition or sale
of employer securities and/or real property must be for adequate
that the plan may pay no fee or commission. Adequate consideration
refers to the price paid for the securities and/or real property.
For a parallel
discussion, refer to the discussion of valuing employer securities
for ESOP plans in subsection
H.5.c.(5), ESOP Plans - Employer Securities Investments
The 10% limitation is viewed at the time of the acquisition;
subsequent upward movements in market prices do not create
ERISA Regulation 2550.407a-2(b) indicates that acquisitions include
contributions to the plan, outright purchases, exchanges of assets,
or foreclosures of collateral for a defaulted loan. The exercise
of warrants resulting in the acquisition of an employer's
common stock is considered a
transaction subject to
Section 407; however, employer stock acquired as a result of a stock
dividend or stock split should not be included when determining whether
the 10% maximum has been breached.
H.8.e. Fiduciary Standards
Even if all of the above conditions are met, a fiduciary making decisions
to invest in employer securities/real property must ensure that
the exclusive benefit and prudence rules of
ERISA Section 404(a)(1) are met. Refer to a parallel discussion
of the prudence of ESOP investments in employer securities
subsection H.5.c.(5), ESOP Plans - Employer Securities
Investments - Valuation.
H.9. Exemptions From Prohibited
Certain exemptions from the prohibited
transaction provisions are included in
Section 408 of
ERISA. A number of these statutory exemptions are discussed
below. Failure to comply with the various conditions of these
statutory exemptions means that the
transaction is a prohibited transaction in violation of
ERISA Section 406.
Examiners should note that there is a parallel set of prohibitions
of the Internal Revenue Code for most types of prohibited transactions
ERISA Section 406.
IRC Section 4975(d), however, contains a number of exemptions from
the prohibited transactions detailed in Section 4975.
Although similar, ERISA
Section 406 and IRC Section 4975 are not identical.
In addition to violations of
ERISA Section 406, examiners should also cite violations of
IRC Section 4975 if applicable. Refer to
subsection M, Compliance with the Internal Revenue Code for
coverage of these provisions.
H.9.a. Exemptions and Opinions
H.9.a.(1). Class and Individual
Section 408(a) authorizes the DOL to issue both class and Individual
exemptions. These exemptions are in addition to the exemptions
ERISA Section 408 . While class exemptions are applicable to any party
that meets the conditions, Individual exemptions provide
relief only for the party(ies) requesting the exemption.
The DOL has issued more than 35 class
exemptions and hundreds of Individual exemptions. A number
Transaction Exemptions most relevant to banks and trust departments
are cited throughout this manual and appear in
Before an exemption may be granted, ERISA requires that the
DOL find that the exemption is:
in the interests of the plan and its
participants and beneficiaries;
protective of the rights of plan participants and
A bank requesting an exemption from the DOL must supply the information
required by DOL
ERISA Regulation 2570.30 - .52. Regulation 2570.30 - .52 replaced ERISA
Procedure 75-1, which is cited in many of the rulings dated prior to
1990. A publication, Exemption Procedures Under Federal Pension Law,
explains how to obtain ERISA exemptions and is available
from the Division of Public Affairs, Pension and Welfare
Benefits Administration, U.S. Department of
Labor, 200 Constitution Avenue, NW, Washington D.C. 20210;
phone (202) 219-8921; web site: www.dol.gov.
H.9.a.(2). Advisory Opinions
The DOL also is authorized to answer inquiries regarding ERISA-related
matters in the form of information letters and advisory opinions.
A bank submitting
such an inquiry must supply the information outlined in
H.9.b. Ancillary Services
Section 406(a)(1)(C) prohibits a party in interest from providing
services to an employee benefit plan. Congress provided two statutory
ERISA Sections 408(b)(2) for necessary services, and
for what are termed "ancillary services" by banks and financial
institutions. No exemptions, however, are provided from the fiduciary
responsibility or co-fiduciary liability sections of
ERISA Sections 404 and
Section 408(b)(2) [see also
IRC Section 4975(d)(2)] permits a plan to receive office space, or
legal, accounting or other services from a party in interest.
The office space or service must be necessary for the establishment
or operation of the plan; it
must be furnished under a contract or arrangement which is reasonable;
and no more than reasonable compensation may be paid by
the plan [see
ERISA Regulations 2550.408b-2 for important guidance on the scope of
this exemption]. The exemption provides relief only from the
Section 406(a), and not from
Section 408(b)(6) permits fiduciary banks to receive reasonable
compensation for the provision of ancillary services, provided
the bank has adopted internal safeguards to ensure that the
provision of such services is
consistent with sound banking and financial practices, and provided
that specific guidelines are adopted addressing the extent
to which the services
will be provided. Examples of services that could be provided
include securities lending, loan origination and servicing,
EDP services and use of
own-bank demand deposits. Section 408(b)(6) provides an exemption
ERISA Sections 406(a) as well as
406(b)(1) and 406(b)(2) (but not
ERISA Section 406(b)(3)); therefore, it may provide an exemption in
cases that would not be covered by
ERISA Section 408(b)(2) [see
DOL ERISA Regulation 2550.408b-6; see also
DOL ERISA Regulation 2550.408c-2.
Refer to ERISA
Section 408(b)(4) and related
Regulation 2550.408(b)(4) concerning exemptions governing the use of
own-bank interest-bearing deposits,
PTE 81-6 and
PTE 82-63 concerning requirements governing securities lending and
addressing float management (a component of reasonable compensation)
for demand deposits.
H.9.c. Receipt of Services
by IRAs and Keogh Plans Exemption
The DOL's Prohibited
Transaction Class Exemption 93-33 (PTE 93-33) permits banks to provide
certain banking services at reduced or no cost to Individuals
for whose benefit IRAs or Keogh plans are established, and
their family members. PTE 93-33
provides relief from ERISA
Section 406(a)(1)(D) and
406(b), and from the sanctions resulting from application of
IRC Section 4975, including the loss of exemption of an IRA. PTE 93-33
amended and superseded Prohibited Transaction Class Exemption 93-2.
The exemption allows banks to take deposit balances of IRAs and
Keoghs into account when determining eligibility for reduced
fees for services. While the
term "services" is not defined, the services must be of the type the
bank could offer consistent with applicable federal and state
banking law, and must be provided by the bank or an affiliate
in the ordinary course of the
bank's business to customers who qualify for reduced or no cost
banking services but who do not maintain IRAs or Keoghs with
the bank. Services may
include incidental products of a de minimis value provided by third
Other conditions of the exemption include:
for the purpose of determining eligibility to receive
services at reduced or no cost, the deposit balance
required by the bank for the IRA or Keogh must be
equal to the lowest balance required for any other type
of account which qualifies for the reduced or no cost
the rate of return on the IRA or Keogh plan must be no
less favorable than the rate of return on an identical
investment that could have been made by a
customer of the bank who does not receive reduced or
low cost services.
PTE 93-33 was
amended on April 21, 1994 to permit banks to include securities
investments (except investments offered solely to IRAs and Keoghs)
in determining eligibility for reduced fees.
The DOL more recently issued Prohibited Transaction Class Exemption
97-11 (PTE 97-11) which provides a similar exemption to broker
H.9.d. Collective Investment
Funds (CIFs) Statutory Exemption
The investment of employee benefit plans in a CIF operated by a party
in interest of the plan is a prohibited transaction.
ERISA Section 408(b)(8) [see also
IRC Section 4975(d)(8)] provides a statutory exemption for any
transaction between a plan and a bank's CIF, if the investment
is a sale or purchase of an interest in the fund, specifically
authorized in the
governing plan or by an independent fiduciary, and if the bank
receives no more than reasonable compensation. Section 408(b)(8)
provides relief from
406(b)(1) and 406(b)(2).
The DOL has issued a class exemption,
Prohibited Transaction Class Exemption 91-38 (PTE 91-38) which
provides relief from
ERISA Sections 406(a),
407(a) for (i) transactions between parties in interest with respect
to a plan, and a CIF that is maintained by the bank and in
which an employee benefit plan is invested, and (ii) acquisitions
of employer securities
employer real property by the CIF, provided that the party in
interest is not the bank that maintains the CIF or any other
CIF maintained by the bank or an
affiliate. The transaction must meet one of the following criteria:
The plan, along with all other employee benefit plans
maintained by the same employer, may not hold more
than 10 percent of the total of all interests in
the CIF. (For transactions occurring between October
23, 1980 and June 30, 1990, the plans could not hold
more than 5 percent of the total of all
The CIF is a specialized fund that invests substantially
all of its assets in short-term obligations (one year
The PTE requires that the terms of the transaction be not less favorable
than terms generally available in an arm's length transaction
between unrelated parties and that the bank adhere to certain recordkeeping
The PTE covers other transactions under additional conditions:
transactions between employers participating in a multiple
employer plan and CIFs;
acquisitions, sales, or holding of employer securities
and employer real property by CIFs that do not meet
the conditions of the general exemption;
certain transactions with persons who are parties in
interest with respect to a plan solely by virtue of
being providers of services;
the furnishing of certain goods to or leasing of real
property by a CIF from a party in interest of a plan
participating in the CIF;
provision of services to a CIF in which a plan has an
interest by the bank maintaining the CIF in connection
with the management of real property owned by
provision of services, facilities and any goods incidental
to such services and facilities by a place of public
accommodation owned by a bank sponsored CIF to
a party in interest with respect to a plan which has
an interest in the CIF;
excess holding of qualifying employer securities or qualifying
employer real property (other than through a CIF).
Collective Investment Funds for a general discussion of Collective
H.9.e. Deposits, Interest-Bearing
provides a statutory exemption for the investment of plan assets
in bank deposits which bear a reasonable interest rate, where
the bank is a fiduciary
or other party in interest of the plan. The exemption provides
ERISA Sections 406(a)(1),
406(b)(1) and 406(b)(2) but not from
ERISA Section 406(b)(3).
The exemption may be utilized with respect to own-bank plans,
or, for other plans if the transaction is authorized by the plan
or an independent fiduciary.
Own-bank deposits, when used as investments for plans covering
a bank's employees must bear a reasonable rate of interest.
Investment in own-bank interest-bearing deposits by outside plans
must satisfy the following requirements [also see
Use of the deposits must be expressly authorized by the
plan or an independent fiduciary.
The deposits must bear a reasonable rate of interest.
The express authorization must identify the bank by name.
Employee Stock Ownership Plans (ESOPs) - Loans to
Plans Statutory Exemption
Bank examiners may encounter ESOPs sponsored by a bank or its holding
company, or ESOPs sponsored by outside organizations for which the
bank serves as
trustee or plan administrator. In most ESOPs, the purchase of
employer securities is financed through loans guaranteed by one or
more parties in
interest, known as "leveraging." Leveraged ESOPs involve the
potential for abuse due to the possible involvement of insiders
and the stock's potential lack of marketability. Moreover, the
guarantee of a loan
to an ESOP by a party in interest is a prohibited transaction.
408(b)(3) [see also
IRC Section 4975(d)(3)] provides an exemption from the prohibited
transaction provisions of
ERISA Sections 406(a),
406(b)(1) and 406(b)(2) for loans to an ESOP that are guaranteed by
a party in interest [see also
DOL ERISA Regulation 2550.408b-3] and loans which are issued by a bank
that is a party in interest.
The exemption requires a loan to a plan to be:
When an ESOP purchases employer securities with the proceeds of a loan
from an insider or a party in interest, the price paid for the
securities must be a
fair market price established by persons who are not parties
in interest. An independent appraisal is often required by IRS
is an area where abuse of ESOPs has often been noted. When an ESOP purchases
employer securities at prices in excess of their fair market
value, the question arises whether the transaction was primarily
for the benefit of the
participants and beneficiaries of the plan. Refer to the discussion
ESOP Plans - Employer Securities Investments - Valuation.
A loan that is exempt under
Section 408(b)(3) must be non-recourse against the plan, and the plan
may pledge as collateral only qualifying employer securities
(as defined under
ERISA Section 407) acquired with the proceeds of the exempt loan or
pledged as collateral on a prior exempt loan repaid with the
proceeds of the current exempt loan.
ESOPs are further described in subsection
D.2.e., Employee Stock Ownership Plans (ESOPs).
H.9.g. Loans to Plan Participants
Most employee benefit retirement plans (pension, profit-sharing,
401(k), etc.) permit the plan to make loans to its own plan participants.
Four sets of
overlapping conditions, all of which must be complied with, must
be satisfied when a plan engages in this type of activity. The four
ERISA statutory and regulatory
Plan authorization and conditions,
IRS statutory and regulatory
Consumer protection laws.
Under the terms of some trust or agency agreements, a bank may neither
be responsible for administering participant loan programs, nor
for participant loan record keeping. Often, the plan administrator
is responsible for
participant loan programs. In situations where a bank is the
plan's trustee, but: (1) it is not responsible under the terms
of its appointment
administering a participant loan program, and (2) it does not
have access to loan documentation, or other information which would
reasonably permit it to
determine that either the program or the participant
loans are in compliance with applicable IRS regulations, it should
not be cited for violations pertaining to the operation of the
participant loan program.
H.9.g.(1). ERISA Requirements
for Loans to Plan Participants
408(b)(1) of ERISA permits loans to plan participants, even though
participants are parties in interest and may also be fiduciaries
of the plan. Loans must meet four requirements including
Department Regulation 2550.408b-1 addressing Loans to Plan Participants
and Beneficiaries, explains the meaning and implementation
of the statutory provisions. Except as noted in the plan
provisions above, the regulation was
effective for loans granted or renewed beginning October 19, 1989.
H.9.g.(2). Plan Authorization
and Conditions for Loans to Plan Participants
As noted above, ERISA
Section 408(b)(1)(C) permits ERISA plans to make loans to plan
participants and beneficiaries only if authorized by the
plan document or some other related official document.
Granting loans that do not comply with the
plan's conditions would result in a violation of
ERISA Section 404(a)(1)(D).
H.9.g.(3). IRS Statutory and Regulatory
Requirements for Loans to Plan Participants
A loan made by an ERISA plan is considered taxable income (distribution)
to the plan participant unless it meets a number of IRS provisions.
In addition, if a participant or beneficiary assigns or pledges
any portion of his
or her interest in a plan as security for a loan, the portion
of the Individual's interest assigned or pledged is treated as
a distribution from the plan to the Individual, refer to IRS
Regulation 401(a)-13. If any
taxable distributions occur, the plan participants must receive
a year-end Form W2-P and appropriate notification must be provided to
the IRS and state tax authority.
The IRS participant loan requirements are governed by
Section 72(p) of the Internal Revenue Code. Section 72(p)
was added in 1982 and its provisions have been amended
numerous times since the
establishment of this section. Two different standards apply
to participant loans:
Loans used to acquire the principal residence of the participant
must be repaid by normal retirement age, as defined
by the plan [see
IRC Section 72(p)(2)(B)].
Previous tax law provisions permitted these loans
to be used to acquire, build, or substantially renovate
the principal residence of the participant or
dependent family member. However, these provisions
were revoked in 1986.
For all other loans dated August 13, 1982, or later, there are specific
limitations on the term, maturity, renewals, repayment,
principal amounts, and amounts of any new loans.
Failure to comply with the following requirements
results in the loan being treated as a taxable distribution.
The loan agreement must provide that the
term not exceed five years.
Principal of the loan must be repaid in not
less than quarterly installments [see IRC
Extensions, renewals, and rollovers are prohibited.
A taxable distribution results if these
The maximum amount eligible for a
tax-free loan is based on the participant's vested
interest in the plan:
10,000 or less
10,000 - Under $ 20,000
20,000 - Under $ 100,000
100,000 and more
The maximum amount of any new loan is
reduced by the excess (if any) of the
highest outstanding balance of loans
from the plan during the one-year period
ending on the day before the date on
which the new loan was made over the
outstanding balance of loans from the
plan on the date the loan was made.
The effect is to reduce the $50,000
maximum limit for a participant loan
by the amount paid on any outstanding
loan during the one-year period immediately
preceding the making of the new loan.
Default occurs at the time of failure to make the payments. The employee
benefit plan may permit a grace period which can be no longer
than the last day of the
calendar quarter following the calendar quarter in which
the missed payment was due. If default occurs:
The amount of the deemed distribution is the
entire outstanding balance of the loan at the
time of such failure to make payments.
The participant will be taxed on the amount of
the deemed distribution, unless the participant's
account includes after-tax contributions, in
which case all or a part may not be taxable.
The 10% premature distribution tax will apply
to the amount of the deemed distribution if
the participant has not reached age 59 1/2.
A Form 1099R needs to be issued to the participant and the IRS (and,
if applicable, to the state tax department).
The Internal Revenue Service amended Section
72(p) effective July 31, 2000, by adding
Section 72(p)-1. This new section provides question and answer
guidance, together with examples, on how participant loans
which are deemed distributions are to be accounted for
by employee benefit plans.
Section 72(p)-1 appears in Appendix E.
The IRC also requires spousal consent when a participant's
accrued benefit is used to secure a participant loan from
IRC Section 417(a)(4) prohibits the use of accrued benefits to
secure participant loans unless: (1) written spousal consent
is obtained within 90 days preceding the date on
which the loan is to be secured, and (2) the plan
provides for spousal consent. IRC Section 417 appears in
H.9.g.(4). Consumer Protection
Laws and Loans to Plan Participants
Participant loans are viewed as consumer credit: credit extended
for personal, family or household purposes. Since participant
loans are consumer loans,
consumer protection laws apply to participant loans originated
by an employee benefit plan's participant loan program in the
same manner as they apply to a
corporate fiduciary's own consumer loans. Although less
frequently the case, Individual trust accounts originating
loans may meet the definition
creditor for consumer protection purposes. In such cases,
the loans extended by Individual trust accounts must also satisfy
the requirements of applicable
consumer protection laws. Business purpose loans, on the
other hand, are generally exempted from the requirements of
consumer protection laws.
Trust examiners are not expected to have the technical
expertise to conduct consumer compliance reviews, nor are
they expected to conduct
compliance examinations while performing a trust examination.
Trust examiners may review previous Compliance Examination
reports, as well as
internal/external audit reports, to ascertain whether the
institution has demonstrated adequate compliance with consumer
protection laws and
regulations. Where deemed necessary, trust examiners may discuss
the advisability of performing a consumer compliance examination
with field supervisors.
Provision of Investment Advice
to Participants and Beneficiaries
Protection Act added new sections 408(b)(14) and 408(g)
to ERISA. The new sections provide relief for any transaction
in connection with the provision of investment advice
to a participant directed individual account. The relief
covers the advice itself; the acquisition, sale, or holding
of a security or other property in connection with the
advice; and the receipt, direct or indirect, of fees
or other compensation by the fiduciary or an affiliate
in connection with the advice.
In order to qualify for the statutory exemption in 408(b)(14) the
provision of investment advice must comply with the requirements
detailed in Section 408(g). Section 408(g) requires that
the investment advice be provided by a "fiduciary adviser"
under an "eligible investment advice arrangement." An "eligible
investment advice arrangement" is defined as a nondiscretionary
investment advisory arrangement where either:
- Direct or indirect compensation received by the fiduciary advisor
does not vary depending on the nature of the advice, i.e.
a flat or level fee arrangement; or
- Advice is provided exclusively on the basis of a computer model meeting
certain specified requirements.
The DOL in Field
Assistance Bulletin (FAB) 2007-01 stated that the level fee requirement
applies only to the fiduciary adviser, and not to an
affiliate of the fiduciary adviser, unless the affiliate
is also a fiduciary adviser to the plan.
A "fiduciary adviser" is a:
- A bank or similar institution, but only if the advice is provided
through a trust department that is subject to periodic
examination and review by Federal or state banking authorities;
- A registered investment adviser;
- An insurance company qualifed to do business under the laws of
- A registered broker-dealer;
- Affiliates of the above; and
- An employee, agent, or registered representative of the above.
When an individual acts as an employee, agent, or registered representative
of an entity that provides investment advice - both the
individual and the entity are considered fiduciary advisers.
In addition the following general requirements apply:
- The fiduciary adviser must provide appropriate disclosures, including
those required by Federal securities laws;
- Any sale, acquisition, or holding must be at the sole direction of
the recipient of the advice;
- Compensation received by the fiduciary adviser or an affiliate must
be reasonable; and
- Terms must be at least as favorable as in an arm's-length transaction.
If a computer model is used, the model must:
- Apply generally accepted investment theories that take into account
the historic returns of different asset classes over defined
periods of time;
- Take into account relevant information about the participant, such
as age, life expectancy, risk tolerance, assets, sources
or income, etc;
- Use prescribed objective criteria to provide advice to participants;
- Not be biased in favor of investments offered by the fiduciary adviser
or its affiliates; and
- Take into account all the investment options under the plan and may
not be inappropriately weighted towards any investment
An "eligible investment expert" must certify that the
computer model meets the specific requirements prior
to the first use
and at the time of each material modification of the
model. The DOL may establish qualifications for an "eligible
The "eligible investment advice arrangement" must be audited
annually by an independent auditor. The independent auditor
- Have appropriate technical training or experience and proficiency;
- Must represent in writing that he/she has the required training and
- Issue a written report of its findings to each fiduciary that has
authorized participation in the arrangement.
Section 408(g)(6) requires the following disclosures:
- The role of any party that has a material affiliation or contractuaul
relationship with the financial adviser in the development
of the investment advice program or in the selection of
investment options available under the plan;
- Past performance and historical rates of return of the investment
- All fees or other compensation, including payments by third-parties,
that the fiduciary adviser or its affiliates will receive;
- Any material affiliation or contractual relationship of the fiduciary
adviser or its affiliates in any security or other property;
- When and how any participant information will be used;
- Types of services provided by the fiduciary adviser in connection
with the provision of investment advice; and
- The participant may arrange separately for the provision of advice
by another adviser that has no material affiliation with,
and receives no fees or other compensation in connections
with, a security or other property
Disclosures must be clear and conspicuous and calculated to be understood
by the average plan participant. The DOL and the SEC
will develop a model disclosure form. Fiduciary advisers
are required to:
- Ensure that all disclosure materials are accurate;
- Provide disclosure to recipients of advice at no charge, at least
- Provide disclosures to recipients of any material changes to the
disclosures at no charge and at a time reasonably contemporaneous
with such changes.
Fiduciary advisers must keep for a period of at least six years
the records necessary to determine whether they have
complied with the requirements for the exemption. If,
however, the records are lost or destroyed due to circumstances
beyond their control, a prohibited transaction will not
be deemed to have occurred solely on account of the records
having been lost or destroyed.
Responsibilies of Plan Sponsors
Plan sponsors and other authorizing fiduciaries have a fiduciary
responsibility for the prudent selection and periodic
review of a fiduciary adviser. Plan sponsors and other
authorizing fiduciaries, however, are not responsible
for monitoring the specific investment advice of a fiduciary
adviser. The Pension Protection Act does provide limited
relief from fiduciary liability for plan sponsors entering into
an "eligible investment advice arrangement" if 1) the
terms of the arrangement require the fiduciary adviser
to comply with the requirements of ERISA Section 408(b)(14)
and 2) the fiduciary adviser acknowledges acting as a
On February 2, 2007, the DOL issued Field
Assistance Bulletin (FAB) 2007-01 in which DOL provided guidance
regarding processes and criteria for selecting and
monitoring an investment adviser. In FAB 2007-01 the
DOL opined that the selection of an investment adviser
should be based on an objective process designed to
obtain the information necessary to assess the qualifications
of the adviser, the quality of services, and the reasonableness
of fees. The process must avoid self-dealing, conflicts
of interest, and other improper influence. Selection
criteria should include:
- Experience and qualifications, including required registrations
- Willingness of an adviser to assume fiduciary status; and
- Extent to which advice will be based upon generally accepted
Monitoring criteria should include the periodic review of:
- Changes in the information made to select the adviser;
- Compliance with contractual provisions;
- Utilization of investment advice in comparison with its cost;
- Participant comments and complaints
Note that while plan sponsors and authorizing fiduciaries
are not normally required to monitor the specific investment
advice given by the fiduciary adviser, they may have to
review specific advice in response to comments or complaints
by plan participants.
Prior DOL Guidance Concerning the Provision of
the DOL reiterated that prior guidance regarding the provision
of investment advice remains valid. Prior guidance issued
by DOL includes Interpretive Bulletin 96-1 and Advisory
Opinion 2001-09A, the SunAmerica Letter. In addition, certain guidance
relating to the receipt of fees by fiduciaries would be
applicable to situations where a fiduciary adviser receives
fees. For example, the Frost and Country Bank advisory
opinions, AO97-15A and AO2005-10A, respectively, apply
to the receipt of fees by fiduciary advisers. Therefore,
plan sponsors could opt to provide investment advice or
education under prior DOL exemptions or guidance.
Protection Act added new Section 408(b)(15) to ERISA, which
provides an exemption for block trades of stock between
a plan and a non-fiduciary party in interest. Section
408(b)(15) defines a block trade as any trade of at least
10,000 shares or with a market value of at least $200,000
which will be allocated across two or more unrelated
client accounts of a fiduciary. The interest of a plan,
or grourp of plans sponsored by the same employer, can
not be greater than 10% of the aggregate size of the
block trade. The terms of the transaction must be at
least as favorable to the plan as in an arm's-length
transaction. The compensation associated with a block
trade can not exceed the compensation associated with
an arm's-length transaction with an unrelated party.
Alternate Execution Systems
Protection Act added new Section 408(b)(16) to ERISA which
provides an exemption for any transaction involving
the purchase or sale of securities, or other property,
between a plan and a party in interest if the transaction
is executed through an electronic communication network,
alternative trading system, or similar execution system
or trading venue if certain requirements are satisfied.
The execution system must be subject to regulation by the applicable
regulatory agency or by a foreign regulatory agency.
The execution system must either:
- Be designed to match purchases and sales at the best price available
through the system in accordance with SEC rules or
those of another relevant government authority; or
- Neither the execution system nor the parties to the transaction
may take into account the identity of the parties in
the execution of trades.
The price and compensation associated with the purchase or sale cannot
be greater than in an arm's-length transaction with an
unrelated party. If the party in interest has an ownership
interest in the system, advance authorization by the
plan sponsor or other independent fiduciary is required.
A plan fiduciary must be provided with 30 days prior
notice before using the system.
Service Providers and Their Affiliates
Protection Act added Section 408(b)(17) to ERISA. Section
408(b)(17) provides an exemption for the transactions
described in Section 406(a)(1)(A), (B), and (D), (e.g.
the sale, exchange, or leasing of property; the lending
of money or other extension of credit; or the transfer
of plan assets to, or use by or for the benefit of a
party in interest), if the transactions are between the
plan and a non-fiduciary party in interest that provides
services to a plan or is related to a service provider
to a plan. Such transactions are exempt only if the plan
receives no less, or pays no more, than adequate consideration.
Adequate consideration means:
(i) in the case of a security for which there is a generally recognized
(I) the price of the security prevailing on a national securities
exchange which is registered under Section 6 of the
Securities Exchange Act of 1934, taking into account
factors such as the size of the transaction
and marketability of the security, or
(II) if the
security is not traded on such a national securities
exchange, a price not less favorable
to the plan than the offering price for the security
as established by the current bid and asked prices
quoted by persons independent of
the issuer and of the party in interest, taking into
account factors such as the size of the transaction
and marketability of the security,
(ii) in the case of an asset other than a security
for which there is a generally recognized market,
the fair market value of the asset
as determined in good faith by a fiduciary or fiduciaries
in accordance with regulations prescribed by the
Foreign Exchange Transactions
Protection Act added Section 408(b)(18) to ERISA. Section 408(b)(18)
exempts any foreign exchange transaction between a bank
or a broker-dealer (or an affiliate of either) and a plan
for which the bank or broker-dealer is a trustee, custodian,
fiduciary, or other party in interest if the following
requirements are satisfied:
- The bank or broker-dealer does not have investment discretion or
provide investment advice with respect to the transaction;
- The transaction is in connection with the purchase, holding,
or sale of securities or other investment assets, i.e.
it can not be a stand-alone transaction;
- The terms are no less favorable than an arm's-length transaction
between unrelated parties; and
- The exchange rate cannot deviate by more than 3% from interbank
bid and ask rates for transactions of comparable size
and maturity, as displayed by an independent service
that reports exchange rates.
Protection Act added Section 408(b)(19) to ERISA. Section 408(b)(19)
provides an exemption from ERISA Sections 406(a)(1)(A)
and 406(b)(2) for transactions involving the purchase
or sale of a security between a plan and any other
account managed by the same investment manager if the
following requirements are satisfied:
- The transaction is a purchase or sale, for no consideration other
than cash payment against prompt delivery of a security
for which market quotations are readily available;
- The transaction is effected at the independent current market
price of the security (within the meaning of SEC Rule
- No brokerage commission, fee (except for customary transfer fees,
which are disclosed), or other remuneration is paid
in connection with the transaction;
- Cross-trading must be authorized in advance by a plan fiduciary
other than the investment manager and the plan fiduciary
must receive disclosures detailing the conditions under
which cross-trades will occur. The authorization and
disclosures must be in writing in a document separate
the other written agreements between the parties.
In addition, the investment manager must provide authorizing
plan fiduciaries a copy of the investment manager's
written policies and procedures governing cross-trading;
- Each plan participating in the transaction has assets of at least
$100 million. If the assets of a plan are
invested in a master trust containing the assets of
plans maintained by
employers in the same controlled group, the master
trust must have assets of at least $100 million;
- The investment manager provides to the plan fiduciary who authorized
cross trading a quarterly report detailing all cross
trades executed by the investment manager in which
the plan participated during
the quarter, including the following information,
as applicable: (i) the identity of each security bought
or sold; (ii) the number
of shares or units traded; (iii) the parties involved
in the cross-trade; and (iv) trade price and the method
used to establish the trade
- The investment manager does not
base its fee schedule on the plan's consent to cross
trading, and no other service (other than the investment
opportunities and cost
savings available through a cross trade) is conditioned
on the plan's consent to cross trading;
- The investment manager has adopted, and cross- trades are effected
in accordance with, written cross- trading policies
and procedures that are fair and equitable to all accounts
participating in the
cross- trading program, and that include a description
of the manager's pricing policies and procedures, and
the manager's policies and
procedures for allocating cross trades in an objective
manner among accounts participating in the cross-trading
- The investment manager has designated an individual responsible
for periodically reviewing such purchases and sales
to ensure compliance with the investment manager's
written policies and procedures, and following the
review, the responsible individual must issue an annual
written report no later than 90 days
following the period to which
it relates and signed under penalty of perjury to the
plan fiduciary who authorized cross trading describing
the steps performed during the course of the review,
the level of compliance, and any specific instances
of non- compliance. The written report must also
indicate to the authorizing fiduciary that the plan
has the right to terminate its participation in the
cross-trading program at any time.
On February 9, 2007, the Department of Labor issued Interim
Final Rule 2550.408b-19, which describes the general requirements
for and the content of an investment manager's written
cross-trading policies and procedures. The interim final
rule requires that cross-trading policies:
- Must be fair and equitable to all accounts and reasonably designed
to ensure compliance with Section 408(b)(14);
- Clear and concise and written so as to be understood by the
average plan fiduciary; and
- Sufficiently detailed so as to facilitate the periodic review
of the cross-trading program by the compliance officer.
The interim rule specifically requires that cross-trading policies
- A description for determining whether a cross-trade benefits
the parties to the transaction;
- A description of how the investment manager will determine
that cross-trades are effected at the "independent market
- A description of how the investment manager will ensure compliance
with the $100 million minimum asset size requirement;
- A description of how the investment manager will mitigate
potential conflicts of interests involving the parties
to a cross-trade;
- A requirement that the investment manager allocate cross-trades
among accounts in an objective and equitable manner,
including a description of allocation methods and how
they are chosen;
- The identity of the compliance officer, including a description
of the compliance officer's qualifications; and
- A description of the scope of the review to be conducted by
the compliance officer.
Inadvertent Prohibited Transactions
Protection Act added Section 408(b)(20) to ERISA. Section 408(b)(20)
provides limited exemptive relief for transactions with
parties in interest that are corrected within 14 days of
discovery, or when date when the transaction should have
reasonably been discovered, if:
- The transaction is the acquisition, holding, or disposition of
securities or commodities;
- The transaction is not a transaction between a plan and plan
sponsor that involves employer securities or employer
real estate; and
- The fiduciary or other party in interest did not know, nor reasonably
should have known, that the transaction was prohibited.
Under Section 408(b)(20) means :
- To undo the transaction to the extent possible and in any case
to make good to the plan or affected account and losses
from the transaction; and
- To restore to the plan or affected account any profits made
through the use of assets of the plan.
H.10. Exculpatory and
ERISA Section 410(a)
An exculpatory clause is a provision in a plan document
or trust instrument that attempts to exculpate, or excuse,
persons from certain actions. Sometimes these
are called an immunity provision. These clauses may
attempt to relieve trustees from liabilities from certain
described actions and permit a trustee to adhere
to a lesser standard than otherwise required by applicable
of ERISA states
that any provision in an agreement or instrument which
purports to relieve a fiduciary from responsibility
or liability for any
responsibility, obligation, or duty ... shall be void as against
public policy. The only exception is to recognize
that fiduciaries may allocate and delegate responsibilities
ERISA Section 405 (refer to
subsection H.6, Co-Fiduciary Liability - ERISA
An indemnification agreement is one where one
person or organization agrees to protect another
against loss. In Interpretive Bulletin 75-4, the Labor
Department permits indemnification agreements which
leave the fiduciary fully responsible and liable
for its actions, but allows another party to satisfy
any liability incurred by the fiduciary in the same manner
as fiduciary liability insurance (see below).
The plan itself may not provide this indemnification;
if it does, it is as ineffective as an exculpatory clause.
H.11. Fiduciary Liability
ERISA Section 410(b)
410(b) of ERISA permits,
but does not require, fiduciaries to be covered by fiduciary
liability insurance. This type of
coverage would protect the plan
against errors or omissions of fiduciaries. The insurance
may be purchased by the plan, out of plan assets, or by other
interested parties. Coverage might be
for the fiduciary or the plan sponsor/employer.
If the plan purchases the insurance coverage, the policy
must be payable to the plan. The policy must also provide
that the insurance company may take recourse
(seek reimbursement) against the fiduciaries in the
event of a breach of fiduciary liability. If the plan
purchases the coverage, a party in interest
(such as a fiduciary) may not be the beneficiary
of the policy. If the insurance is purchased by a party
other than the plan, the recourse provision
is not required.
Individual fiduciaries may also purchase fiduciary
liability insurance which would protect them against
personal fiduciary liability. Such protection is
often purchased by banks to protect their directors,
officers, and employees. Reference is made to the
insurance coverage in Section 10 of this Manual.
H.12. Bonding Requirements
ERISA Section 412
requires that, in general, each fiduciary or other person
who is responsible for plan assets must be bonded. Bonding
protects the plan against fraud or
dishonesty. Corporate fiduciaries with $1,000,000
or more in capital are exempted from these provisions.
611(b) of the Pension Protection Act of 2006 added
an exemption for broker/dealers registered under the Securities
Exchange Act of 1934 and subject to the fidelity bonding
requirement of a self-regulatory organization. As a result,
the bonding requirements effectively
apply to bank directors and officers who serve as individual
fiduciaries. The amount of the bond is 10% of the assets
handled, with a minimum of $1,000 and a maximum of $500,000.
If, however, a plan holds employer securities, then the maximum
bond is $1,000,000. See Section
622(a) of the Pension Protection Act of 2006. However, if a plan holds Administrators, officers,
and employees of unfunded plans are exempt from
the bonding requirements.
The bond may have no deductible and must name the plan
as the insured party. A pledge of assets, even if U.S.
Government securities, is not an acceptable
substitute for the bonding coverage. Bankers blanket
bond policies normally do not provide this fiduciary
bonding coverage. There is no requirement for errors
and omissions insurance.
I. Disclosures to Employees and
In enacting ERISA in 1974, Congress found that there was a dearth of information
available to the average plan participant. In most cases, participants had no
legal right to such information. As a result, ERISA requires several
participant disclosures to inform participants of their rights and obligations
under a plan. Two of the most common are described below.
A table located in
subsection J.2. provides an overview of the major ERISA reporting and
I.1. Summary Plan Description
Section 102(a)(1) of ERISA governs the Summary Plan Description (SPD). This
is a plain-language summary of the plan. The SPD is provided to all plan
participants and is required to be sufficiently accurate so as to inform
participants of their rights and duties under the plan. The SPD must be written
in a manner calculated to be understood by that plan's average plan
participant. If a substantial portion of the plan participants speak a language
other than English, the SPD must contain a prominent notice in that other
language stating how to obtain assistance.
SPDs must be prepared for all pension and welfare plans covered by Title I of
ERISA. The requirement applies to plans with fewer than 100 participants, as
well as to large plans. Preparation and distribution of the SPD is normally the
responsibility of the plan administrator, not the bank fiduciary. Only in the
event that the bank is responsible for preparing, distributing, or filing the
SPD does it need to have copies of the disclosures. Nonetheless, if the bank
has a copy, it may provide a good summary of the plan's various provisions.
While there is no specified format for the SPD, the requirements for the
content of the SPD, explained in Department of Labor Regulation 2520.102-3,
have as their objective supplying the plan participant with a full picture of
how the plan operates and whom to contact with questions or complaints. In
general, the SPD should include:
Plan Identification. This includes the name and address of the sponsor, the
plan's tax identification number (EIN), and the type of plan.
Plan Administrator/Trustee. This identifies (name, address, telephone) the
person(s) or organization operating the plan for the plan sponsor, as well as
the plan's trustee(s).
Plan Information. Eligibility qualifications to join the plan must be provided,
as well as a description of circumstances that would lead to disqualification,
ineligibility, forfeiture, loss, or suspension of benefits.
Pension Benefit Guaranty Corporation (PBGC) Coverage. A statement must indicate
whether plan benefits are guaranteed by PBGC and, if not, why not.
Participant Rights. A statement must be included in the SPD which indicates
which rights a participant or beneficiary has under ERISA and the plan. DOL
regulations provide a model statement which may be used.
Benefit Claims. A procedure for claiming benefits must be included in the SPD.
In general, plan participants must be provided an SPD at least once every five
years. If no changes are made to a plan, an SPD must be distributed at least
every ten years. If major changes to a plan are made, a summary of the changes
or an updated SPD must be distributed within seven months after the end of
the plan's fiscal year in which changes occur. Changes need not be sent to
retirees and their beneficiaries if the changes do not affect them.
The summary plan description was also previously filed with the Labor
Department under Section 104(a) of ERISA four months after the plan became
subject to the Act. Whenever material changes were made in the plan, a summary
of the changes, or an updated SPD, was filed with the Labor Department within
seven months after the end of the (plan's) fiscal year in which the changes
Effective August 5, 1997, with the passage of the Taxpayer Relief Act of 1997,
plan administrators were no longer required to file SPDs, summary material
modifications (SMMs) or updated SPDs with the Labor Department. Under the new
law, plan administrators must furnish copies of SPDs and other plan documents
to the department upon request. In addition, new civil penalties of up to $100
per day (not to exceed $1,000 per request) may be assessed against
administrators who fail to furnish the requested information to the department
within 30 days.
I.2. Summary Annual Report
Section 104(b) of ERISA requires each plan to furnish a Summary Annual
Report (SAR) to its participants and beneficiaries. The SAR is
intended to provide interested parties with a concise summary of the plan's
financial position and operating results. The requirement applies to plans with
fewer than 100 participants, as well as to large plans.
DOL has issued two report formats, one for pension plans and another for
welfare benefit plans. See Labor Regulation 2520.104b-10. Both contain basic
plan descriptions and explain how the plan is funded, but the plan
administrator may omit any part of the model SAR that doesn't apply to a
For non-insurance funded plans, the model pension SAR provides for a valuation
of plan assets at the beginning and end of the plan year, amounts of
administrative expenses and benefit disbursements, and information about
transactions with parties in interest. The model welfare benefit SAR provides
information about relevant insurance policies and, if assets are invested
outside insurance funding vehicles, financial information similar to that in
the pension SAR. Both contain a notice that the participant is entitled to more
details, and how to obtain the additional information.
SARs must be distributed to applicable participants two months after the Annual
Report (Form 5500)
is filed. The Form 5500 is normally filed seven months after the
plan's fiscal year-end, so SARs are due to be distributed nine months
after the plan year-end. Any extension in filing Form 5500 automatically
extends the distribution date for the SPD. SARs are not filed with the
J. REPORTING TO GOVERNMENT AGENCIES
Under Title I of the Employee Retirement Income Security Act (ERISA), Title IV
of ERISA, and the Internal Revenue Code, pension and other employee benefit
plans are generally required to file returns/reports annually concerning, among
other things, a plan's financial condition and operations. Many of these
reporting requirements are satisfied by filing the IRS/DOL/PBGC Form 5500.
Private pension plans must also file a reports with the PBGC. The two reports
most often encountered by examiners are summarized below. For a summary of
ERISA reporting requirements refer to
J.1. Annual Return/Report of Employee
Benefit Plan (Form 5500)
Section 103(a)(1)(A) of ERISA requires an annual report to be prepared for
each ERISA plan. ERISA Section 104(a)(1) requires the annual report to be
filed with the government. The annual report is a combined IRS-DOL-PBGC filing
using the Form 5500. Although Form 5500 is an IRS form, it is not a tax form
and the information disclosed on Form 5500 is public information. Information
on Individual Form 5500 filings can be obtained from the freeERISA web site:
Registration is required to use the site, which is available without charge.
Users can access Form 5500 filings either by providing the filer's name or the
filer's Employee Identification Number (EIN).
Not every employee benefit account file sampled will contain a Form 5500, since
it is the administrator and sponsor of an employee benefit plan who are
required to report. However, the bank as trustee may be responsible for the
preparation and filing of the report. In such cases, a copy of the form should
be retained in the trustee's files and available for review by examiners.
Although the examiner's responsibilities do not include validating the
accuracy of Form 5500, examiners should criticize the account if transactions
that took place during the year are not reflected on the Form 5500, or if such
transactions are not reported accurately. Limited penalties may be applicable
for false statements of fact or knowingly concealing information. See DOL ERISA
Regulation 2520.103-1(a)(1) and -1(b)(2)(i), and ERISA Section 103(b)(3).
Form 5500, along with
instructions for its preparation, is available on the Internet
This is the annual report form that pension benefit plans, welfare benefit
Direct Filing Entities (DFEs) and
fringe benefit plans must file. The Form 5500, Annual Return/Report for
Employee Benefit Plans was substantially revised for the 1999 reporting year.
Beginning with the 1999 reporting year, one Form 5500 will be used for all
filers. Prior to 1999, there were several alternative Form 5500s, such as the
5500-C and 5500-R. For the 1999 filing year and thereafter, Form 5500 consists
of a relatively simple main form containing basic identifying information and a
checklist that guides filers to more detailed schedules that must be filed
according to the filer's specific type of plan. Form 5500 contains 12 Individual
schedules. Each schedule focuses on a particular subject area and/or
filing requirement. Filers must complete only those schedules applicable to the
filer's specific type of plan. Refer to the
Profile of Form 5500 Components
table for a summary of the type of information collected for each schedule and
a description of the changes made to each schedule.
The revised Form 5500 was structured to streamline annual reporting
requirements for plans using simple tax qualification structures and financial
operations. Generally, welfare plans will complete fewer items than pension
plans, and small plans (those with fewer than 100 participants) will complete
fewer items than large plans. (Note: In determining whether a plan has
100 or more participants at the beginning of its plan year, all participants
in the plan are counted, not just vested participants.)
Many plans with only one participant can continue to file Form 5500EZ.
Who Must File: Generally, unless exempted, a return/report must be filed
every year for every pension benefit plan, welfare benefit plan, fringe benefit
Direct Filing Entity (see below).
Pension benefit plans required to file include both defined benefit plans and
defined contribution plans. A return/report is due whether or not the plan is
qualified and even if benefits no longer accrue, contributions were not made
this plan year, or contributions are no longer made. The following are among
the pension benefit plans for which a return/report must be filed:
Profit-sharing, stock bonus, money
purchase, 401(k) plans, etc.
Annuity arrangements under Code section
Custodial accounts established under
Code section 403(b)(7) for regulated investment company stock.
Individual retirement accounts (IRAs)
established by an employer under Code section 408(c).
Pension benefit plans maintained outside the United States primarily for
nonresident aliens if the employer who maintains the plan is:
a domestic employer, or
a foreign employer with income derived from sources within the United States if
contributions to the plan are deducted on its U.S. income tax return.
Church pension plans electing coverage under Code section 410(d).
Pension benefit plans that cover
residents of Puerto Rico, the U.S. Virgin Islands, Guam, Wake
Island, or American Samoa.
Plans that satisfy the Actual Deferral Percentage requirements of Code section
401(k)(3)(A)(ii) by adopting the SIMPLE provisions of section 401(k)(11).
The following pension benefit plans are not required to file Form
An unfunded excess benefit plan.
An annuity or custody account
arrangement under Code section 403(b)(1) or (7) not established
or maintained by an employer as described in 29 CFR 2510.3-2(f).
A Savings Incentive Match Plan for
Employees of Small Employers (SIMPLE) that involves SIMPLE IRAs
under Code section 408(p).
A simplified employee pension (SEP) or a
salary reduction SEP described in Code section 408(k) that
conforms to the alternative method of compliance in 29 CFR
2520.104-48 or 2520.104-49.
A church plan not electing coverage under Code section 410(d).
A pension plan that is a qualified
foreign plan within the meaning of Code section 404A(e) that
does not qualify for the treatment provided in Code section
An unfunded pension plan for a select
group of management or highly compensated employees that meets
the requirements of 29 CFR 2520.104-23, including timely filing
of a registration statement with the DOL.
An unfunded dues financed pension plan
that meets the alternative method of compliance provided by 29
An Individual retirement account or
annuity not considered a pension plan under 29 CFR 2510.3-2(d).
A governmental plan.
Welfare benefit plans provide benefits such as medical, dental, life insurance,
apprenticeship and training, scholarship funds, severance pay, disability, etc.
All welfare benefit plans covered by ERISA, except the following, are required
to file Form 5500:
A welfare benefit plan that covered
fewer than 100 participants as of the beginning of the plan year
and is unfunded, fully insured, or a combination of insured and
A welfare benefit plan that is
maintained outside the United States primarily for persons
substantially all of whom are nonresident aliens.
An unfunded or insured welfare plan for
a select group of management or highly compensated employees
which meets the requirements of 29 CFR 2520.104-24.
An employee benefit plan maintained only
to comply with workers' compensation, unemployment compensation,
or disability insurance laws.
A welfare benefit plan that participates
in a group insurance arrangement that files a Form 5500 on
behalf of the welfare benefit plan as specified in 29 CFR
An apprenticeship or training plan
meeting all of the conditions specified in 29 CFR 2520.104-22.
An unfunded dues financed welfare
benefit plan exempted by 29 CFR 2520.104-26.
church plan under ERISA section 3(33).
A welfare benefit plan solely for:
an Individual or an Individual and his
or her spouse, who wholly owns a trade or business, whether
incorporated or unincorporated; or
partners or the partners and the partners' spouses in a partnership.
Plans must file Form 5500 by the last day of the 7th calendar month
after the end of the plan year (not to exceed 12 months in length).
The term direct filing entity includes
common/collective trusts (CCTs),
pooled separate accounts (PSAs),
group insurance arrangements (GIAs),
master trust investment accounts (MTIAs) and
103-12 investment entities (103-12 IEs)
for which a form 5500 is properly filed. Only one Form 5500 should be filed for
each DFE year for all plans participating in the DFE. The DFE Form 5500,
including all required schedules and attachments, must report information for
the DFE year (not to exceed 12 months in length) that ends with or within the
participating plan's year. The DFE Form 5500 filing is an integral part of the
annual report of each participating plan and the plan administrator may be
subject to penalties for failing to file a complete annual report unless both
the DFE Form 5500 and the plan's Form 5500 are properly filed.
For reporting purposes, common/collective
trust (CCT) and pooled separate account (PSA) are, respectively: (1) a trust
maintained by a bank, trust company, or similar institution or (2) an account
maintained by an insurance carrier, which are regulated, supervised, and
subject to periodic examination by a state or Federal agency in the case of a
CCT, or by a state agency in the case of a PSA, for the collective investment
and reinvestment of assets contributed thereto from employee benefit plans
maintained by more than one employer or controlled group of corporations.
A master trust investment
account (usually referred to as a master trust) is a trust for which a
regulated financial institution serves as trustee or custodian (regardless of
whether such institution exercises discretionary authority or control with
respect to the management of assets held in trust), and in which assets of more
than one plan sponsored by a single employer or by a group of employers under
common control are held. The assets of a master trust are considered for
reporting purposes to be held in one or more investment accounts (MTIAs). An
MTIA may consist of a pool of assets or a single asset. Each pool of assets
held in a master trust must be treated as a separate MTIA if each plan that has
an interest in the pool has the same fractional interest in each asset in the
pool as its fractional interest in the pool, and if each such plan may not
dispose of its interest in any asset in the pool without disposing of its
interest in the pool. A master trust may also contain assets that are not held
in such a pool. Each such asset must be treated as a separate MTIA..
DOL Regulation 2520.103-12 provides an alternative method of reporting for
plans that invest in an entity (other than an MTIA, CCT, or PSA), whose
underlying assets include plan assets within the meaning of 29 CFR 2510.3-101
of two or more plans that are not members of a related group of employee
benefit plans. Such an entity that correctly files a Form 5500 constitutes a
103-12 Investment Entity (103-12 IE).
A group insurance arrangement
(GIA), for reporting purposes, provides benefits to the employees of two or
more unaffiliated employers (not in connection with a multiemployer plan or a
collectively-bargained multi-employer plan), fully insures one or more welfare
plans of each participating employer, uses a trust or other entity as the
holder of the insurance contracts, and uses a trust as the conduit for payment
of premiums to the insurance company.
Schedule D, DFE/Participating Plan Information, is a new schedule added to Form
5500 to standardize the format of DFE reporting requirements. DOL's goal is to
ensure adequate reporting of the approximately $2 trillion in plan assets held
in PSAs, CCTs, MTIAs and 103-12 IEs.
DFEs, other than GIAs, must file Form 5500 no later than 9 ½ months after the
end of the DFE year. A Form 5500 filed for a DFE must report information for
the DFE year (not to exceed 12 months in length) that ends with or within the
participating plans year. GIAs must file by the last day of the 7th calendar
month after the end of the plan year (not to exceed 12 months in length) that
began in 1999. A 1999 Transition Rule permits DFEs with a fiscal year ending in
1999 to file 1999 DFE Form 5500s on or before October 16, 2000. Under a
separate 1999 Transition Rule, the new requirements that large plans report
their percentage interests in the assets of CCTs and PSAs on their Schedule H
if the CCT or PSA chooses not to file as a DFE was deferred until
returns/reports for plan years beginning in 2000.
The Form 5500 schedules that a plan must file are generally determined by the
type of plan, pension, welfare, DFE or Fringe Benefit, and, for pension and
welfare plans, whether it is a small or a large plan (i.e. whether the plan has
fewer than 100 participants). The
Quick Reference Chart
summarizes which schedules are required for each type of plan. Three schedules
that examiners should be aware of are detailed below.
Schedule A: Insurance Information - This schedule must be attached if
any benefits under a defined benefit, defined contribution, or welfare benefit
plan are provided by an insurance company, insurance service, or other similar
organization. This includes investments with insurance companies such as
Guaranteed Investment Contracts (GICs).
Schedule B: Actuarial Information - The employer or plan administrator
of a defined benefit plan that is subject to minimum funding standards (see IRC
Section 412 and Part 3 Title I of ERISA) must file this attachment. An enrolled
actuary must sign Schedule B. See Income Tax Regulation Section 301.6059-1(d)
for qualifications of an enrolled actuary. The form summarizes the actuarial
assumptions used to calculate the participant's defined benefit.
Schedule B includes the amount of a defined benefit plan's unfunded vested
liability; the number of plan participants; transactions with insiders; and
limited partnership valuations, as well as similarly difficult to value assets.
For the bank's own employee pension plans, the unfunded vested liability
represents a contingent liability of the bank. See Bank Sponsored Employee
Benefit Plans in
subsection K.3, Unfunded Vested Liability regarding the examination
treatment of unfunded vested pension liabilities.
Schedule C: Service Provider and Trustee Information - All persons
receiving, directly or indirectly, $5,000 or more in compensation for all
services rendered to the plan during the plan year must be described on this
attachment. Examples of service providers include, but are not limited to:
accountants, lawyers, brokers, custodians, trustees, and actuaries.
Form 5500EZ: In general, this form is intended for one participant
Profile Of Form 5500 Components
Source: In Brief: 1999 Form 5500, U.S. Department of Labor - PWBA
Overview information on type of annual return/report,
type of plan, and schedules attached.
Basic information identifying the filer with checklist
for attached schedules
Information on contracts with insurance companies for plans and
Revised by adding questions to collect better data on
type and value of insurance contracts
Actuarial information on defined benefit pension plans.
Minor revisions to update for 1999 requirements.
Information on service providers for large plans and certain
Limited to 40 highest paid service providers,
eliminated list of trustees, and limited termination notice to accountants and
Information on participation in certain pooled investment/insurance
New standardized form for reporting information about
Direct Filing Entities
(DFEs) and participating plans.
Information on ESOP plans.
No material revisions.
Information on nonexempt transactions and loans, leases and fixed
income investments in default/uncollectible for large plans and certain
Streamlining current schedules of loans, leases, fixed
income obligations in default/uncollectible and nonexempt transactions. (Note:
Schedules of assets and reportable (5%) transactions are required to be filed,
but not on computer scannable forms.)
Financial statements and related information for large plans and
New schedule streamlining large plan financial
questions on current Form 5500 and consolidating them into a separate schedule.
Financial statements and related information for small
New schedule streamlining small plan financial
questions on current Form 5500-C/R and consolidating them into a separate
Tax exempt pension trust filers to start IRS statue of
No material revisions.
Information on pension plans including plan
distributions and funding requirements.
New schedule revising pension plan questions on current
Form 5500 and Form 5500-C/R and consolidating them into a single schedule.
Information on pension plan tax
New schedule revising tax qualification questions on
current Form 5500 and Form 5500-C/R and consolidating them into a separate
schedule that can be filed in accordance with the 3-year testing cycle under
Rev. Proc. 93-42.
Information required by Social Security Administration
for pension plans on separated participants with rights to future benefits.
No material revisions.
Quick reference chart
For Filing the new form 55001
Must complete if plan has insurance contracts.
Must complete if plan has insurance contracts.5
Must complete if plan has insurance contracts.
Must complete if plan has insurance contracts.
Must complete if MTIA, 103-12 IE or GIA has insurance
Must complete if defined benefit plan and subject to
minimum funding standards.
Must complete if defined benefit plan and subject to
minimum funding standards.
Must complete if service provider was paid $5,000 or
more and/or an accountant or actuary was terminated.
Must complete if service provider was paid $5,000 or
more and/or an accountant or actuary was terminated.
MTIAs, GIAs and 103-12 IEs must complete Part I if
service provider was paid $5,000 or more. GIAs and 103-12 IEs must complete
Part II if accountant was terminated.
Must complete Part I if plan participates in a CCT,
PSA, MTIA, or 103-12 IE.
Must complete Part I if plan participates in a CCT,
PSA, MTIA, or 103-12 IE.
Must complete Part I if plan participates in a CCT,
PSA, MTIA, or 103-12 IE.
Must complete Part I if plan participates in a CCT,
PSA, MTIA, or 103-12 IE.
All DFEs must complete Part II, and DFEs that invest in
CCT, PSA, or 103-12 IE must also complete Part I.
Must complete if ESOP.
Must complete if ESOP.
Must complete if Schedule H, lines 4b, 4c, or 4d are
Must complete if Schedule H, lines 4b, 4c, or 4d are
MTIAs, GIAs and 103-12 IEs must complete if Schedule H,
lines 4b, 4c, or 4d are Yes.3
All DFEs must complete Parts I, II & III, MTIAs,
103-12 IEs, and GIAs must also complete Part IV.
Must file to start running of statute of limitations
under Code section 6501(a).5
Must file to start running of statute of limitations
under Code section 6501(a).
Must complete unless plan is neither a defined benefit
plan nor subject to Code section 412 or ERISA section 302 and no benefits were
distributed during the plan year.5
Must complete unless plan is neither a defined benefit
plan nor subject to Code section 412 or ERISA section 302 and no benefits were
distributed during the plan year.
Must complete if plan had separated participants with
deferred vested benefits to report.5
Must complete if plan had separated participants with
deferred vested benefits to report.
Must complete if qualified plan unless permitted to
rely on coverage testing information for prior year.5
Must complete if qualified plan unless permitted to
rely on coverage testing information for prior year.
Must attach for a GIA or 103-12 IE.
1 Source: In Brief: 1999 Form 5500, U.S. Department of Labor -
PWBA. This chart provides only general guidance. Not all rules and requirements
are reflected. Refer to specific Form 5500 instructions and regulations for
2 DFE (Direct
Filing Entity) includes: bank common and
collective trusts (CCTs) and insurance
separate accounts (PSAs) (29 CFR
2520.103-3 and 103-4) that choose to file information on behalf of their
participating plans; master
trust investment accounts (MTIAs) (29 CFR 2520.103-1(e); investment
entities filing under 29 CFR 2520.103-12 (103-12
IEs); and group
insurance arrangements (GIAs) filing under 29 CFR 2520.103-2 and
3 Schedules of assets and reportable (5%) transactions also must be
filed with the Form 5500 if Schedule H, lines 4i or 4j are Yes, but use of
scannable form not required.
4 Unfunded, fully insured and combination unfunded/insured welfare
plans covering fewer than 100 participants at the beginning of the plan year
that meet the requirements of 29 CFR 2520.104-20 are exempt from filing an
annual report. Such a plan with 100 or more participants must file an annual
report, but is exempt under 29 CFR 2520.104-44 from the accountant's report
requirement and completing Schedule H, but MUST complete Schedule G, Part III,
to report any nonexempt transactions.
5 Not required for certain plans eligible for limited pension plan
J.2. Pension Benefit Guarantee Corp
(PBGC) Annual Premium Filing (Form PBGC-1)
Benefit Guaranty Corporation (PBGC) was established as a federal
corporation under The Employee Retirement Income Security Act of
1974. The PBGC is responsible for providing pension benefits to
participants and beneficiaries of covered plans when plan sponsors
can no longer fund the plan, generally in the case of bankruptcy.
The agency insures only private-sector defined benefit plans. Public
sector and religious organization pension plans are not covered;
neither does the agency insure defined contribution plans of any
kind. As of December 2006, the PBGC was the guarantor of pension
benefits for more than 44 million American active workers and retirees
participating in more than 30,000 private-sector defined benefit
pension plans. The two major categories of plans covered by the
agency are single-employer and multi-employer pension plans. Multi-employer
plans are generally collectively bargained/union plans which are
funded by one or more companies in a common industry. As of September
30, 2006, the single-employer program accounted for virtually all
of the PBGC’s deficit. It held total assets in these plans
of $61 billion, and was responsible for a present value of future
benefits estimate of $80 billion. PBGC’s liabilities are
not backed by the full faith and credit of the federal government,
nor does it receive any funds from tax revenues. Rather, the PBGC
is self-funding, deriving its revenue from premiums on covered
plans paid by plan sponsors, assets acquired from terminated plans,
recoveries from terminated sponsors, and earnings from invested
Under the single-employer
program, PBGC pays monthly retirement benefits up to a guaranteed
maximum. The guaranteed maximum payment for a single life annuity
in plans terminating in 2007 is: $4,125.00 a month at age 65, $3,258.75
a month at age 62, and $1,856.251 a month at age 55. Benefit increases
and new benefits are only partially covered if plan amendments
covering the increases were adopted less than five years as of
the date a plan terminated. Under the multiemployer Program, the
agency provides financial assistance in the form of loans to plans
facing insolvency. As a requirement for financial assistance, plans
must discontinue benefits in excess of the PBGC's guaranteed level.
Premium Filing (Form PBGC-1)
This form is filed on an annual basis by all defined benefit plans
and is not dependent on the size of the plan. Large plans, plans
with 500 or more participants, must file an estimated flat premium
This form discloses the number of participants and the estimated
amount of premium payment due the PBGC. If an employer wants to
terminate the plan, the PBGC must be notified in advance and must
approve any distributions of plan assets to participants. PBGC
forms are available on the Internet through PBGC's home page at http://www.pbgc.gov/
ERISA Reporting & Disclosure
|PBGC-1 (Premium Pmt)
||7 months after plan
|Summary Annual Report (SAR)
||9 months after plan
||7 months after plan
fiscal year-end (9 ½ months for DFEs other than GIAs
|Reportable Event Notice
||For some, file
notice within 30 days of occurring; for other, report on Form 5500
|Termination Intent Notice
||10 Days Before
Bank Sponsored Employee Benefit Plans
K.1. ERISA Applicability
The following summary gives the major provisions of ERISA applicable to banks
sponsoring pension or profit-sharing plans for their own employees. Review of
these major points should enable the examiner to determine whether a bank is in
substantial compliance with ERISA. Some of the summary points represent a
consolidation of many sections but, where practicable, citations are given
indicating which sections of ERISA may be applicable.
Form of Plan
Employee pension benefit plans are to be in writing [ERISA
Section 402(a)(1)] and, with certain exceptions, must meet ERISA's
minimum participation and vesting standards. [See also
ERISA Section 402(b), refer to
subsection H.3, Establishment of Plan - ERISA Section 402].
Operation of Plan
At least one trustee must be appointed to operate the plan [ERISA
Section 403(a), refer to subsection
H.4, Trustee Requirements - ERISA Section 403]. The trustee need
not be a bank. Usually, directors, officers, or employees of the plan sponsor
(employer) are named as Individual trustees.
In general, ERISA requires that all assets of employee benefit plans be held in
trust. Exemptions exist for fully insured plans and regulations provide that
welfare plans under which benefits are paid directly from the general assets of
the employer (unfunded plans) are exempt from the trust requirements. Insured
plans are those where the funding agency is an insurance company. Contributions
are paid to the insurer which in turn pays all benefits to eligible
participants based upon instructions from the plan's retirement or
administrative committee. These plans range from fully guaranteed retirement
benefits to immediate participation guarantee contracts in which the basic
guarantee is limited to providing lifetime annuities for those employees who
have actually retired.
A trust agreement detailing the responsibilities and duties of the trustee
should be in writing [ERISA
Section 403(a)]. The trust agreement may be included with the plan as
an all-inclusive document, but normally this is not the case. Trust agreements
are not necessary if the plan's assets are solely insurance policies or annuity
contracts issued by insurance companies [ERISA
The plan must be operated solely in the interests of the plan participants and
beneficiaries. In practice, this means that the plan must operate according to
the plan documents and fiduciary principles, with diversified investments made
Section 404, refer to subsection
H.5.b., Requirements]. ERISA prohibits transactions involving conflicts
of interest (ERISA
Section 406(a)) and self-dealing (ERISA
Section 406(b)). Refer to
subsection H.7., Prohibited Transactions - ERISA Section 406.
K.2. Trust Powers
If a bank sponsors an employee benefit plan for its own employees, it may name
Individuals as trustees. This is commonly done in smaller institutions, where
one or more directors and/or officers are named as Individual trustees. Where
the bank itself is named as trustee for its own employee benefit plan (and does
not serve in any fiduciary capacity for any other institution, parent company,
affiliate, or Individual), it is not required to have trust powers unless trust
powers are required by state law for such purposes. In such cases the FDIC does
not view the bank as operating a trust department, and does not require the
bank to apply for Corporation consent to serve as its own trustee. These plans
are typically reviewed at safety and soundness examinations, and no trust
report is prepared. Any apparent violations of ERISA are scheduled in the
safety and soundness report.
Referrals of violations (if any) to the Department of Labor are
prepared according to
instructions found in Appendix A. Refer to
subsection B. of Section 10 of this Manual for further
discussion of situations which may require FDIC consent to exercise trust
powers under Part 333 of FDIC's Rules and Regulations.
K.3. Unfunded Vested Liability
For the bank's own employee defined benefit pension plans, the unfunded vested
liability represents a contingent liability of the bank. The unfunded vested
liability figure from
Form 5500 Schedule B should be noted on the optional own-bank employee
benefit account page in the Trust examination report. If the bank contemplates
terminating its pension plan or if the bank itself is in such a position that
it may be closed, the amount of the unfunded vested liability should be shown
as a contingent liability in the trust examination report and carried forward
to any concurrent safety and soundness examination report.
K.4. Capital Treatment for ESOPs
In issue number 89-10, the Emerging Issues Task Force (EITF) of the
Financial Standards Accounting Board (FASB) reached a consensus that ESOP debt
should be reflected on the plan sponsor's balance sheet if the ESOP has no
other sources of funds except contributions from the sponsor, dividends on the
sponsor's stock, or proceeds from sales of the stock with which to service the
When a bank sponsors a leveraged ESOP which invests in bank stock, there is no
immediate increase in regulatory capital for the bank. While the number of
shares issued has increased because of the purchase by the ESOP, this increase
is offset by the corresponding liability incurred by the bank in guaranteeing
the ESOP loan. As the loan is paid down, a commensurate decrease in the
ESOP-guarantee liability occurs, providing an increase in bank capital.
The FASB EITF indicated that the consensus reached in issue number 89-10
did not address the push down of ESOP debt to a subsidiary's balance sheet in
the situation where the participants are employees of the subsidiary. Security
Exchange Commission (SEC) Staff Accounting Bulletin Topic 5.J provides
that holding company debt should be pushed down to a subsidiary if the
subsidiary will: (1) assume the holding company's debt, (2) retire all or part
of the holding company's debt with the proceeds from a debt or equity offering,
or (3) guarantee or pledge its assets as collateral for the holding company's
When a bank sponsors a leveraged ESOP which invests in the stock of its own
holding company, a case-by-case determination must be made as to the proper
Report of Condition treatment of the impact on the bank's capital. A number of
issues are involved, including whether the bank or the holding company
guarantees the ESOP's debt, sources of funds to repay the debt, etc.
K.5. Fees - Permissibility vs.
Banks are permitted to charge servicing
fees to their own plans and to plans administered on behalf of
their holding company. Labor Department
Opinion 79-49 provides that the
provision of services by a fiduciary to its own employee benefit plans is not a
prohibited transaction under
ERISA Section 406(a).
This falls under the service provider exemption of ERISA
However, this exemption applies only if the fiduciary does not charge the plan
a fee in excess of its direct expenses. If a fee in excess of direct expenses
is charged, the transaction would violate ERISA.
Under Section 23B of the Federal Reserve Act, a holding company must be
charged for services performed on its behalf by an affiliated bank (unless the
bank would also, in good faith, waive fees for comparable transactions with
nonaffiliated plans). Therefore, banks acting as custodian, trustee, or any
other fiduciary capacity for employee benefit plans sponsored by their holding
company, should charge the holding company for performing these services.
Banks which service holding company plans, or their own plans, should be guided
by the ERISA requirement that servicing fees may not exceed their direct
servicing expenses. The Labor Department has previously taken the position that
banks which charge their own plan fees which exceed their "direct expenses,"
are in violation of ERISA
DOL Regulation 2550.408b-2(e)(1).
Banks which do so are also subject to a penalty under ERISA
which is equal to 20 percent of any amount recoverable for the violation or
breach of duty. Banks should also be aware that the DOL has taken the position
that charging fees which are charged other trust customers is not considered a
reimbursement of expenses. This is predicated on the concept that fees are
formulated on a cost plus profit basis.
In reviewing own bank and holding company plans, examiners
should determine whether management: (1) is aware of these
requirements, and (2) can reasonably demonstrate that fees charged the
plans are no more than "direct expenses." Also refer to a
1995 FDIC Legal Opinion on this
matter located in Appendix C.
K.6. Assignment or Alienation of Plan
Examiners may encounter instances (either in trust department accounts, the
bank's own employee benefit plan, or on the commercial side of the bank)
where a participant has assigned their plan benefits as collateral for a loan.
According to ERISA Section 206(d)(1) and IRC Section 401(a)(13), a plan will
not be considered a qualified trust unless it provides that benefits under the
plan may not be assigned or alienated. If a plan is disqualified, it may be
required to forfeit favorable tax treatment. In addition, if a commercial
lender originates a loan accepting an assignment of an employee benefit
account, the lender may have difficulty securing the collateral if the borrower
There are three exceptions to the general rule prohibiting assignment and
alienation of plan benefits. The three exceptions are discussed below.
A plan may provide that once a participant begins receiving benefits under the
plan, the participant may assign or alienate the right to future benefit
payments if the assignment or alienation:
Is voluntary and revocable,
Does not in aggregate exceed 10% of
any benefit payment, and
Is not for the purpose of defraying plan administration costs.
A plan may provide for loans from the plan to a participant or a beneficiary to
be secured by the participant's accrued nonforfeitable benefit provided
that certain circumstances are met.
A plan will not fail to satisfy the requirements of Section 401(a)(13) if
payments are made to an alternate payee under a Qualified Domestic Relations
K.7. In-Kind Contributions
Interpretive Bulletin 94-3 indicates that a prohibited transaction
exists when the plan sponsor makes "in-kind" contributions to defined
benefit plans and certain defined contribution and welfare benefit plans.
Exceptions are noted for certain defined contribution and welfare benefit plans
if the contribution would not reduce a present or future obligation of the plan
sponsor to make cash contributions. Refer to subsections
H.5.c.(1), Contributions, In-Kind and
H.7.f.(5), Loans to Common Borrowers - General.
Compliance with state laws
Section 514(a) of ERISA explicitly provides that, with certain exceptions,
state laws dealing with employee benefit plans subject to ERISA are superseded
by ERISA. From a practical standpoint, this means that only ERISA statutory,
regulatory, and interpretive statements on a given issue apply to plans subject
to ERISA. Even where FDIC requirements or state laws or regulations provide for
a stricter standard, they do not apply to ERISA plans. ERISA further states in
Section 514(b), that nothing shall be construed to exempt or relieve any person
(or bank) from any law of any state which regulates insurance, banking, or
securities. Refer to
AO 94-41 for further discussion.
L.1. Escheat Provisions
When the plan document specifies the disposition of undeliverable benefits,
those procedures control the trustee's actions. However, most plans will
not address escheat guidelines. Thus, DOL concludes that ERISA preempts state
escheat laws to the extent they apply to employee benefit plan payments when
escheating is not addressed in state banking laws. In states where escheating
is not addressed in state banking law, and the bank (as trustee or plan
sponsor) remits unclaimed property to the state, an apparent violation of
ERISA Section 404(a) would exist. Section 404(a) requires the trustee
to hold and conserve plan assets for the exclusive purpose of providing
benefits and defraying reasonable plan expenses. In states where escheat
provisions are addressed in state banking law, examiners should not cite an
apparent ERISA violation. However, the examiner should ensure that the bank is
in compliance with state escheat laws. Refer to
L.2. Special Treatment for Multiple
Employer Welfare Arrangements (MEWAs)
The term Multiple Employee Welfare Arrangement (MEWA) is defined in
Section 3(40)(A) of
ERISA. A special provision exists for MEWA plans which are fully
insured. In 1983, Congress added Section 514(b)(6) to ERISA to explicitly
disclose that State insurance regulations apply to fully insured MEWA plans.
Fully insured MEWA plans and unfunded MEWA plans are relatively rare (refer to
subsection D.2.g., Welfare benefit Plans for
Compliance with the Internal Revenue Code
A prohibited transaction cited under
ERISA Section 406 represents, in almost every instance, a parallel
Section 4975 of the Internal Revenue Code (IRC). Whenever
examiners cite a violation of ERISA Section 406, the corresponding
violation of IRC Section 4975 should also be noted. The result is that a
prohibited transaction under ERISA creates tax penalties levied by the IRS.
There are some differences between ERISA and IRC provisions. Different
terminology is used, such as the
party in interest of ERISA is a
disqualified person in IRC. The two definitions can differ in unusual
situations. As a result, examiners should note that a few ERISA prohibited
transactions may not result in tax penalties under IRC Section 4975.
Section 4975 of IRC, titled Tax on Prohibited Transactions appears in
N. Referrals of ERISA Violations to the Department of Labor (DOL)
The federal financial institution agencies entered into an agreement
with the DOL to refer violations of ERISA, meeting certain specific criteria,
to that agency. The Labor Department in turn is obligated by law to refer
certain matters to the Internal Revenue Service. A copy of the Interagency
Agreement is located in Appendix E. The referral agreement covers only
apparent violations cited in FDIC examination reports. Apparent violations
cited in State examination reports are not forwarded by the FDIC to the Labor
In compliance with the
interagency agreement, the Corporation may forward the following
types of apparent violations to the Labor Department:
Where the federal financial institution does not serve
as plan administrator or plan sponsor, as those terms are defined in ERISA
Section 3(16), possible violations of:
Title I, Part 4, Section 404,
relating to fiduciary duties (including transactions directed by named
fiduciaries or qualified investment managers), except where the transaction
amounts, individually or in combination with other questionable transactions,
constitute less than $100,000;
Title I, Part 4,
407(a), relating to prohibited transactions,
except where the threat of loss to the plan participants is de minimis;
Title I, Part 4,
relating to prohibition against certain persons holding certain positions;
Title I, Part 4,
relating to the bonding requirements as applicable to the financial institution
Where the financial
institution, in respect to a plan, also serves as plan administrator or plan
sponsor, the agencies shall provide written notification of possible violations
of the ERISA sections listed above, plus written notification of possible
violations of Title I, Part 1 of ERISA relating to reporting and
Examiners may cite ERISA violations of a bank's own employee benefit plan(s) in
the safety and soundness examination report if the bank does not operate a
trust department. Employee benefit plans operated by the bank are subject to
review and examination by FDIC examiners. A substantial number of ERISA
violations referred to the Labor Department come from other than trust
A separate page in the trust examination report,
ERISA Employee Benefit Account - Recommendation for Referral to Labor
Department, is used to provide relevant information about the employee
benefit plan(s) affected and to facilitate the referral of the violation(s) to
the Labor Department. This page should also be used if ERISA violations
warranting referral are scheduled in the safety and soundness examination
report. This separate page, when used, is either submitted as part of the
Confidential Section of the examination report, or submitted separately to the
Regional Office along with the report of examination.
Instructions for completing the
ERISA referral schedule can be found in Appendix A.
Account Documentation and IRS Determination Letters
O.1. Account Documentation in General
As with other types of trusts and agencies serviced by the trust department,
corporate sponsored employee benefit accounts should be fully documented. At a
minimum, the department should have on file properly executed copies of the:
Governing plan document together with all subsequent amendments.
Trust instrument or agency agreement, if separate from the plan document,
together with all subsequent amendments.
Even if the department services accounts only in an agency capacity, such as a
custodian, it is still desirable that copies of the governing plan document and
agency agreement be on file. Retaining such documentation enables bank
personnel to assure that responsibilities are executed in accordance with plan
or agreement provisions.
Certified resolution(s) of the sponsoring firm's board of directors adopting
the plan, trust agreement, and subsequent amendments to either.
Documents evidencing the appointment of other parties authorized, in accord
with plan provisions, to direct the trustee to:
Make benefit payments (normally, the plan administrator), and/or
Select trust investments (normally, an outside investment manager) [see
Internal Revenue Service determination letter if the:
Bank is acting as plan administrator, or
Account is invested in a CIF restricted to employee benefit accounts operating
Revenue Ruling 81-100.
IRS Letter of Determination
If requested, the IRS will review a plan and make a determination as to whether
it meets the various standards to make it eligible for tax deductions. The
opinion letter issued by the IRS is called a Letter of Determination. While
there is no requirement imposed by ERISA or the IRS to obtain a Letter of
Determination, it is prudent for the plan sponsor to do so. Failure to obtain a
letter, however, is not a violation.
Letters of Determination are usually obtained for new plans and for
amendments to existing plans. Each amendment to an existing plan does not
normally trigger a request for a new Letter of Determination. A number of minor
changes will occur before a new Letter of Determination is required. On the
other hand, if a major change occurs, the plan sponsor will often seek a new
Letter from the IRS.
Determination Letter appears in Appendix E. For further information,
Publication 794. Relevant information from this
publication appears in Appendix E.
P. Voluntary Correction Programs
Employee Benefit Plan Voluntary Correction
The Internal Revenue Service, US Department of Labor, and Pension
Benefit Guaranty Corporation have adopted voluntary correction programs which
permit employee benefit plan sponsors and other plan officials to correct
certain categories of errors and misfilings with either no, or reduced,
penalties, while preserving the plan's tax qualification.
Internal Revenue Service
The IRS retirement plan
correction program (Employee Plans Compliance Resolution System, covered under
Revenue Procedure 2003-44), helps employer sponsors protect participant benefits
and keep their plans within the requirements of the Internal Revenue Code. This
revenue procedure combined and revised a series of previous IRS remedial
programs for correcting plan qualification defects. The program covers
qualified retirement plans, Section 403(b) arrangements, SEPs, and SIMPLE IRAs,
for a variety of plan qualification failures and violations, including:
operational failures, for failure to comply with terms of plan documents; plan
document failures, in which retirement plan provisions violate IRS qualification
requirements; demographic failures, in which IRS nondiscrimination requirements
are not met in the plan document; and the diversion or misuse of plan assets.
Self Correction Program certain plan
errors can be corrected without IRS involvement. No notification of IRS
is required, no fees or penalties are assessed, and the plan and its
participants retain tax benefits.
Voluntary Correction Program
Voluntary Correction Program may be
used for plan errors which not eligible for self‑correction. Errors
are corrected and the tax benefits of the plan are preserved for plan
participants with IRS assistance.
Errors corrected under
either the Self Correction or Voluntary Correction programsare not
treated as errors when the IRS audits these plans. For other errors found
during IRS examinations, the Audit Closing Agreement Program permits
their correction and tax benefit preservation at fees which are lower than would
be incurred if the plan had not a participated in the Voluntary Correction
U.S. Department of Labor
The Employee Benefits
Security Administration has two voluntary self-correction programs for plan
administrators who need help in meeting ERISA requirements:
the Delinquent Filer
Voluntary Compliance Program promotes, through the assessment of reduced civil
penalties, plan administrator compliance with annual reporting obligations under
Title I of the Employee Retirement Income Security Act of 1974; theVoluntary Fiduciary
Compliance Program allows plan participants and beneficiaries and certain other
persons engaging prohibited transactions under the Employee Retirement Income
Security Act of 1974 to self‑correct the violations, and avoid potential civil
actions by the DOL.
Delinquent Filer Voluntary Compliance Program
Delinquent Filer Voluntary Compliance Program
assists plan administrators who have filed Form 5500 late, or not filed it at
all, to comply with the filing requirements and pay reduced civil
penalties. The IRS has agreed to provide penalty relief under the Code
for delinquent Form 5500 Annual Returns/Reports filed for Title I plans where
the conditions of this program have been satisfied.
Voluntary Fiduciary Correction Program
The Voluntary Fiduciary Correction Program
2002-51 and PTE
2002-51 Amendment) affords
plan sponsors and officials the opportunity
to self-correct 15 specific transactions,
involving delinquent participant
contributions and other violations, prohibited
under ERISA. The DOL also
relieves these individuals from the payment of
excise taxes associated with the transactions
covered under the class exemption.
Pension Benefit Guaranty
PBGC provides incentives to
self-correct late filings, or other errors involving missed premium deadlines
and underpaid premiums.
Underpaid Premium Correction Program
underpayments made before PBGC sends a notice of premium delinquency or a
premium audit, reduces the monthly penalty rate by 80 percent (from 5 percent to
1 percent of the unpaid premium). Premium penalties may be waived for
reasonable cause or in other appropriate circumstances.
Missed or improperly
prepared reports or notices are assessed lower penalties where the failure is
quickly corrected or involves a small plan. Information penalties are waived
for reasonable cause or in other appropriate circumstances. Self‑correction is
considered a mitigating factor for plans participating in this program.
Q. Catch-up Contributions
The Economic Growth
and Tax Relief Reconciliation Act of 2001 (EGTRRA) amended IRC Sections 402 and
414, creating a new category of elective retirement plan contributions,
referred to as "catch-up"
contributions. It also added IRC Section 414(v) which, effective for plan
years beginning after December 31, 2001, permits individuals age 50 or older to
make additional pre-tax salary deferrals ("catch‑up" contributions) to
certain eligible plans: 401(k) plans, SIMPLE
IRA plans, simplified employee pensions (SEPs), Section 403(b) arrangements, and
Section 457 governmental plans. Eligible plans must be amended to
permit catch-up contributions.
Final regulations implementing "catch-up"
contribution rules were issued under
IRS Revenue Bulletin 2003-37.
contributions are elective retirement plan salary deferrals which would
otherwise exceed plan imposed limitations. Catch-up contributions are also
exempted from certain IRC statutory limits (IRC 401(a)(30), 401(k)(11), 402(h),
402A(c)(2), 403(b), 404(h), 408(k), 408(p), 415, and 457). Employers are
not required to match catch-up contributions, and may incorporate plan language
explicitly omitting catch-up contributions from existing employer-matching salary deferral
programs. The IRC also does not require employers to provide for catch-up
contributions in any of its plans. However, if an employer permits
catch-up contributions in any one of its eligible plans, it must "universally" permit them in each of
the eligible plans it sponsors. This "universality"
provision ensures employers may not favor one category of employee vs. another
(non-union vs. unionized, etc.). A temporary exclusion for
collectively bargained plans is permitted, but only until the expiration of
existing union agreements. Thereafter, all plans must be treated
"universally." Although plan participants may elect to make "catch-up" contributions to
a multiple number of eligible employer sponsored plans, the
aggregate of their catch-up deferrals may not exceed annual statutory limits.
Under the IRC,
deferrals are not considered "catch-up" contributions until the end of the
plan's year. This is so because it cannot be determined until the end of a
plan year whether or not the elective deferral will exceed plan limits.
Further, although the catch-up limit is applied on a calendar year basis, the
implementing regulations provide guidance on how the contributions may be
calculated for retirement plans operating on a fiscal year basis.
for all eligible plans except SIMPLE 401(k) and IRA plans:
for SIMPLE 401(k) and IRA plans:
*For taxable years
beginning after 2006, catch-up limits will be adjusted for inflation in
increments of $500.