Presenting a live 90-minute webinar with interactive Q&A ERISA Retirement Plan Investment Management Agreements: Guidance for Plan Sponsors to Minimize Risks Selecting 3(38) Investment Managers, Negotiating and Drafting Agreements, Monitoring Manager Performance THURSDAY, SEPTEMBER 17, 2015 1pm Eastern 12pm Central 11am Mountain 10am Pacific Today s faculty features: Alexander P. Ryan, Of Counsel, Groom Law Group, Washington, D.C. Todd A. Solomon, Partner, McDermott Will & Emery, Chicago Joseph K. Urwitz, Partner, McDermott Will & Emery, Boston The audio portion of the conference may be accessed via the telephone or by using your computer's speakers. Please refer to the instructions emailed to registrants for additional information. If you have any questions, please contact Customer Service at 1-800-926-7926 ext. 10.
Tips for Optimal Quality FOR LIVE EVENT ONLY Sound Quality If you are listening via your computer speakers, please note that the quality of your sound will vary depending on the speed and quality of your internet connection. If the sound quality is not satisfactory, you may listen via the phone: dial 1-866-258-2056 and enter your PIN when prompted. Otherwise, please send us a chat or e-mail sound@straffordpub.com immediately so we can address the problem. If you dialed in and have any difficulties during the call, press *0 for assistance. Viewing Quality To maximize your screen, press the F11 key on your keyboard. To exit full screen, press the F11 key again.
Continuing Education Credits FOR LIVE EVENT ONLY In order for us to process your continuing education credit, you must confirm your participation in this webinar by completing and submitting the Attendance Affirmation/Evaluation after the webinar. A link to the Attendance Affirmation/Evaluation will be in the thank you email that you will receive immediately following the program. For additional information about CLE credit processing call us at 1-800-926-7926 ext. 35.
Program Materials FOR LIVE EVENT ONLY If you have not printed the conference materials for this program, please complete the following steps: Click on the ^ symbol next to Conference Materials in the middle of the lefthand column on your screen. Click on the tab labeled Handouts that appears, and there you will see a PDF of the slides for today's program. Double click on the PDF and a separate page will open. Print the slides by clicking on the printer icon.
Todd A. Solomon tsolomon@mwe.com Joseph K. Urwitz jurwitz@mwe.com
What is an Investment Manager? ERISA 402(c)(3) provides that a named fiduciary may appoint an investment manager or managers to manage (including the power to acquire and dispose of) any assets of a plan. Investment manager defined under ERISA 3(38) as a fiduciary who: Has the power to manage, acquire or dispose of plan assets; Acknowledges in writing that it is a plan fiduciary; and Is an investment advisor, bank or insurance company qualified to manage, acquire or dispose of plan assets. Additional rules apply if investment manager is an investment advisor. 6
Managed Accounts and Investment Policies Investment manager manages managed account May include all or a portion of a plan s assets. Like other plan fiduciaries, investment manager must adhere to provisions of plan documents except to the extent inconsistent with ERISA. Plan documents include plan investment policy. 7
Managed Accounts and Investment Policies (Contd) Investment policies generally contain a number of provisions relevant to investment managers, such as: Plan objectives and investment philosophies; Parameters regarding diversification of plan investments; A list of permitted investment and prohibited transactions; General guidelines regarding the percentage of assets to be invested in various asset classes such as equities, fixed income investments, real estate, etc. And Many Others! 8
Management Fees Fees to investment advisors at fixed intervals (such as monthly or quarterly). Usually a fixed percentage of the fair market value of the plan assets under management. Must be reasonable compensation under ERISA 408(b)(2): Services must be necessary for establishment of the plan; Arrangement for the provision of services is reasonable; and No more than reasonable compensation is paid for the services. 9
Management Fees (Contd) To be reasonable, arrangement must permit termination on reasonably short notice : Facts and circumstances determination. Factors in determining reasonableness of length include: The scope and quality of services provided; The relationship between the parties to the agreement; The cost of services relative to the market; and The existence of service providers who could perform similar services. I generally advise clients to have a 30 day termination period if possible and that longer than 90 days should generally be avoided. Investment managers generally must provide plan fiduciaries certain disclosure reasonably in advance of entering into, extending or renewing a contract or arrangement. 10
Management Fees (Contd) Disclosure includes: Services to be provided; Acknowledgement of fiduciary status (and registered investment adviser status, if applicable); Compensation the manager reasonably expects to receive in connection with the services as direct compensation, indirect compensation, compensation relating to contract termination and certain other fees; and Certain disclosures relating to recordkeeping, if the investment manager will also be providing recordkeeping services. 11
Incentive Fees Fees charged based on percentage increase in the value of assets under management. DOL concerned that investment managers might time sales to realize a profit leading to an incentive fee. DOL Advisory Opinions address this concern: Incentive fees were based on the increase of the value of assets over a period (whether or not realized); If value of assets decreased, plan would receive a credit against assets under management fee or refund of previous incentive fees; Plans had assets under management of $50 million+. 12
Investment Management Agreements Key Terms and Considerations Alexander P. Ryan Groom Law Group, Chartered
Key ERISA Terms and Considerations Introductory Comments Investments are a key aspect of employee benefit plans. Plan sponsors need to think carefully about how to document their investment management service relationships. What do the agreements say and how do they say it? 14
Key ERISA Terms and Considerations Proper Investment Manager Appointment An ERISA investment manager appointment is perhaps the most important term in an investment management agreement. A properly-appointed ERISA section 3(38) investment manager provides protection to the plan sponsor. 15
Key ERISA Terms and Considerations Proper Investment Manager Appointment ERISA section 405(d)(1) provides... [i]f an investment manager...has been appointed under section 402(c)(3)...no trustee shall be liable for the acts or omissions of such investment manager...or be under an obligation to invest or otherwise manage any asset of the plan which is subject to the management of such investment manager. 16
Key ERISA Terms and Considerations Proper Investment Manager Appointment Keep in mind the requirements of ERISA section 3(38): Investment manager must be a registered investment adviser under the Investment Advisers Act of 1940; Or must be an investment adviser registered at the state level, or a bank, or an insurance company; Manager must acknowledge in writing its ERISA fiduciary status; and 17
Key ERISA Terms and Considerations Proper Investment Manager Appointment Manager must have discretionary authority over plan assets committed to it (i.e.,...the power to manage, acquire, or dispose of any asset of a plan ). Practice point: Be sure investment manager does in fact have discretionary authority and is not acting in merely an advisory capacity (i.e., solely as a fiduciary under ERISA section 3(21)(A)(ii)). 18
Key ERISA Terms and Considerations ERISA Standard of Care and Fiduciary Duties ERISA fiduciaries are required to adhere to certain basic duties set forth in ERISA section 404. Apply by operation of law but good practice to document. Duty of prudence; Duty of loyalty; Duty to diversify; and Duty to follow plan documents. 19
Key ERISA Terms and Considerations Limitations on Indemnity and Exculpatory Provisions ERISA section 410 generally prohibits a plan from indemnifying a fiduciary out of plan assets for an ERISA breach....any provision in an agreement or instrument which purports to relieve a fiduciary from responsibility or liability for any responsibility, obligation, or duty [under Part 4 of Title I of ERISA]...shall be void as against public policy. Applies by operation of law, but good practice to document. Specific vs. general language? 20
Key ERISA Terms and Considerations Avoidance of Prohibited Transactions Good practice to document that investment manager will not cause plan to engage in transactions prohibited under ERISA or the Code (absent an exemption). Avoid transactions prohibited under ERISA section 406(a) ( party in interest transactions) and under ERISA section 406(b) (fiduciary selfdealing/conflict transactions). 21
Key ERISA Terms and Considerations Avoidance of Prohibited Transactions - QPAM Many investment managers rely on PTE 84-14 (the QPAM exemption). Permits managers to engage in ERISA section 406(a) party in interest prohibited transactions, under certain circumstances. Basic requirements are similar to ERISA section 3(38) investment manager qualification, but with some important additional conditions. 22
Key ERISA Terms and Considerations Avoidance of Prohibited Transactions - QPAM Must be an independent fiduciary that is a registered investment adviser, a bank, an S&L, or an insurance company. Must satisfy certain capital requirements and, in the case of RIAs, certain AUM requirements. Must acknowledge fiduciary status in writing. Must have discretionary investment authority. Other technical requirements. 23
Key ERISA Terms and Considerations Avoidance of Prohibited Transactions - QPAM Practice point: QPAM exemption does not cover ERISA section 406(b) prohibited transactions. QPAM is not the only game in town. Managers may (and often must) rely on other statutory or class prohibited transaction exemptions in managing plan assets, e.g., ERISA section 408(b)(17), ERISA section 408(b)(8), PTE 77-4, PTE 86-128. 24
Key ERISA Terms and Considerations Fee Structures Choice of fee structure has important legal ramifications. ERISA section 406(a)(1)(D) prohibits an ERISA fiduciary from causing an ERISA plan to engage in a transaction that constitutes a transfer to, or use by or for the benefit of, a party in interest (including the manager), of any plan asset. ERISA section 406(b)(1) prohibits an ERISA fiduciary from dealing with the assets of an ERISA plan in the fiduciary s own interest or for its own account. 25
Key ERISA Terms and Considerations Fee Structures DOL has interpreted these provisions to prohibit an ERISA fiduciary from exercising its fiduciary discretion in a manner that would impact the amount or timing of the fiduciary s compensation i.e., from taking discretionary actions that could result in an investment manager receiving additional, larger or more frequent management fees. 26
Key ERISA Terms and Considerations Fee Structures These rules generally preclude the use of transaction-based fees, e.g., acquisition fees, disposition fees, financing fees, commissions, etc. absent an exemption. 27
Key ERISA Terms and Considerations Fee Structures Typical separate account fee structure: manager earns pre-determined percentage of value of assets under management. May be permissible under ERISA, but manager must not exercise discretion over the value of the account s assets if doing so would result in the manager receiving a larger management fee (i.e., by inflating the value of the account s assets to increase fees). Assets under these arrangements are typically valued independent of the manager, e.g., via publicly-available market information or use of independent valuation service. 28
Other Important ERISA Terms and Considerations Bonding Generally, anyone handling plan assets must comply with the bonding requirements set forth in ERISA section 412. Every fiduciary of an employee benefit plan and every person who handles funds or other property of such a plan...shall be bonded... 29
Other Important ERISA Terms and Considerations Bonding Exceptions for broker-dealers, trust companies and insurance companies. Practice point: Protection under ERISA section 412 is limited: Provides coverage for fraud and dishonesty but does not provide general liability coverage for ERISA fiduciary breach. 30
Other Important ERISA Terms and Considerations ERISA Fiduciary Insurance For protection against manager s general liability, look to fiduciary insurance coverage. Practice point: Unlike ERISA bonding coverage, fiduciary insurance is not a legal requirement (but many managers carry some amount of coverage). Practice point: Some managers do not have separate ERISA fiduciary liability policies; good practice to confirm that manager s general liability policy includes ERISA coverage. 31
Other Important ERISA Terms and Considerations Reporting and Disclosure Investment managers are covered service providers for purposes of the fee disclosure regulation under ERISA section 408(b)(2). Managers must provide written disclosures to plans describing managers services to plans, their ERISA fiduciary status, and what and how they will be paid as a result of the service relationship. 32
Other Important ERISA Terms and Considerations Reporting and Disclosure Practice point: Important to obtain manager s ERISA section 408(b)(2) disclosure before the investment management agreement is finalized. A covered service provider must disclose the information...to the responsible plan fiduciary reasonably in advance of the date the contract or arrangement is entered into, and extended or renewed... 33
Other Important ERISA Terms and Considerations Reporting and Disclosure ERISA plans are required to submit annual reports to the Department of Labor and other federal regulatory agencies Form 5500. Schedules C and H are particularly relevant to investments. Plan administrators need information from investment managers for this purpose. Good practice to document that manager will cooperate with plan in providing information. 34
Other Important ERISA Terms and Considerations Termination of Contracts Investment managers are service providers to plan and, thus, parties in interest under ERISA. ERISA section 406(a) generally prohibits furnishing goods, services, or facilities (and payment therefor) between plans and parties in interest including service arrangements. 35
Other Important ERISA Terms and Considerations Termination of Contracts But ERISA section 408(b)(2) provides an exemption. Permits [c]ontracting or making reasonable arrangements with a party in interest for office space, or legal, accounting, or other services necessary for the establishment or operation of the plan, if no more than reasonable compensation is paid therefor. 36
Other Important ERISA Terms and Considerations Termination of Contracts DOL regulations under ERISA section 408(b)(2) require that plans be permitted to terminate service provider arrangements on reasonably short notice under the circumstances. No contract or arrangement is reasonable...if it does not permit termination by the plan without penalty to the plan on reasonably short notice under the circumstances to prevent the plan from becoming locked into an arrangement that has become disadvantageous. Practice point: Avoid termination language in contract that looks like a penalty (e.g., required payments of prospective management fees upon termination). 37
Other Important Terms and Considerations Confidentiality Most investment contracts impose confidentiality obligations on both the manager and the plan. From plan s perspective, confirm that manager will protect confidentiality of plan s identity and information and will not use plan information for marketing and promotional purposes. 38
Other Important Terms and Considerations Confidentiality Plans need to be able to share and discuss otherwise confidential investment information with plan professional advisers, employees and staff, and trustees. Confirm in investment management agreement that such disclosures are permitted, without further notice by plan to manager. 39
Other Important Terms and Considerations Jurisdiction and Venue Investment management agreements typically specify where disputes between the investment manager and the plan will be resolved. Managers usually prefer that disputes be resolved in the manager s home state. Consider requiring that such disputes be litigated in the plan s home state instead. May depend on how much bargaining power the plan has relative to the manager. 40
Questions? Alexander P. Ryan Groom Law Group, Chartered 1701 Pennsylvania Avenue, NW Suite 1200 Washington, DC 20006 (202) 861-6639 apr@groom.com 41