404(c) Implications of Elimination of an Investment Option and/or Imposition of a Cap

[Guest wendycatherine]

I was wondering how others have handled the following situations with the idea of preserving 404© compliance:

(1) elimination of a fund (give participants x amount of time to get out and if they don't, ...); and

(2) imposition of a cap on how much participants can invest in a fund.

[Guest GRobert]

The Trustees have a fiduciary duty to make decisions regarding which funds are appropriate for the plan and must have established criteria by which they make their decisions regarding the inclusion or exclusion of an investment fund. If a fund option currently in the lineup, fails to meet the criteria set forth, the the Trustee has an obligation to replace that fund, again, based on the criteria set forth in the Investment Policy Statement. The Trustees must advise all plan participants that the investment in question has failed to meet the investment criteria set forth (poor performance relative to its peer group) and that the fund will be replaced at a specific time. Employees can move into another option or their shares will be exchanged into the new replacement fund, which should have similar objectives and characteristics.

A Trustee should not replace a fund simply because it is high risk and should allow plan participants to have a full range of risk/reward options. A proper education program should be in place to advise plan participants about the risks of investing too heavily into a higher risk fund option.

Placing a "cap" on how much a plan participant can invest in a particular fund would not be a prudent course of action by a Trustee. If the fund is in the line up, the Trustees can not and should not place any limits on plan participants. They should have a proper educational forum where an investment professional should advise about proper asset allocation to reduce risk etc. If the Trustee(s) have done their job in establishing specific criteria for funds to be included in the plan investment lineup, replaced those funds that fail to meet those criteria, and provide a good educational program to the plan participants, then they (theoretically) should have done their fiduciary duty. If they fail to follow these procedures, they could have some potential problems.

[austin3515]

1) 404© is blown if you pull them out of a fund and map them to a new similar fund. OF course if this fund is better, perhaps the related liability wouldn't be such a scary thing. But because you picked the fund, and not the participant, 404© does not apply.

2) This one is much more gray (I think). Again, you don't want to be the one making decisions about investments (except of course for selecting good funds to put on the menu!).

[Guest wendycatherine]

I am interested in some real-life examples (time frames, etc.) of what others have done. Specifically,

(1) We are eliminating a fund. I will tell the participants to get rid of their interest in the fund and invest in another option by x date. But what if they don't? I will be forced to map them, right? Doing this on one date seems dangerous. We are considering a tiered approach (sell 25% by x date, 25% by y date, etc.)

(2) We are considering putting a cap on employer stock which seems like a good idea. I agree that it seems contrary to the spirit of 404© (i.e. telling participants what to do), but it doesn't seem to directly violate it.

[mbozek]

1. What is the reason for putting a cap on the ER stock? If the stock tanks the plan will be sued for allowing the stock to be an option under the plan regardless of the limits on employee ownership.

2. How will the cap be implimented? Will employee be forced to sell stock once their interest goes above the cap or merely not permitted to purchase more stock. Second what if an employee's interest is above the cap on day one which requires a sale of stock at price of X and the next day the stock falls requiring that stock be repurchased at X-1 benefiting the employee at the expense of other participants. Who will pay for the cost if the additional trades cannot be handled internally through order matching.

[austin3515]

I think with employer stock, the prudent thing to do is to limit their investment to a percentage to force some diversification. I have had clients in the past where once the balance of er stock exceeds 25%, future purchases are simply not allowed. What happens in the future is not relevant (similar to reviewing loans for the 50% security).

I'm with mbozek though, with employer stock, 404© is by far the lesser issuer. You'll get nailed on the appropriateness of the investment in the first place--Of course imposing a cap is in my opinion a very good demonstration of prudence which will outa help quite a bit in your defense...

[Kirk Maldonado]

We had two very good posts here.

I thought the post by GRobert was informative, well-thought out, and well-written. Comments like that what makes BenefitsLink a valuable resource to all of us.

I thought that mbozek, as he often does, pointed out real problems that occur in real life. Which is very helpful because many of us (myself included) tend to focus on hyper-technical issues and fail to focus upon real-world consequences that may render the discussion of technical issues moot.

Thanks to both of your for taking the time to prepare useful posts.

[Guest sb actuary]

Regarding point 1 . . . the fiduciary's duty to select and monitor funds is a separate issue from 404©. If the fiduciary selects an inappropriate fund for the Plan's investment menu, or fails to remove from the menu a fund that is no longer a suitable investment option, the fact that employees may have chosen to invest their account in that fund won't be a defense for the fiduciary. The failure to remove the fund is an ERISA 404(a) violation. 404© is not a defense. In re Unisys litigation involving the plan committee's selection of the vendor for the guaranteed account is a good example of this principle.