Prohibitted Transaction?

[austin3515]

Can the brother of an owner be the paid investment advisor for the plan? (i.e., paid from plan assets).

[Belgarath]

I believe that under either the "party in interest" or "disqualified person" definitions, it is spouses, lineal ascendants and descendants. So in and of itself, I don't see a PT here strictly on the basis of being a sibling.

[J Simmons]

I agree with Belgarath re disqualified person/party in interest for PT purposes.

However, I'd be very concerned about possible fiduciary violations unless the owner can prove that using the brother as the plan's investment advisor can clearly be shown to be in the best interests of the employees and other beneficiaries.

[austin3515]

I agree, I got off my you know what and looked it up and found that sibling is not on the list. But I also agree (and what I said to the client) is that upon audit there would be some pretty serious scrutiny of this appointment.

[Guest LLHarlow]

It's not even a PT if it's a disqualified person unless the rate of compensation is unreasonable. My employer's partners are plan fiduciaries and they are compensated as the plan's financial advisor. We had to get an ERISA opinion to satisfy the broker/dealer and it's not a PT because we're paying the same rate to the partners that the prior advisor was charging. This wasn't my decision and I strongly urge against a disqualified person acting as the advisor unless he/she is acting as the advisor without compensation. That's fairly common - think of all the qualifed plans of investment advisors. They're not likely to appoint another advisor for their plan.

This is going to be scuritinized mightily by the IRS and/or DOL on examination or as the result of a participant complaint. The employer should be able to establish that the compensation rate is reasonable and the advisor is performing at least as well as others. If I were this employer, I would perform a due diligence search at least every three years as evidence that there isn't a fiduciary breach.

[austin3515]

That doesn't make a lot of sense to me - I thought that was a huge no-no. The presumption is ALWAYS that it is not appropriate. The whole point of doing that is that so that the DOL wouldn;'t have to sit there and decide if it was reasonable.

[J Simmons]

In these situations where 'services' are provided to the plan by a relative of an owner, paid out of plan assets, there is almost never compliance with 29 CFR §2550.408b-2. And that will make reliance on the PT exemption of IRC §4975(d)(2) and ERISA §408(b)(2) difficult to establish.

[My 2 cents]

I find it somewhat touching that the owner has that much faith in his brother's investment acumen.

[austin3515]

I didn't see any reference at all to the PT rules in 408b2 (aside from not providing the disclosure)? J Simmons, can you please explain?

[John Feldt ERPA CPC QPA]

J Simmons, are you suggesting that the fiduciary of the plan is engaging in self-dealing by allowing his brother to receive compensation from the plan?

[Bird]

I don't believe there is any problem with a brother being an investment advisor.

[J Simmons]

I didn't see any reference at all to the PT rules in 408b2 (aside from not providing the disclosure)? J Simmons, can you please explain?

The PT exemption of IRC §4975(d)(2) and ERISA §408(b)(2) only goes so far as "reasonable compensation" paid from plan assets for services. 29 CFR §2550.408b-2 requires all plan fiduciaries involved in deciding what services to purchase and pay for with plan assets do some investigation and essentially, 'comparison shop' for what is 'reasonable', to fulfill their general fiduciary duty to only discharge their duties defraying "reasonable expenses" of operating the plan (29 USC §1104(a)(1)(A)(ii), the payment from the plan must be reasonable for the services. If 29 CFR §2550.408b-2 procedures have not been observed, what evidence will the plan fiduciary have to establish that the compensation paid to the brother was reasonable?

[J Simmons]

I don't believe there is any problem with a brother being an investment advisor.

I agree, per se. But I think it will raise suspicions and cause closer scrutiny by DoL should it ever inquire into the matter.

[J Simmons]

J Simmons, are you suggesting that the fiduciary of the plan is engaging in self-dealing by allowing his brother to receive compensation from the plan?

I think the sibling relationship raises more suspicions, will trigger closer scrutiny, and thus make more problematic any deficiencies there may be in the plan fidicuiary's duties imposed by 29 CFR §2550.408b-2.

I would recommend against a plan fiduciary giving that contract out to his or her brother, in order to keep a lower profile for employee and DoL questioning.

[austin3515]

I'm inclined to agree with all that. I will caution the client accordingly... I think the DOL would be over this like a fly on you know what.

[jpod]

Hiring the brother - if he will be paid with plan assets - is the poster boy for a self-dealing PT under 406(b)(1). See the following example from the DOL regulations.

Example 6. F, a fiduciary of plan P with discretionary authority respecting the management of P, retains S, the son of F, to provide for a fee various kinds of administrative services necessary for the operation of the plan. F has engaged in an act described in section 406(b)(1) of the Act because S is a person in whom F has an interest which may affect the exercise of F's best judgment as a fiduciary. Such act is not exempt under section 408(b)(2) of the Act irrespective of whether the provision of the services by S is exempt.

[austin3515]

The difference between son and brother is the difference between son and complete stranger. So the example is not really spot-on because the son is within the definition of party-in-interest. The brother is not.

[QDROphile]

I would not act based on that difference. The operative words are "a person in whom F has an interest which may affect the exercise of F's best judgment as a fiduciary." That aligns with a lot of the gut discomfort expressed above because it also describes a brother.

[John Feldt ERPA CPC QPA]

The difference between son and brother is the difference between son and complete stranger. So the example is not really spot-on because the son is within the definition of party-in-interest. The brother is not.

Not all brothers are complete strangers. We still play cards from time-to-time, just not as often anymore.

[jpod]

It has nothing to do with the son being a party in interest or disqualified person. The rule illustrated by the example would be the same if it was the fiduciary's girlfriend rather than his son. I suppose if you could prove to the DOL or a court that the owner actually hated his brother's guts and only hired him because he was the most qualified you wouldn't have a 406(b)(1) PT, but how likely is that?

[GMK]

Is there any way to determine which of any two investment advisors is better? That's a serious question.

What kinds of data are available to compare the results of the advice of the two very nice people you are considering as an advisor for your plan?

[austin3515]

To be clear, I think it is inadvisable. My point above is that one is a gray area (the brother) and the other is explicitly forbidden (the son). For whatever reason, neither a girlfriend nor a brother are considered a party-in-interest, so at least no one can point to a law and say, "Look here, you broke this law."

[Bird]

I said it before and I'll say it again - there is nothing wrong with it. It's not gray, it's black and white. That's why we have these (incredibly) detailed laws and regs - to minimize gray areas. I'm not saying there aren't still gray areas, but this is not one.

[austin3515]

Bird, I think the gray area is that compensation must be reasonable. And the presumption might be that it is unreasonable based on the close relationship, with the fiduciary being obligated to prove it is reasonable. I think that is the issue most of us have. And as others have stated, how do you prove something is reasonable when that standard is by definition subjective.

[BG5150]

Wouldn't unreasonable comp be a PT whether or not it was the owners brother or cousin or his golfing buddy?

[Bird]

Wouldn't unreasonable comp be a PT whether or not it was the owners brother or cousin or his golfing buddy?

Exactly.

[KJohnson]

DOL's position has always been that 408(b)(2) works as an exemption for 406(a) prohibited transaction but not 406(b). The question then becomes whether the relationship affects the exercise o exercise of such fiduciary's best judgment as a fiduciary

Department of Labor Regulation 29 CFR §2550.408b-2(e).

(e) Transactions with fiduciaries—(1) In general. If the furnishing of office space or a service involves an act described in section 406(b) of the Act (relating to acts involving conflicts of interest by fiduciaries), such an act constitutes a separate transaction which is not exempt under section 408(b)(2) of the Act. The prohibitions of section 406(b) supplement the other prohibitions of section 406(a) of the Act by imposing on parties in interest who are fiduciaries a duty of undivided loyalty to the plans for which they act. These prohibitions are imposed upon fiduciaries to deter them from exercising the authority, control, or responsibility which makes such persons fiduciaries when they have interests which may conflict with the interests of the plans for which they act. In such cases, the fiduciaries have interests in the transactions which may affect the exercise of their best judgment as fiduciaries. Thus, a fiduciary may not use the authority, control, or responsibility which makes such person a fiduciary to cause a plan to pay an additional fee to such fiduciary (or to a person in which such fiduciary has an interest which may affect the exercise of such fiduciary's best judgment as a fiduciary) to provide a service. Nor may a fiduciary use such authority, control, or responsibility to cause a plan to enter into a transaction involving plan assets whereby such fiduciary (or a person in which such fiduciary has an interest which may affect the exercise of such fiduciary's best judgment as a fiduciary) will receive consideration from a third party in connection with such transaction. A person in which a fiduciary has an interest which may affect the exercise of such fiduciary's best judgment as a fiduciary includes, for example, a person who is a party in interest by reason of a relationship to such fiduciary described in section 3(14)(E), (F), (G), (H), or (I

[J Simmons]

Wouldn't unreasonable comp be a PT whether or not it was the owners brother or cousin or his golfing buddy?

To be a PT, the transaction has to involve the Plan and a disqualified person/party in interest. If so, then to meet the exemption, the compensation for services must be "reasonable." Unreasonable compensation would also be a breach of the Plan fiduciary's duties under ERISA 404(a).

If the transaction does not involve a DQ/P-i-I, then it is only the Plan fiduciary's duties that are implicated by the unreasonable compensation; not also a PT (unless the Plan fiduciary is deriving some benefit, even indirect and rather intangible in nature, from the excessive compensation payment--then the payment is a PT between the Plan and that Plan fiduciary).

[John Feldt ERPA CPC QPA]

So if the relationship could impair the fiduciary regarding the perfromance of their duties, that would be a fiduciary breach, even if it is not a PT?

[chc93]

I thought "unreasonable compensation" was a spouse or child (or close relative) receiving $50,000 for the year but only works 5 hours in the year. Not a close relative receiving $15 per hour (which seems "reasonable").