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An ERISA Investment Check-Up: Procedural Prudence in Today's Market

In the wake of Enron, Global Crossing, and now WorldCom, there is probably no better time to give your ERISA compliance procedures an "Investment Check-Up." Just as you should see your dentist for routine check-ups, we recommend conducting routine audits and updates of your ERISA plan compliance procedures.

The Importance of ERISA Investment Check-Ups and Audits

ERISA's fiduciary standards include the requirement that plan fiduciaries act with the care, skill, and prudence that an expert would use in a similar circumstance. Even though hindsight may offer 20/20 vision and draw question to the prudence of a particular investment or investment course of action, courts have been more sympathetic to fiduciaries who can prove they gave appropriate consideration to the issues involved, sought expert advice where appropriate, and adequately monitored the investment on an ongoing basis. Thus, in interpreting ERISA's prudent expert standard of care, courts have looked to whether plan fiduciaries can demonstrate "procedural prudence" in the exercise of their ERISA fiduciary obligations. Simply put, in reviewing whether a plan fiduciary acted in a manner that is consistent with ERISA, courts review whether the fiduciary can document a prudent course of conduct.

With the "proof" thus residing in the process, the importance of a periodic investment check-up or update becomes all the more compelling. This is particularly true "post-Enron," as ERISA fiduciary litigation seems to be on the rise and the words "class action lawsuit" all too frequently are preceded by "401(k)." Notably, in reviewing some of the more recent class action complaints, allegations regarding the lack of proper diligence on the part of the plan's fiduciaries appear to be a recurring theme.

Assuming we now have your attention, we have drafted a series of questions to help you consider whether an Investment Check-Up might be useful to you:

Questions to Ask

For plan sponsors, the best place to start asking questions is often your plan's governing documents. For example, the questions that you might address could include the following: Do your plan and trust documents need to be amended to reflect any recent changes you may have made to your Stable Value fund? Are each of the different investment strategies employed by the managers of your Stable Value fund authorized under your plan's governing documents? Has the "named fiduciary" of your plan properly appointed each of your Stable Value investment managers and has each manager's scope of authority been properly authorized and documented? If more than one of your plans invest side-by-side in a single investment product (such as a synthetic GIC), have you considered whether the plans should invest through a master trust? If a master trust is used, have you complied with the recently revised master trust Form 5500 (Annual Report) reporting requirements?

Do you have a 401(k) investment policy? If not, do you know it is a requirement of ERISA? If you have an investment policy in place, when was the last time you reviewed it in light of how your Stable Value fund is currently operated? If your investment policy restricts derivatives, does it permit the use of futures and options or whatever other strategies your managers may seek to employ for efficient fund management? Does your policy impose requirements that are not being met?

If you are investing in bank collective investment trusts (or "81-100" group trusts), does your trust agreement appropriately authorize such investments and include the necessary "incorporation by reference" language? Also, are you required to appoint the collective trust's investment advisor as an ERISA investment manager? If so, was that accomplished and appropriately documented by the plan's named fiduciary? If you have appointed the collective trust's advisor as an ERISA investment manager, have you considered whether any of the restrictions in your investment policy place inappropriate limits on the advisor's management of the collective investment trust?

How often do you review the performance of your managers? Do you meet with your managers on a periodic basis to discuss the performance of your fund? If so, can you document this exercise of procedural prudence or are your notes random and scattered? If your manager has undergone recent changes, such as an internal reorganization, have you reviewed the changes and documented your conclusions relative to such changes? If you are conducting a manager search, has the process been appropriately documented?

Have you reviewed your corporate ERISA fidelity bond for compliance with Section 412 of ERISA? Have you considered the adequacy of your ERISA fiduciary liability policy? Do your managers maintain an ERISA fidelity bond to the extent required by Section 412 of ERISA? Have you considered the extent to which they also maintain fiduciary liability insurance?

Does your plan's named fiduciary operate as a committee? If so, does your committee act in the manner prescribed in your plan and trust documents and investment policy? For example, if your plan documents provide that your committee should have at least three members, does it? Have you appropriately documented turnover of committee members? Do you keep the minutes of committee meetings?

Have you reviewed the fees and expenses charged by your Stable Value fund and whether they are authorized under your plan's governing documents?

Have you reviewed your plan's participant communications? Do they reflect the way your Stable Value fund is currently operated? Are the participant communications consistent with the requirements of Section 404(c) of ERISA as well as with the terms of the Stable Value contracts in the Fund? For example, if the contracts provide some limitations on the types of withdrawals/transfers that may be made at book value, do you communicate these limitations to participants? If your plan also includes company stock as an investment option, do your communications meet the Form S-8/prospectus requirements? Have you disclosed to participants and beneficiaries that there is default risk (however small) relative to Stable Value investments?

If you are undergoing change, either at the corporate or plan level, have you communicated that change (and any material anticipated changes) to your Stable Value managers and product issuers. If so, do you understand the effect these changes may have on your Stable Value fund? For example, are you aware that Stable Value contract issuers may require notification of the addition of a new plan investment, or of changes to your plan's participant-directed withdrawal and transfer rules?

The purpose of this article is to get you thinking about what procedural prudence means in the context of today's Stable Value funds. This is an important issue to consider. However, the questions set forth above are only examples of the types of questions you might ask. Your circumstances might warrant similar questions or completely different ones. The important point, however, is that you give appropriate consideration to your own unique facts and circumstances. Think about it this way - if a complaint were brought against your plan, would you want to find out then that certain aspects of your fund's operation were inconsistent with your plan's documents or the plan's investment policy?

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