IBEW/NECA Employee Benefits Conference Legal Update Naples, Florida January 2013 Shane N. Kramer Potts-Dupre, Difede & Hawkins, CHTD.

IBEW/NECA Employee Benefits Conference

Legal Update Naples, Florida January 2013

Shane N. KramerPotts-Dupre, Difede & Hawkins, CHTD.

Prudent Investment Decisions Under ERISABack to Basics

Potts-Dupre, Difede & Hawkins, CHTD.

2007 Manager Selections

Example

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#1

11%

Manager A

18%

Manager B

-12%

Manager C

Potts-Dupre, Difede & Hawkins, CHTD.

#2

11%High Yield Fixed

Income(lower-mid

quartile)

big-name firm

Manager A

18%Large Cap Value

(top quartile)

family-owned firm

Manager B

-12%Alternatives:

Comics, Baseball Cards, and Poker

Players

niche, no-name firm

Manager C

Potts-Dupre, Difede & Hawkins, CHTD.

#3

11%High Yield Fixed

Income(lower-mid quartile)

big-name firm

transparent process

Manager A

18%Large Cap Value

(top quartile)

family-owned firm

secretive process

Manager B

-12%Rare Comics, Baseball

Cards, and Poker Players

niche, no-name firm

transparent process

Manager C

Potts-Dupre, Difede & Hawkins, CHTD.

11%

picked by throwing darts

Manager A

TOTAL LOSSRecommended by

consultant & selected with thorough due diligence and

analysis

Manager B

-12%Recommended by

consultant & selected with thorough due diligence and

analysis

Manager C

#4

Potts-Dupre, Difede & Hawkins, CHTD.

Potts-Dupre, Difede & Hawkins, CHTD.

What’s the Takeaway?

ERISA regulates

are irrelevant

{Well, mostly…}

The Moral?

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High Stakes• “The fiduciary obligations of trustees [and other ERISA

fiduciaries] are . . . the highest known to law.”Donovan v. Bierworth, 680 F.2d 263, 272 (2nd Cir. 1982)

+• Possibility of personal liability:– Restore losses to plan– Return ill-gotten gains– Equitable or remedial relief (such as removal)– Civil penalty (20% of amount recovered under ERISA § 502(l))

= … a lot of exposure!

• Fiduciary Insurance• Use of Plan Assets, where appropriate• Proactive avoidance / Self-help – Focus on process– Delegation (getting off the fiduciary hook)

Fiduciary Protection

Potts-Dupre, Difede & Hawkins, CHTD.

Fiduciary Framework:ERISA § 404(a)(1)

• Duty of loyalty – Exclusive Benefit Rule• Duty of care – Prudent Expert Rule• Duty of diversification • Duty to follow plan documents to extent

consistent with ERISA Title I and Title IV

Potts-Dupre, Difede & Hawkins, CHTD.

• Functional test under ERISA § 3(21)(A) – your title is not determinative:– Do you have discretion or control over plan

assets?– Do you render investment advice for a fee?– Do you have discretionary responsibility in the

administration of the plan?

Who’s on the Fiduciary Hook?

Potts-Dupre, Difede & Hawkins, CHTD.

What is the “Prudent Expert” Standard of Care?

[A] fiduciary shall discharge his duties with respect to 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 and with like aims

Potts-Dupre, Difede & Hawkins, CHTD.

ERISA § 404(a)(1)(B)

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Prudence and Investment Duties

• The prudent expert standard is satisfied if the fiduciary:– Has given “appropriate consideration” to the facts

and circumstances the fiduciary knows (or should know) are relevant to the investment (or investment course of action), including the role it plays in the investment portfolio

AND– Has acted accordingly

DOL Reg. § 2550.404a-1b

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How Do I Give “Appropriate Consideration”?

Step 1:Make a determination that the investment is reasonably designed to further the purposes of the plan, taking into consideration the risk of loss and opportunity for gain (or other return) of the investment

Potts-Dupre, Difede & Hawkins, CHTD.

And…

Step 2:Consider the investment in light of the portfolio’s:– Diversification– Liquidity and current return relative to the plan’s

anticipated cash flow requirements– Projected return relative to the plan’s funding

objectives

Summary• Statute: A fiduciary’s conduct is judged on a snapshot

basis against what a competent, impartial, informed investment professional might do

• Regulations: A fiduciary should thoroughly investigate and analyze the F&Cs surrounding the investment– Consider the nature of the plan / diversification / liquidity /

goals / etc. – Then, determine on the merits that it benefits the plan

• But . . . What if fiduciary doesn’t have the necessary expertise or time?

Potts-Dupre, Difede & Hawkins, CHTD.

-- William Shakespeare

“. . . a pure heart and an empty head are not enough.”

• Good faith and ignorance are no defense

• If you have an empty head…

– You’re not alone!

– But, you must obtain the assistance of a qualified expert

Potts-Dupre, Difede & Hawkins, CHTD.

Self-Help• Read to stay current and anticipate issues

• Use your consultant, counsel, actuary, investment staff , etc.

• Own the process: engage and ask probing questions

• Document your process

• Fiduciary investment training?

• Review plan text and trust documents - know your role

• Review Investment Policy Statement/Guidelines regularly– Fiduciary road map– Follow it!

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IPS/General Guidelines Essentials• Funding policy

• Goals and objectives

• Risk/return guidelines

• Permitted asset classes and sub-classes/styles

• Target asset mix, diversification, & rebalancing

• Liquidity considerations

• Role of independent consultant; actuary; custodial bank; etc.

• Selection & monitoring of asset managers

• Reporting and communications

• Procedures for reviewing performance relative to appropriate benchmarks

• Voting of proxies

• Review of fees for reasonableness

• Review of IPS/Guidelines

• Trustee / board / executive committee meetings

• Lay out ERISA prudence requirements

How to Get Help, Prudently, Of Course

• Non-Discretionary Investment Adviser– “3(21)” fiduciary

• Discretionary Investment Manager– “3(38)” fiduciary

Potts-Dupre, Difede & Hawkins, CHTD.

Potts-Dupre, Difede & Hawkins, CHTD.

Non-Discretionary Investment Adviser

• Evidence of thorough investigation and good process

• Not a shield to liability

• If you retain discretion and control, you are on hook for investment decision

Requirements for Reliance

• Investigate credentials and probe independence– Is expert qualified to make recommendation?– Is expert conflicted?

• Provide expert with complete and accurate information

• Evaluate recommendation before following it– No rubber-stamp approval

• Create paper trail

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Discretionary Investment Manager

• Plan fiduciary is on hook for selection and monitoring

• Investment manager is on hook for actual investment decisions

Potts-Dupre, Difede & Hawkins, CHTD.

Delegation Requirements

– Must have discretion to manage plan assets– Must be registered investment advisor, bank or

insurance company– Must acknowledge fiduciary status in writing

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Checklist: Sample Criteria For Hiring A Manager

• Experience with benefit plan clients / AUM

• Reputation / references • Organizational structure /

financial health• Performance (absolute /

relative / consistency)• Qualifications of key

individuals• Appropriate registrations• Willingness to be on fiduciary

hook

• Investment process• Investment style• Communications &

reporting / transparency• Litigation or enforcement

actions• Fees• Bonding / Insurance to

cover the fund• QPAM status

Potts-Dupre, Difede & Hawkins, CHTD.

Sample Checklist For Periodic Monitoring

Review managers at reasonable intervals• Were there any material changes in the status

of hiring criteria?• Was the mandate satisfied?• Did performance meet the needs of the plan?• Were there any compliance issues?– (e.g., guidelines / contractual / legal )

• Was the reporting to expectations?

Potts-Dupre, Difede & Hawkins, CHTD.

Potts-Dupre, Difede & Hawkins, CHTD.

Review

• ERISA Prudence is flexible and based on CONDUCT

• Process is key and results are irrelevant (mostly)

• Self-help– Education – Use expert(s) when necessary– Be deliberate with due diligence– Make reasoned and independent decisions – Create a paper trail

Potts-Dupre, Difede & Hawkins, CHTD.