Investment Management Analysis
April 2009
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Sometimes Too Much is Not Enough:
A Checklist of ERISA Prohibited Transaction
Issues for Financial Institutions in a
Consolidating Industry
In the wake of exceptional consolidation in the financial services industry, we have
noticed that many of our clients who provide services to employee benefits plans are
faced with an array of difficult ERISA prohibited transaction issues, many of which
are not addressed by existing class exemptions or other guidance from the U.S.
Department of Labor. These issues sometimes do not surface until well into a
transaction, or even after a transaction has been completed.
The ERISA issues presented by financial institution consolidations are affected by a
variety of factors, including the particular businesses and ownership structures of the
institutions involved. In many cases, previously unrelated financial institutions will
become affiliates of one another as part of a controlled group of corporations. In
other cases, financial institutions will become “related” to each other as a result of an
acquisition by one of the financial institutions or its affiliate of a substantial, but not
controlling, interest in another institution.
The issues are particularly challenging where a financial institution that provides
“fiduciary” (in the ERISA sense) investment management or advisory services to
ERISA plans becomes related to another financial institution in this way. In these
circumstances, the financial institution may be said to have an “interest” in the
related company that, in the DOL’s words, “may affect” the financial institution’s
best judgment as a fiduciary. In such case, the institution generally would be
prohibited from causing ERISA plan clients to engage in transactions involving the
related company. In addition, many of the ERISA class exemptions commonly
relied on by financial institutions either do not provide relief for any related fiduciary
self-dealing or limit relief to transactions involving “affiliates” (which generally is
defined in terms of control relationships).
The problems are not limited to financial institutions that act as ERISA “fiduciaries.”
Institutions often deal with employee benefit plan clients, directly or indirectly, as
non-fiduciary “parties in interest.” Because such persons who engage in non-exempt
prohibited transactions with plans may be subject to an excise tax under the Internal
Revenue Code, it is essential that an institution evaluate its continued reliance on
exemptions whenever ownership structures or relationships with other, previously
unrelated, institutions change.
The following checklist summarizes selected ERISA prohibited transaction
implications potentially associated with common “affiliate” and “related party”
situations. ERISA does not define the term “affiliate” for purposes of the fiduciary
responsibility provisions of Title I. The DOL, however, generally defines the term in
class exemptions and regulations to include institutions having a “control”
relationship with one another. We refer to “affiliates” in that sense and to “related
Investment Management Analysis
companies” as institutions that are related by substantial (e.g., 25%), but not necessarily controlling,
ownership. An affiliate likely is, and a related company may be, a person in which the fiduciary has an
interest that may affect the fiduciary’s best judgment as such. In such case, transactions involving such
companies may violate the fiduciary prohibited transaction restrictions of ERISA section 406(b), unless an
exemption applies.
Type of Transaction
on Behalf of a Plan
Client
Potential ERISA
Issues
Potentially Applicable
Exemption or
Interpretive Position
Comments
Purchase of equity
securities issued by
affiliate or related
company.
Purchase from a party in
interest?
“Blind transaction”
principle (in ERISA’s
legislative history) for
market transactions
involving party in
interest.
“Blind transaction”
principle and exemptions
do not provide relief
from the fiduciary
prohibited transaction
restrictions of ERISA
section 406(b).
Fiduciary self-dealing?
PTE 84-14 (“QPAM
exemption”) permits
off-market transaction
with party in interest.
ERISA section
408(b)(17) permits
purchase/sale with party
in interest.
Purchase of debt
securities issued by
affiliate or related
company.
Purchase from a party in
interest?
Extension of credit to a
party in interest?
Fiduciary self-dealing?
“Blind transaction”
principle for market
transactions involving
party in interest.
QPAM exemption
permits off-market
transaction with party in
interest.
PTE 75-1, part II,
permits purchase from
broker-dealer acting as
principal and associated
extension of credit.
“Blind transaction”
principle does not extend
to extension of credit.
“Blind transaction”
principle and exemptions
do not provide relief
from the fiduciary
prohibited transaction
restrictions of ERISA
section 406(b).
ERISA section
408(b)(17) permits
purchase/sale with party
in interest.
Retention of equity or
debt securities issued by
affiliate or related
company.
Holding debt securities
involves ongoing
extension of credit to
party in interest?
QPAM exemption
applies to “continuing”
transaction with party in
interest.
Fiduciary self-dealing?
PTE 75-1, part II,
permits continuing
extension of credit under
security purchased from
broker-dealer acting as
principal.
The exemptions do not
provide relief from the
fiduciary prohibited
transaction restrictions of
ERISA section 406(b).
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Investment Management Analysis
Type of Transaction
on Behalf of a Plan
Client
Potential ERISA
Issues
Potentially Applicable
Exemption or
Interpretive Position
Comments
Investment of ERISA
plan assets in mutual
fund advised by affiliate
or related company.
Purchase of fund shares
from a party in interest?
PTE 77-4 exempts
transaction from party in
interest and fiduciary
prohibited transaction
restrictions.
The exemption extends
to mutual fund advised
by fiduciary or affiliate.
Fiduciary self-dealing?
(PTE 77-3, same, inhouse plans; PTE 79-13,
closed-end funds).
Loan of ERISA plan
securities to affiliate or
related company.
Extension of credit to a
party in interest?
Fiduciary self-dealing?
PTE 2006-16 permits
securities loans to
parties in interest.
ERISA section
408(b)(17) permits
extension of credit to
parties in interest.
Individual exemptions
have been issued in cases
where fund is advised by
related company.
The exemptions do not
extend to loans or
extensions of credit to
persons who are, or are
affiliated with, persons
with fiduciary authority
over the loaned
securities.
Individual exemptions
have been issued for
securities loans to
affiliates or related
companies.
Use of affiliate or
related broker-dealer to
execute securities
transactions on an
agency basis.
Purchase of securities
underwritten by affiliate
or related company.
Service arrangement
with party in interest?
Fiduciary self-dealing?
Purchase of securities
from party in interest?
Fiduciary self-dealing
(even if affiliate/related
company is not direct
counterparty)?
ERISA section
408(b)(2) permits
service arrangements
with parties in interest.
ERISA section 408(b)(2)
does not extend to
fiduciary prohibited
transactions.
PTE 86-128 exempts
brokerage services (and
receipt of commissions)
from fiduciary
prohibited transaction
restrictions.
PTE 86-128 exempts
payment of
compensation to the
fiduciary or an affiliate.
PTE 75-1, part III,
permits purchases of
securities from an
underwriting syndicate
that includes a fiduciary
(or an affiliate) as a
member.
The exemption is not
available if fiduciary or
affiliate is a “manager”
of the syndicate.
Individual exemptions
have been issued for
brokerage/compensation
involving related brokerdealers.
Individual exemptions
have been issued where
related company is a
syndicate member.
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Investment Management Analysis
Type of Transaction
on Behalf of a Plan
Client
Potential ERISA
Issues
Potentially Applicable
Exemption or
Interpretive Position
Comments
Purchase of securities
from affiliate or related
company acting as a
“market-maker” for the
securities.
Purchase of securities
from party in interest?
PTE 75-1, part IV,
permits purchase of
security from a fiduciary
(or an affiliate) who is a
market-maker.
The exemption is
available where fiduciary
or affiliate is a “marketmaker.”
Borrowing from affiliate
or related company in
connection with a
purchase or sale of
securities.
Extension of credit from
a party in interest?
PTE 75-1, part V,
permits parties in
interest who are
registered broker-dealers
to extend credit in
connection with
purchases or sales of
securities.
The exemptions do not
cover extensions of credit
from persons who are, or
are affiliated with,
persons with fiduciary
authority over the
securities involved in the
transactions, unless (in
the case of PTE 75-1,
part V) the fiduciary or
affiliate receives no
consideration in
connection with the
extension of credit.
Fiduciary self-dealing?
Fiduciary self-dealing?
ERISA section
408(b)(17) permits
extension of credit from
parties in interest.
Buying and selling
foreign currency from or
to an affiliate or related
company.
Purchase or sale of
property from or to a
party in interest?
Fiduciary self-dealing?
PTE 94-20 permits
foreign exchange
transactions with parties
in interest.
PTE 98-54 permits
foreign exchange
transactions with parties
in interest, including
fiduciaries.
ERISA section
408(b)(18) permits
foreign exchange
transactions with parties
in interest, including
fiduciaries.
ERISA section
408(b)(17) permits a
purchase or sale with
parties in interest.
Individual exemptions
have been issued where
related company is a
market-maker.
PTE 94-20 does not
provide relief from the
fiduciary prohibited
transaction restrictions of
ERISA section 406(b).
The exemptions do not
cover foreign currency
transactions with persons
who are, or are affiliated
with, persons with
fiduciary authority over
the plan assets involved
in the transactions.
The exemptions apply to
foreign exchange
transactions involving
certain banks, brokers,
and their affiliates;
related companies not
expressly included.
April 2009
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Investment Management Analysis
Type of Transaction
on Behalf of a Plan
Client
Potential ERISA
Issues
Potentially Applicable
Exemption or
Interpretive Position
Comments
Investment of plan
assets in deposit of bank
that is an affiliate or
related company.
Extension of credit to
party in interest?
ERISA section
408(b)(4) permits
investment of plan
assets in bank deposits
bearing interest at a
reasonable rate.
The exemptions literally
apply “if such bank . . . is
a fiduciary of such plan.”
A recent DOL opinion
suggests that the
exemption for interestbearing deposits may
apply where the bank is
affiliated with a plan
fiduciary, but is not itself
necessarily a fiduciary
(or party in interest) of
the plan.
Fiduciary self-dealing?
ERISA section
408(b)(6) permits a bank
to provide “ancillary
services” to a plan. The
legislative history and
DOL regulations under
this section suggest the
exemption permits the
deposit of plan assets in
non-interest bearing
bank checking accounts.
Cross trade between two
accounts managed by
same adviser.
DOL takes the position
that cross trades
generally are prohibited
under ERISA section
406(b)(2), unless an
exemption applies.
PTE 2002-12 permits
certain “passive” cross
trade transactions.
ERISA section
408(b)(19) permits cross
trades involving plans
with assets in excess of
$100 million.
Neither exemption (or
DOL regulations
thereunder) expressly
addresses the situation in
which the bank is not an
affiliate, but is a “related
company,” with respect
to a plan fiduciary.
PTE 2002-12 applies to
certain transactions
involving funds or
accounts managed by an
investment manager or
its “affiliate.”
Individual exemptions
have been issued in cases
involving accounts
managed by an
investment manager and
a related company.
ERISA section
408(b)(19) applies to
transactions involving
plans “managed by the
same investment
manager.” The
exemption does not
mention specifically
transactions involving
accounts managed by an
investment manager and
affiliates or related
companies.
April 2009
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Investment Management Analysis
Type of Transaction
on Behalf of a Plan
Client
Potential ERISA
Issues
Potentially Applicable
Exemption or
Interpretive Position
Comments
Derivative transactions
(e.g., swaps).
Purchase or sale of
property from or to a
party in interest?
QPAM exemption
permits transactions
between a plan managed
by a QPAM and a party
in interest of such plan.
Neither exemption
provides relief from the
fiduciary prohibited
transaction restrictions of
ERISA section 406(b).
Extension of credit to or
from a party in interest?
Fiduciary self-dealing?
ERISA section
408(b)(17) permits
transactions between a
plan and a party in
interest who is a service
provider to such plan.
The foregoing list is not exhaustive, but we are sending it along nonetheless to highlight these increasingly
frequent issues and questions. Please feel free to contact any of us if you would like to discuss a particular
issue in more detail.
April 2009
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Investment Management Analysis
Please contact any member of the K&L Gates ERISA Fiduciary Group if you have further questions on the
issues discussed in this Alert. Members of the ERISA Fiduciary Group and their telephone numbers and
email addresses are listed below.
Los Angeles
Alexandra C. Sparling
William P. Wade
alexandra.sparling@klgates.com
william.wade@klgates.com
+1.310.552.5563
+1.310.552.5071
Washington, D.C.
Catherine S. Bardsley
Susan I. Gault-Brown
David E. Pickle
William A. Schmidt
Kristina M. Zanotti
catherine.bardsley@klgates.com
susan.gaultbrown@klgates.com
david.pickle@klgates.com
william.schmidt@klgates.com
kristina.zanotti@klgates.com
+1.202.778.9289
+1.202.778.9083
+1.202.778.9887
+1.202.778.9373
+1.202.778.9171
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©2009 K&L Gates LLP. All Rights Reserved.
April 2009
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