Risks HTVAs Pose In ERISA Accounts
HTVAs held in ERISA plans represent the most immediate concern to the institutional trustees – even directed trustees – holding them on behalf of their clients, particularly in today’s climate of heightened concern caused by the meltdowns at Enron and Worldcom.
Mispriced HTVAs are a major problem in ERISA plans. For example in 1999 the Department of Labor (DOL) examined public filings from master trusts managed by Bankers Trust, Northern Trust and Chase to see (1) whether the trusts held HTVAs and, if so, (ii) whether the assets were accurately priced. They discovered the master trusts all held millions of dollars worth of HTVAs, the large majority of which was being mispriced at cost, book value or some other non-market value. Bankers Trust mispriced 77% of its HTVAs; Northern Trust, 89%; and Chase 100%!
Next the DOL reviewed 86 individual pension plans, and discovered the mispricing problem was just as bad. 74% of these plans held at least one HTVA, and several plans had 90% or more of their assets invested in HTVAs. Again, generally speaking the HTVAs were being valued at cost or book value, not at fair market value as the law requires. The “Conclusions & Recommendations” section of the DOL study notes:
“...we recommend that the Department target plans holding sundry assets and reject plan filings where sufficient documentation does not support the values certified to by the regulated financial institutions.”
The Form 5500 Annual Return/Report is used to report information concerning employee benefit plans. Any administrator of sponsor of an employee benefit plan subject to ERISA must file information about each plan every year. Notes the IRS, ‘each Form 5500 must accurately reflect the characteristics and operations of the plan or arrangement being reported. ... Employers and plan administrators should provide complete and accurate information and otherwise comply fully with the filing requirements.’
Among the questions asked (in Part II, 4(g)) is ‘Did the plan hold any assets whose current value was neither readily determinable on an established market nor set by an independent third party appraiser?’ This question allows the Department of Labor to ‘flag’ accounts holding HTVAs.
The Form 5500 instructions elaborate: ‘Although the current value of plan assets must be determined each year, there is no requirement that the assets (other than certain nonpublicly traded employer securities held in ESOPs) be valued every year by independent third-party appraisers’ (emphasis added). Does this mean accurately valuing sundry assets on an annual basis is optional, not mandatory? No, it does not. If the HTVA can be accurately valued in some other way (e.g. a large number of contemporaneous arms-length secondary market trades), then an independent valuation need not be obtained. As a practical matter however, HTVAs are virtually impossible to value in any other way.
Since the Enron and Worldcom scandals of 2002 and subsequent litigation filed by plaintiff-plan participants against insiders and directed trustee institutions, many asked the DOL to clarify the role of a ‘directed’ trustee who does not make investment decisions but merely holds the investments on behalf of plan participants. In late 2004 the DOL obliged by issuing a Field Assistance Bulletin clarifying the role a directed trustee assumes when a plan holds employer stock. After setting out the duties of a directed trustee, the FAB states it does not have a responsibility to second-guess the fiduciary’s purchase of the asset. However, the directed trustee does have a responsibility to determine whether a direction given is ‘proper’ (e.g. is ‘not contrary to ERISA’). That means that a directed trustee MAY NOT value a HTVA at $1 or some other non-fair market value simply because the fiduciary directed it to do so, since under ERISA all plan assets must be fair market valued each year.
