WASHINGTON - A recent proposal by the Labor Department should ease insurers' fears over making investments that could cause them to trip inadvertently over federal pension law.
But, even the insurance industry recognizes the Labor Department is unlikely to offer much more help in limiting the impact of a landmark Supreme Court decision last December that certain pension fund assets held in insurance companies' general accounts could be subject to the Employee Retirement Income Security Act (Pensions & Investments, Dec. 27).
The insurance industry earlier this year had requested a blanket exemption from the ruling in John Hancock Mutual Life Insurance Co. vs. Harris Trust and Savings Bank, which resulted in insurance companies becoming fiduciaries for certain portions of pension plan group annuity contracts - those with variable returns rather than those providing stipulated benefit amounts to participants - they hold in their central investment pools.
Harris Trust, trustee for Unisys Corp.'s pension plan, originally had sued John Hancock over the amount of the so-called free funds allocated in the insurance company's general account to the pension plan under an immediate participation guarantee contract.
"I think we have gotten the part that we expected to get, and for the rest we will have to see," observed Philip Clarkson, senior counsel at John Hancock, Boston.
To be sure, even if regulators complied with the insurance industry's broad-based request to exempt it from ERISA's self-dealing violations, not even the Labor Department has the authority to absolve insurance companies from ERISA's general prudence and fiduciary standards that investments be managed solely in the best interest of plan participants.
"They would still be at peril," noted Lawrence Kill, partner at the New York law firm of Anderson Kill Olick & Oshinsky, which represented Harris Trust in its successful battle against Hancock.
Moreover, as fiduciaries, insurance companies also would be obliged to provide general account pension plan clients with detailed information about how the insurers allocate expenses, and calculate fees and returns for certain plan assets they hold in their central investment pool, Mr. Kill noted.
In fact, this fiduciary duty extends to pension plan sponsors, investment managers and others affiliated with pension plans to require insurance companies disclose such information to ensure the contracts are in compliance with pension law, Mr. Kill explained.
"Can they (pension plans) demand information? The answer is yes," said Ivan Strasfeld, director of exemptions at the Labor Department. And if insurance companies refuse to provide the information, plan sponsors could either seek Labor Department help in enforcing the law, or directly sue the insurance company for failing to uphold the law, he said.
Already, some insurance companies are offering pension fund clients more information, Mr. Kill suggested.
Meanwhile, the rule proposed by the Labor Department late last month would exempt from ERISA's list of banned transactions some investment arrangements between insurance companies and organizations that do business with their pension plan clients. For example, under the proposal, insurance companies would not have to worry about violating ERISA if they use pension fund assets in their general accounts to invest in securities issued by sponsors of those pension plans, or lease real estate to companies whose pension funds have purchased general account contracts.
"If you were IBM and John Hancock manages a piece of your pension fund money in its general account and John Hancock invests in IBM stock, that would not be a prohibited transaction" as a result of the proposed exemption, said Ann L. Combs, a consultant at William M. Mercer Inc., Washington, on retainer by John Hancock, and a former deputy assistant secretary at the Labor Department.
The insurance industry had argued that the Labor Department's failure to give such an exemption could disrupt the nation's capital markets because investment bankers, brokers, banks and other financial institutions as well as insurers themselves would be hesitant to enter into financial relationships, not knowing if they were banned under ERISA.
The proposed rule would apply to all such investments made by insurance companies since January 1975, as well as to all such future transactions, so long as the insurance company's liabilities to cover a contract by a pension fund - or affiliated funds sponsored by the same employer - do not total more than 10% of its general account assets.
What's more, the exemption also would lift the potential imposition of excise taxes, to the tune of 5% of a transaction, on "parties in interest," or organizations that have business relationships with pension funds and also enter into investment arrangements with insurance companies involving their general account assets.
"Because of the John Hancock decision, there was at least theoretically a risk that a number of transactions done by general accounts in the ordinary course (of business) with innocent third parties might be viewed as prohibited. This exemption provides significant relief to those third-party-type of transactions," said A. Richard Susko, partner at Cleary, Gottleib, Steen & Hamilton in New York.
But Ian D. Lanoff, partner at Bredhoff and Kaiser, Washington, and a former top Labor Department official in charge of pensions, contended the limitation that insurance company reserves for pension fund contracts constitute no more than 10% of a general account's assets is too lax for future transactions.
Although the limit is modeled on that used by the Labor Department when it offered a class exemption for insurance company pooled separate accounts some years ago, Mr. Lanoff argued the department in effect is letting insurance companies off the hook for all such future transactions because their general accounts typically run into billions of dollars, and pension fund investments - even if in the hundreds of millions of dollars - are unlikely to hit the 10% threshold.
"I don't think the Labor Department should use the same 10% for future transactions now that everyone knows what the law is," Mr. Lanoff said.
Moreover, the rule also would exempt investments by insurance companies in subordinated certificates of mortgage-backed or other investment pools. Insurance companies are heavy investors in certificates offered by mortgage pools, said Stephen Saxon, partner at Groom & Nordberg, Washington, who represents the American Council of Life Insurance, a Washington-based trade group.
"The thrust of the exemption is to remove prohibited transaction problems when we buy bonds from Salomon Brothers, or lease real estate, or do a private placement transaction .*.*. and the problem comes when the party at the other end also has some relationship with a pension fund with which Aetna has an investment contract," explained Leon E. Irish, vice president and senior counsel for pensions at Aetna Life & Casualty Co., the Hartford, Conn., insurer.
The Labor Department maintained, however, ERISA's fiduciary standards would continue to apply to entities such as private investment partnerships where pension fund investments represent more than 25% of the total assets. The Labor Department included in this calculation of pension fund investments those plan assets held in insurance companies' general accounts. Consequently, such partnerships would be forced to exclude insurance company general accounts as investors, or treat them as ERISA funds.
Prior to the Supreme Court decision, general account assets were not counted toward this test.
"I agree with the Labor Department that it should be wary with the counting of the insurance companies' general assets when it invests those assets in other entities," said Mr. Lanoff.