Goldman Sachs Group Inc., New York, is seeking sweeping relief from ERISA's prohibited transaction rule - changes that would make life far easier for large financial firms that service private pension funds.
If adopted, the pending class exemption from the pension law's prohibited transaction rules would enable pension funds to engage in a host of activities with brokerage firms, custodians, record keepers and directed trustees, including securities lending, swaps and other derivative transactions, as well as foreign exchange.
"If this application is approved, I think it will go as far toward rationalizing the ERISA fiduciary rules as much as any development since 1974," said Andrew L. Oringer, a pension lawyer in the New York law firm of Clifford Chance LLP.
A. Richard "Brick" Susko, partner in the New York law firm of Cleary, Gottleib, Steen & Hamilton, requested the relief from the Labor Department on behalf of Goldman Sachs. "The existing law does not make sense in today's financial marketplace. It's very difficult, as the financial markets change, to have the Department of Labor review each new development and craft a new exemption," Mr. Susko said.
The Goldman Sachs request coincides with, and could affect, a broad review by Department of Labor officials of the nearly 20-year-old rules regulating the "qualified professional asset manager" exemption, or QPAM, from the Employee Retirement Income Security Act.
The QPAM exemption enables pension plans to engage in many otherwise banned transactions with financial service firms - including investment advisers and plan service providers - so long as they use "qualified" money managers, independent of both the plan and the service provider, who act as the intermediary and authorize the transaction.
But to qualify as a QPAM, money managers - banks, insurance companies or registered investment advisers - have to meet numerous conditions.
Lawyers say QPAM is outdated and cumbersome.
"I represent five or six major dealers in swaps and other sorts of notional derivatives, and there is not a week that goes by, and indeed not a day or two, when I don't get involved in representing the dealer trying to make the transaction fit within the QPAM exemption." said Bronislaw E. Grala, a partner in the New York law firm of Cadwalader, Wickersham & Taft LLP.
Using a QPAM
Currently, pension plans can get around prohibited transactions with their service providers by using a QPAM - or by setting up in-house investment management firms. But some transactions - and some financial service firms - qualify and some don't. Plus, financial service firms first need to determine whether every pension plan in the transaction has engaged a QPAM, or else they must use another DOL class exemption that can apply to each client. And applying for an individual exemption for each client could take years.
Mr. Grala said the Goldman Sachs exemption, if approved "would be almost revolutionary in what it would bring about, because it would exempt numerous transactions that people want to have take place but can't because they need to become QPAMs."
"This would free up many more transactions from the prohibitions of ERISA than anything else I can think of," Mr. Grala said.
Not everyone agrees.
"The Goldman Sachs exemption doesn't add much that is new, because QPAM and other exemptions probably are available for 90% of the transactions that the new exemption would cover," predicted Richard Matta, a partner with the Groom Law Group, Washington. "But it avoids the complexity and the cost of relying on those other exemptions."
A Labor Department spokeswoman confirmed that the agency had received the Goldman Sachs application on June 16, but she would not comment on it.
Goldman's application requests a sweeping exemption for service providers entering into other transactions with pension plans, along the lines of that made available to U.S. brokerage firms in 1975, for all security trades.
Could not be fiduciaries
Under the Goldman Sachs application, the firms could not be fiduciaries and the transactions would have to be conducted at a market-determined price or be otherwise independent from any influence by the pension plan or its money managers. If approved by the Labor Department, the Goldman Sachs exemption would enable pension plans to engage in wide-ranging financial transactions with their brokers, custodians, record keepers and other service providers directly - without having to hire qualified professional money managers as intermediaries through whom they may conduct the transactions.
As an additional protection, independent fiduciaries to the plan would have to sign off on the transactions.
Also, the Goldman Sachs' exemption request would not apply to the self-dealing prohibitions imposed by federal pension law, which ban a fiduciary from engaging in financial transactions with pension plans from which they could directly benefit. That means financial services firms still wouldn't be able to sell financial instruments or offer investment advice to their own pension plans.
Mr. Matta doubts the Labor Department will grant the relief requested by Goldman Sachs in so broad a manner. Mr. Grala puts the odds of adoption around 50-50.
Because ERISA imposes broad restrictions on transactions between pension plans and "parties in interest" - firms with which they have any sort of relationship - all service providers automatically fall under that definition. Service providers may be exempt from this ban only for service transactions, so long as those services are offered at market prices, are independent and at an arm's length.
Service providers that trip up on the rules by accidentally engaging in banned transactions with their pension fund clients are subject to fines of 15% of the banned transaction, which could potentially cost them millions of dollars. And if the transaction is not corrected - or undone - then they must pay another 10% excise tax. Sources said financial service firms that also are service providers can very easily get tripped up, especially in transactions covering multiple pension fund clients.
To qualify as a QPAM under current rules, a manager must have a net worth of at least $750,000 and a minimum of $50 million in total assets under management, of which no more than 20% can be from a single plan that is seeking the QPAM exemption. Not all firms pass the multistep tests, according to pension lawyers representing financial institutions. Hedge funds, in particular, face a tougher condition - no more than 25% of their total assets can be pension plan assets if they want to avoid being regulated by ERISA.
The Labor Department's review of the QPAM regulations is part of a modernization effort undertaken by Assistant Labor Secretary Ann Combs to ensure that pension regulations are in sync with developments in financial markets, while continuing to protect pension plans.