Companies that sponsor a defined contribution (DC) plan like a 401k or 403b are required by law for have fidelity bond which protects the company against fraud. But many confuse a fidelity bond with fiduciary insurance which can protect against litigation and administrative fines based on actions that stop short of fraud. And some providers offer this type of insurance bundled in with their record keeping services. Plan sponsors would be well advised to review the options especially as DC lawsuits heat up and the DOL rule expanding the definition of fiduciary is set to become effective April 10, 2017.
ERISA requires companies have a minimum of $1,000 fidelity bond to protect against fraud which represents 10% of assets handled by participants with a maximum of $500,000 unless company stock is offered with the max at $1 million. One of the top errors found in the 5500 form according to the IRS is inadequate fidelity bonds.
Fiduciary insurance, on the other hand, can cover:
- Fiduciary breaches that might stop short of fraud;
- Cost of litigation;
- Defense of regulatory investigations;
- Regulatory penalties;
- Cost of voluntary corrections; and
- Administrative errors
With the cost of fiduciary insruance reasonable and the personal assets of the employees involved with a company’s DC plan at risk, more companies are considering getting fiduciary insurance.
So what about insurance offered by record keepers? Most DC plan warranties are limited to the selection and monitoring of the investments under section 404(c) but there’s a caveat. The plan sponsor has to continually monitor those funds and remove them if they are no longer appropriate. To qualify under the warranty, the plan sponsor has to follow the recommendations of the provider. Most lawsuits are about fees paid to the record keeper which is generally the one issuing the warranty – do you think they would put themselves in a position to defend lawsuits against themselves?
ERISA attorney Ary Rosenbaum warns, “A fiduciary warranty is like lightning insurance; actually I think a plan sponsor has a better chance of getting hit by lightning than a plan sponsor being defended through one of these warranties…Fiduciary warranty is a deceptive practice,” warns Rosenbaum.
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