Proposed Class Exemption for Bank Collective Investment Fund Conversion Transactions

DEPARTMENT OF LABOR

Pension and Welfare Benefits Administration

[Application No. D-09988]

Proposed Class Exemption for Bank Collective Investment Fund

Conversion Transactions

AGENCY: Pension and Welfare Benefits Administration, Department of

Labor.

ACTION: Notice of Proposed Class Exemption.

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SUMMARY: This document contains a notice of pendency before the

Department of Labor (the Department) of a proposed class exemption from

certain prohibited transaction restrictions of the Employee Retirement

Income Security Act of 1974 (the Act or ERISA) and from certain taxes

imposed by the Internal Revenue Code of 1986 (the Code). If granted,

the proposed exemption would permit an employee benefit plan (the

Client Plan) to purchase shares of a registered investment company (the

Fund), the investment adviser for which is a bank (the Bank) that

serves as a fiduciary of the Client Plan, in exchange for plan assets

transferred in-kind to the Fund from a collective investment fund (the

CIF) maintained by the Bank. The proposed exemption, if granted, would

affect participants and beneficiaries of the Client Plans that are

involved in such transactions as well as the Bank and the Fund.

ADDRESSES: All written comments and requests for a public hearing

(preferably 3 copies) should be sent to: Office of Exemption

Determinations, Pension and Welfare Benefits Administration, Room N-

5649, 200 Constitution Avenue N.W., Washington, DC 20210, (Attention:

``CIF Conversion Class Exemption''). The application for exemption

(Application No. D-09988) and all additional comments received from

interested persons will be available for public inspection in the

Public Documents Room, Pension and Welfare Benefits Administration,

U.S. Department of Labor, Room N-5638, 200 Constitution Avenue N.W.,

Washington, DC 20210.

FOR FURTHER INFORMATION CONTACT: Ms. Jan D. Broady or Mr. E.F.

Williams, Office of Exemption Determinations, Pension and Welfare

Benefits Administration, U.S. Department of Labor, Washington, DC 20210

at (202) 219-8881 or (202) 219-8194, respectively, or Ms. Susan E.

Rees, Plan Benefits Security Division, Office of the Solicitor, U.S.

Department of Labor, Washington, DC 20210 at (202) 219-4600, ext. 105.

(These are not toll-free numbers.)

SUPPLEMENTARY INFORMATION: This document contains a notice of pendency

before the Department of a proposed class exemption from the

restrictions of sections 406(a) and 406 (b)(1) and (b)(2) of the Act

and from the taxes imposed by section 4975 (a) and (b) of the Code by

reason of section 4975(c)(1) (A) through (E) of the Code. The proposed

exemption was requested in an application dated March 28, 1995

submitted on behalf of Federated Investors (Federated) pursuant to

section 408(a) of the Act and section 4975(c)(2) of the Code, and in

accordance with the procedures set forth in 29 CFR Part 2570, Subpart B

(55 FR 32836, August 10, 1990).1

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\1\ Section 102 of Reorganization Plan No. 4 of 1978, 5 USC App.

1 (1996) generally transferred the authority of the Secretary of the

Treasury to issue exemptions under section 4975(c)(2) of the Code to

the Secretary of Labor.

In the discussion of the exemption, references to specific

provisions of the Act should be read to refer as well to the

corresponding provisions of section 4975 of the Code.

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I. Paperwork Reduction Act Analysis

The Department of Labor, as part of its continuing effort to reduce

paperwork and respondent burden, provides the general public and

Federal agencies with an opportunity to comment on proposed and/or

continuing collections of information in accordance with the Paperwork

Reduction Act of 1995 (PRA 95) (44 U.S.C. 3506(c)(2)(A). This program

helps to ensure that requested data can be provided in the desired

format, reporting burden (time and financial resources) is minimized,

collection instruments are clearly understood, and the impact of

collection requirements on respondents can be properly assessed.

Currently, the Pension and Welfare Benefits Administration is

soliciting comments concerning the proposed new collection of

information under the Proposed Class Exemption for Bank Collective

Investment Fund Conversion Transactions.

DATES: Written comments must be submitted on or before January 13, 1996

to Mr. Gerald B. Lindrew, Department of Labor, Pension and Welfare

Benefits Administration, 200 Constitution Avenue, NW, Washington, D.C.

20210. The Department of Labor is particularly interested in comments

which:

Evaluate whether the proposed collection of information is

necessary for the proper performance of the functions of the agency,

including whether the information will have practical utility;

Evaluate the accuracy of the agency's estimate of the

burden of the proposed collection of information, including the

validity of the methodology and assumptions used;

Enhance the quality, utility, and clarify the information

to be collected; and

Minimize the burden of the collection of information on

those who are to respond, including through the use of appropriate

automated, electronic, mechanical, or other

[[Page 58225]]

technological collection techniques or other forms of information

technology, e.g., permitting electronic submissions of responses.

Title: Class Exemption for Bank Collective Investment Fund

Conversion Transactions.

Summary: The proposed exemption would permit employee benefit plans

to purchase shares of a registered investment company in exchange for

plan assets transferred in-kind from a bank maintained collective

investment fund, where the bank that serves as a fiduciary of the plan

is also the investment adviser for the investment company. The proposal

is conditioned upon an independent fiduciary receiving advance notice

concerning the transfer of assets and written confirmation after the

completion of each transaction.

Needs and Uses: ERISA requires that the Department make a finding

that the proposed exemption meets the statutory requirements of section

408(a) before granting the exemption. The Department therefore finds it

necessary that certain information be provided to an independent

fiduciary of each plan in advance of, and subsequent to, the proposed

transaction, and that the independent fiduciary approve the proposed

transaction.

Respondents and Proposed Frequency of Response: The Department

staff estimates that approximately 50 parties will seek to take

advantage of the class exemption in any given year. The respondents

will be banks and trust companies acting as fiduciaries of plans

investing in collective investment funds maintained by such entities.

Estimated Annual Burden: The Department staff estimates the annual

burden for preparing the materials required under the proposed class

exemption to be 892 hours. The total annual burden cost (operating/

maintenance) is estimated to be $113,772.00. There are estimated to be

no capital/start-up burden costs. Comments submitted in response to

this notice will be summarized and/or included in the request for

Office of Management and Budget approval of the information collection

request; they will also become a matter of public record.

II. Background

The application contains facts and representations with regard to

the requested exemption which are summarized below. Interested persons

are referred to the application on file with the Department for the

complete representations of the applicant. The applicant, Federated,

requests retroactive and prospective exemptive relief for the in-kind

transfer of assets from a CIF in which Client Plans invest to a Fund in

exchange for shares of the Fund. The exemption is being requested in

light of the Department's position that Prohibited Transaction

Exemption (PTE) 77-4 (42 FR 18732, April 8, 1977) is unavailable for

the purchase of shares in Funds other than for cash. In pertinent part,

PTE 77-4 permits the purchase or sale by an employee benefit plan of

shares of a Fund when a fiduciary with respect to the plan is also the

investment adviser of the Fund.

Federated represents that it advises, administers and distributes

its own Funds and also administers, distributes and provides related

services to Funds that are advised by other financial institutions,

including many Banks. In total, Federated provides such services with

respect to over $70 billion in assets.

Since April 1989, Federated has assisted a number of Banks in

establishing ``proprietary'' mutual funds, (i.e., mutual funds advised

by the Bank and for which the Bank may provide other services, such as

custody or shareholder recordkeeping). These Funds are often

established through the complete or partial conversion of the Bank's

CIFs into the Funds. Such conversions have been motivated by changes in

the investment industry and the increasing trend toward the

establishment of participant-directed plans under section 401(k) of the

Code. Federated assists these Banks in the conversion process and may

serve as administrator, as well as in other capacities (such as

transfer agent and portfolio recordkeeper) with respect to such Funds.

Federated explains that these in-kind transfers have been completed

in compliance with the banking rules governing CIFs and the

requirements of the Investment Company Act of 1940 (the '40 Act). To

avoid engaging in a prohibited transaction, the Banks have sought in

good faith to comply with PTE 77-4 and have relied on the availability

of that class exemption. Federated states that the conditions of PTE

77-4 (as they were interpreted by the banking industry at that time)

were met, including the provision of disclosures regarding the Fund to

an independent plan fiduciary (the Independent Fiduciary) and prior

approval by that fiduciary. However, Federated notes that the

Department's position that PTE 77-4 does not apply to in-kind exchanges

of assets, such as occur in a CIF-to-Fund conversion, has created

uncertainty as to what Banks should do with regard to past and future

transactions. Therefore, Federated believes that class exemptive relief

is warranted because of the large number of Banks that have entered

into, or propose to enter into, such transactions. In Federated's view,

the exemptive relief requested would reduce the burden that has been

placed on Banks and would create certainty as to how such transactions

may be structured to comply with provisions of the Act.

III. Discussion of the Application

The applicant represents that, as part of the conversion process,

assets representing the Client Plans' interests in the CIFs are being

transferred to the Funds in exchange for which the Client Plans receive

shares of the Funds. The in-kind transfers are subject to the prior

approval of Independent Fiduciaries and a number of additional

safeguards that are discussed below.

The Banks that would be covered by the requested exemption include

banks or trust companies that are regulated by federal or state law.

The Banks may serve as trustees, investment managers or custodians for

Client Plans that are subject to the Act. If a Bank has investment

discretion over the assets of a Client Plan, it commonly manages such

assets through CIFs. Where a Bank serves as a nondiscretionary trustee

or a custodian, it has made CIFs available as investment options for

participant-directed plans at the election of the plan sponsor. CIF

investments have allowed Client Plans to pool their assets thereby

permitting greater diversification and lower management fees than

individually-managed portfolios.

Federated represents that over the past 15 years mutual funds have

become increasingly popular investments for plan investors. Among the

advantages of Funds over CIFs are daily pricing and redemption,

published prices available in newspapers of general circulation and

greater portability. Daily pricing and redemption permits: (a)

immediate investment of plan contributions in various types of

investments; (b) greater flexibility in transferring assets from one

type of investment to another; and (c) faster distributions. CIFs, by

contrast, generally have been valued quarterly and have not permitted

daily withdrawals or transfers. Because of the advantages offered by

Funds, many Banks have been converting their CIFs into Funds by

transferring the assets out of the CIFs and into the Banks' proprietary

Funds. In some cases, the Banks have terminated their CIFs. In other

cases, the CIFs have been partially converted and not terminated

because one or more clients has preferred to remain invested in the

CIFs.

[[Page 58226]]

The applicant represents that the conversion transaction that is

the subject of this exemption request is structured as an in-kind

transfer of plan assets held by the CIF to the corresponding Funds, in

exchange for shares of the Funds. This approach, according to the

applicant, avoids incurring transaction costs in connection with

liquidating the CIF investments and making the same investments for the

Funds.

It is represented that the process used by Banks assisted by

Federated has been designed to comply with the '40 Act and PTE 77-4, as

applicable. In this regard, Federated represents that the Bank obtains

the approval of an Independent Fiduciary prior to investing a Client

Plan's assets in a Fund. The Independent Fiduciary is generally the

Client Plan's named fiduciary or plan sponsor. In requesting the

Independent Fiduciary's approval, the Bank provides such fiduciary with

a description of the transaction, information about each Fund into

which assets would be transferred and a current prospectus. It is

represented that all disclosures and the form of approval are designed

to meet the requirements of PTE 77-4.2

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\2\ In pertinent part, PTE 77-4 requires that a fiduciary of a

plan who is independent of and unrelated to the fiduciary/investment

adviser, or any affiliate thereof, receive a prospectus issued by

the investment company and full written disclosure of the investment

advisory and other fees charged to, or paid by, the plan and the

investment company. Such information should include: (a) the nature

and extent of any differential between the rates of such fees; (b)

the reasons why the fiduciary/investment adviser may consider such

purchases of shares in the investment company to be appropriate for

the plan; (c) whether there are any limitations on the fiduciary/

investment adviser with respect to which plan assets may be invested

in shares of the investment company; and, if so, (d) the nature of

such limitations.

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To the extent that the Independent Fiduciary of a Client Plan

approves the investment in the Funds, the purchase of Fund shares by

the Client Plan is accomplished in accordance with Securities and

Exchange Commission Rule 17a-7 (Rule 17a-7 or the Rule) under the '40

Act (17 CFR 270.17a-7). Rule 17a-7 is an exemption from the prohibited

transaction provisions of section 17(a) of the '40 Act (15 USC 80a-

17(a)), which prohibit, among other things, transactions between an

investment company and its investment adviser or affiliates of its

investment adviser. Thus, Rule 17a-7 permits transactions between the

Funds and other accounts that use the same or affiliated investment

advisers, subject to certain conditions that are designed to assure

fair valuation of the assets involved in the transaction and fair

treatment of both parties to the transaction. Among the conditions of

Rule 17a-7 is the requirement that the transaction be effected at the

``independent current market price'' for the security involved.3

In this regard, the ``independent current market price'' for specific

types of CIF securities involved in the transactions is determined as

follows:

\3\ Rule 17a-7 also includes the following requirements: (a) the

transaction must be consistent with the investment objectives and

policies of the Fund, as described in its registration statement;

(b) the security that is the subject of the transaction must be one

for which market quotations are readily available; (c) no brokerage

commissions or other remuneration may be paid in connection with the

transaction; and (d) the Fund's board of directors (i.e., those

directors who are independent of the Fund's investment adviser) must

adopt procedures to ensure that the requirements of Rule 17a-7 are

followed, and determine no less frequently than quarterly that the

transactions during the preceding quarter were in compliance with

such procedures.

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(a) If the security is a ``reported security'' as the term is

defined in Rule 11Aa3-1 under the Securities Exchange Act of 1934

(the '34 Act) (17 CFR 240.11Aa3-1), the last sale price with respect

to such security reported in the consolidated transaction reporting

system (the Consolidated System); or, if there are no reported

transactions in the Consolidated System that day, the average of the

highest current independent bid and the lowest current independent

offer for such security (reported pursuant to Rule 11Ac1-1 under the

'34 Act) (17 CFR 240.11Ac1-1), as of the close of business on the

CIF valuation date.

(b) If the security is not a reported security, and the

principal market for such security is an exchange, then the last

sale on such exchange or, if there are no reported transactions on

such exchange that day, the average of the highest current

independent bid and lowest current independent offer on the exchange

as of the close of business on the CIF valuation date.

(c) If the security is not a reported security and is quoted in

the NASDAQ system, then the average of the highest current

independent bid and lowest current independent offer reported on

Level 1 of NASDAQ as of the close of business on the CIF valuation

date.4

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\4\ It is represented that Level 1 of NASDAQ provides the best

bid and ask quotations for each NASDAQ security that has a minimum

of two registered market-makers providing quotations. Level 2

provides the current bid and ask prices for each market-maker in any

available NASDAQ securities, not just the best prices. Level 3

allows for market-makers instantaneously to insert new quotations

into the system and is generally only used by market-makers and

traders.

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(d) For all other securities, the average of the highest current

independent bid and lowest current independent offer determined on

the basis of reasonable inquiry from at least three independent

sources as of the close of business on the CIF valuation date.

Federated represents that these valuation conditions are objective and

require documentation to permit review by independent parties.

Federated represents that, in a conversion transaction, a portion

of the plan assets in each CIF, representing the interests in the CIF

of the Client Plans that approve the asset transfer, are transferred to

the corresponding Funds using the then-current market value of the

plans' assets in exchange for shares in the Fund. Simultaneously, each

Client Plan's investment in the CIF is liquidated and Fund shares of

equal value to the Client Plan's interest in the CIF are distributed to

the Client Plan.

Prior to the transfers, the applicant states that the CIF assets

must be reviewed to determine whether they are appropriate investments

for the corresponding Fund, consistent with the Fund's investment

objectives and policies and applicable requirements under the '40 Act

and the Code. In addition, Federated notes that Rule 17a-7 permits

transfers only of securities for which market quotations are readily

available and does not include restricted securities (such as those

described by SEC Rule 144) or other securities for which market

quotations are not readily available.5 If the class exemption were

not available, the transferring plans would request cash distributions,

causing the CIF to incur higher transaction costs in liquidating a

larger proportion of its securities holdings.

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5 The Department notes that the Bank retains ongoing

responsibilities under ERISA's general standards of fiduciary

conduct with respect to plans electing to remain as investors in the

CIF and with respect to other aspects of the transfers.

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Federated explains that if the CIF will be terminated, the Client

Plans not transferring assets to a Fund will receive a distribution,

prior to the transfer date, of their pro rata portions of each CIF

asset. The remaining CIF assets are then transferred to the Funds on

behalf of the Client Plans that approve the transaction. If the CIF

will not be terminated, the assets of the CIF are divided, prior to the

transfer, so that each Client Plan that chooses to remain invested in

the CIF retains its pro rata share of the CIF assets.

Although the Bank will generally divide the assets held in a CIF

among the Client Plans on a pro rata basis, Federated explains that in

some instances, the CIF may hold ``small investments'' in fixed-income

securities that are not divisible, or that can be divided only at

substantial cost. Federated states that these investments will

typically be issued in units of $1,000 or more. For example, a CIF may

have 5 bonds in $1,000 denominations, for an aggregate principal value

of $5,000, and 50 percent of the Client Plans participating in the CIF

may elect to transfer their investments to a Fund.

[[Page 58227]]

A strict pro rata allocation to each Client Plan would require that

$2,500 of the principal value of these bonds be transferred to the

Fund. However, a $1,000 bond cannot be divided into two segments of

$500 each. Federated states that securities, such as the bond in this

example, that are incapable of division could be liquidated for cash

prior to the transfer but, if there are many such securities, the

transaction costs may become significant.

In these situations, solely for purposes of the prospective relief

requested herein 6, Federated represents that the Banks will treat

equivalent, ``small investment'' fixed-income securities as fungible

for allocation purposes if such securities have the same coupon rates,

maturities and credit ratings at the time of the transaction. For

example, notes with variable interest rates will be treated as fungible

only if they have the identical interest rate formulas. This

requirement will ensure that all Client Plans receive securities that

have equivalent terms and features. The Banks will allocate such fixed-

income securities among the Client Plans in a manner such that each

receives its pro rata share of the value of such securities.7

Federated represents that providing Banks with the ability to allocate

fixed-income securities other than on a strictly pro rata basis would

permit the CIF, and, therefore, the Client Plans, to avoid the

transaction costs involved in liquidating these small positions prior

to maturity.

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\6\ In this regard, the Department wishes to emphasize that the

proposed class exemption would provide no retroactive relief for any

past in-kind transfer of CIF assets to a Fund unless all or a pro

rata portion of the assets of the CIF were transferred to the Fund

in exchange for shares of such Fund. (See Section I(c) below.)

\7\ The applicant represents that the valuation of fixed income

securities will be performed in accordance with Rule 17a-7.

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In order to establish what constitutes ``small investments,''

Federated proposes that this exception from the general pro rata

division rule be available only for investment positions in fixed-

income securities which, in the aggregate, constitute no more than one

(1) percent of the CIF's assets. This one (1) percent limit will ensure

that the ``small investment'' positions in fixed-income securities will

represent a de minimis portion of the overall assets held by the CIF at

the time of the transactions.

In implementing the asset transfers, Federated represents that the

current market value of the assets of the CIFs have been and will be

determined in accordance with Rule 17a-7 and the procedures adopted by

the board of directors of the Fund pursuant to such Rule. The assets

are valued by the CIF and the Fund in the same manner using the

``independent current market price'' of the securities as defined in

Rule 17a-7 as of the close of business on the same business day. In

addition, no brokerage commissions or other remuneration is charged to

the Client Plans in connection with the asset transfer and any such

costs or expenses are paid by the Bank.

Federated states that the same values are used for the securities

both in determining the amount transferred from the CIF and the amount

received by the Fund. Thus, the total net asset value of the Fund

shares received by the Client Plan is equal in value to the Client

Plan's share of the assets of the CIF exchanged for shares of the Fund

on the date of transfer.

The valuations are based on prices, bids and offers as of the close

of business on the date of the asset transfer. Federated states that,

in the transactions in which it has been involved, the asset transfers

have primarily been scheduled to occur over a weekend to allow

sufficient time for processing. As applicable, securities have been

valued based on their closing prices, or the average of bid and ask

quotations (or prices obtained from pricing services) obtained from at

least three independent sources, as of the close of business on the

Friday preceding the weekend of the asset transfers. The transfer of

the securities has been completed by the following Monday, at which

time the Client Plans whose assets were formerly invested in a CIF hold

shares in the corresponding Fund of equal value to their units in the

CIF as of the close of business the previous Friday.

Subsequent to the transaction, Federated explains that compliance

with Rule 17a-7 procedures of the Fund is reviewed by independent

members of the Fund's board of directors and by independent auditors.

In this regard, records pertaining to Rule 17a-7 transactions are

reviewed by SEC staff during their periodic inspections of the Funds.

Thus, in Federated's view, the asset transfer transactions are

ministerial in nature because they are performed in accordance with

procedures that are prescribed by Rule 17a-7 and approved by the Fund's

board of directors. Further, Federated states that the pricing of all

securities transferred to a Fund is accomplished by reference to

independent sources. In each case, the affected Client Plans receive

shares of the Funds that are of equal value to the previously-held CIF

units.

IV. Description of the Proposed Exemption

The proposed class exemption consists of four sections. Section I

would provide conditional exemptive relief for transactions occurring

from October 1, 1988 until the date the notice granting the final

exemption is published in the Federal Register. Section II would

provide prospective relief for transactions which must meet certain

additional conditions which are described below. Section III provides

that a transaction that meets the applicable conditions of the proposed

exemption will be deemed a purchase by the Client Plan of shares of an

open-end investment company registered under the Investment Company Act

of 1940 for purposes of PTE 77-4. Accordingly, if the exemption is

granted, a Bank that complies with the terms of this exemption and with

the terms of PTE 77-4 would be able to receive investment management

and investment advisory fees from the Fund and the Client Plan with

respect to the plan's assets invested in shares of the Fund to the

extent permitted under PTE 77-4. Section III also provides that

compliance with the proposed exemption will constitute compliance with

paragraphs (a), (d) and (e) of section II of PTE 77-4. Finally, Section

IV contains definitions for certain terms used in the proposed

exemption.

Specifically, the proposed class exemption set forth in Section I

would provide retroactive relief from the restrictions of sections

406(a) and 406(b)(1) and (b)(2) of the Act for the purchase of Fund

shares by an employee benefit plan, where a Bank that serves as

investment adviser to the Fund is also a fiduciary with respect to the

plan, in exchange for plan assets transferred in-kind to the Fund from

a CIF maintained by the Bank. The exemption is generally similar to a

number of individual exemptions that have been granted by the

Department for such transactions, but the operative language of this

proposal differs from that of the individual exemptions.8 The

principal purpose of the language in the proposal is to make clear that

the class exemption would not provide relief for any prohibited

transactions that may arise in connection with terminating a CIF,

permitting certain plans to

[[Page 58228]]

withdraw from a CIF that is not terminating, or liquidating or

transferring any plan assets held by the CIF. The class exemption would

provide relief only for the purchase of Fund shares by a Client Plan in

exchange for assets that are transferred from a CIF. Although the

Department interprets the individual exemptions as being similarly

limited in their scope, the language of the proposed class exemption is

intended to clarify this limitation. The Department believes that the

scope of the proposed class exemption is consistent with the

applicant's request for relief based on the applicant's mistaken

reliance on PTE 77-4. The Department, however, specifically solicits

comments on whether the scope of the proposed exemption should be

modified to include other aspects of in-kind transfers of CIF assets.

The Department also notes that the proposal defines the term ``Client

Plan'' in section IV so as to exclude exemptive relief for purchases of

Fund shares by plans sponsored by the Bank for its own employees.

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\8\ See, for example, PTE 94-82 involving Marshall & Ilsley

Trust Company (59 FR 62422, December 5, 1994); PTE 94-86 involving

The Bank of California, N.A. (59 FR 65403, December 19, 1994); PTE

95-33 involving Bank South, N.A. (60 FR 20773, April 27, 1995); PTE

95-48 involving Mellon Bank, N.A. (60 FR 32995, June 26, 1995); and

PTE 95-49 involving Norwest Bank (60 FR 33000, June 26, 1995).

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The conditions applicable to the retroactive exemption set forth in

Section I of the proposal are described below.

Under section I(a) of the proposal, no sales commissions or other

fees are paid by Client Plan in connection with the transaction.

Section I(b) and (c) of the proposed exemption requires that the

transferred assets be securities for which market quotations are

readily available and consist of the Client Plan's pro rata portion of

all the transferable assets held by the CIFs immediately prior to the

transfer. Under section I(d), the Client Plan must receive shares of a

Fund to which the CIF assets have been transferred that have a total

net asset value that is equal to the value of the Client Plan's pro

rata portion of the transferred assets on the date of the transfer,

based on the current market value of such assets, as determined in a

single valuation for each asset, with all valuations performed in the

same manner at the close of the same business day, in accordance with

Rule 17a-7 of the '40 Act (using sources independent of the Bank) and

the procedures established by the Funds pursuant to Rule 17a-7 for the

valuation of such assets. The same valuation must be used for each

asset in determining the amount transferred from the CIF and the amount

received by the Fund.

Section I(e) provides that an Independent Fiduciary must receive

advance written notice of the transaction, as well as the following

written information concerning the Funds: (a) a current prospectus for

each Fund in which a Client Plan is considering investing; (b) full and

detailed written disclosure of the investment advisory and other fees

charged to, or paid by, the Client Plan (and by such Fund) to the Bank

or any unrelated third party, including the nature and extent of any

differential between the rates of the fees; (c) the reasons why the

Bank may consider an exchange of the Client Plan's CIF assets for

investments in the Fund to be appropriate for the Client Plan; and (d)

a statement describing whether there are any limitations applicable to

the Bank with respect to which assets of the Client Plan may be

invested in the Fund, and, if so, the nature of such limitations.

Moreover, under section I(f), the Independent Fiduciary gives prior

approval in writing of each in-kind transfer of the Client Plan's CIF

assets to a Fund in exchange for shares of the Fund, on the basis of

the information disclosed to the Independent Fiduciary. In addition,

section I(g) requires that the Independent Fiduciary receive written

confirmation of the transaction no later than 105 days after the

transaction. This written confirmation must disclose the number of CIF

units held by the Client Plan immediately before the transaction and

the number of Fund shares held by the Client Plan immediately following

the transaction, the related per unit and per share values, and the

dollar amounts of the CIF units and the Fund shares involved in the

transaction.

Section I(h) requires that, for each Client Plan, the combined

total of all fees received by the Bank for the provision of services to

the Client Plan, and in connection with the provision of services to a

Fund in which a Client Plan invests, must not exceed ``reasonable

compensation'' within the meaning of section 408(b)(2) of the Act.

Finally, section I(i) provides that all dealings between a Client Plan

and a Fund are on a basis no less favorable to the Client Plan than

such dealings are with other shareholders of the Fund.

On a prospective basis, Section II requires that the transactions

meet certain conditions in addition to those described in Section I of

the proposal. These additional conditions are described below.

Section II(c) provides an exception to the general requirement that

the assets transferred to a Fund consist of the Client Plan's pro rata

portion of each of the assets of the CIF. This exception applies to

certain investments in fixed-income securities. The fixed-income

securities which are allocated between the CIF and the Fund must have

the same coupon rates, maturities and credit ratings at the time of the

transaction and cannot exceed one (1) percent of the aggregate assets

held by the CIF as of each transfer. In this regard, section IV(j)

defines the term ``fixed-income security'' as any interest-bearing or

discounted government or corporate security with a face amount of

$1,000 or more that obligates the issuer to pay the holder a specified

sum of money, usually at specific intervals, and to repay the principal

amount of the loan at maturity.

Under section II(f) of the proposal, the Independent Fiduciary must

give prior approval in writing of each in-kind transfer of the Client

Plan's CIF assets to a Fund in exchange for shares of the Fund. The

advance notice required by section II(e) will include the identity of

securities that will be valued in accordance with Rule 17a-7(b)(4) of

the '40 Act and allocated under section II(c), and the identity of any

fixed-income securities allocated under section II(c).9

---------------------------------------------------------------------------

\9\ Rule 17a-7(b)(4) describes the method for determining the

current market price of securities that are not reported securities

under Rule 11Aa3-1 (17 CFR 240.11Aa3-1), are not traded principally

on an exchange and are not quoted in the NASDAQ system. 17 CFR

270.17a-7(b)(4). Because the proper valuation of such securities may

require more extensive inquiry than in the valuation of securities

described in Rule 17a-7(b)(1)-(b)(3), the Department believes that

the Independent Fiduciary should receive advance notice that the

transfer will entail such valuations.

---------------------------------------------------------------------------

Section II(g)(1) requires a Bank to send the Independent Fiduciary

of a Client Plan an additional written confirmation, not later than 30

days after the completion of the transaction, for securities that were

valued in accordance with Rule 17a-7(b)(4). The additional confirmation

must contain the following information: (a) the identity of each such

security; (b) the current market price as of the date of the

transaction of each such security involved in the transaction; and (c)

the identity of each pricing service or market-maker consulted in

determining the value of such securities.

In addition, section II(h) requires the Bank to provide certain

ongoing disclosures to the Independent Fiduciary of a Client Plan. Such

written disclosures must include: (a) a copy of an updated prospectus

for each Fund in which such plan has invested, which is to be provided

at least on an annual basis; and (b) upon the request of the

Independent Fiduciary, a report or statement (which may take the form

of the most recent financial report, the current Statement of

Additional Information, or some other written statement) containing a

description of

[[Page 58229]]

all fees paid by the Fund to the Bank. The purpose of this additional

disclosure is to ensure that the Independent Fiduciary will continue to

have the information necessary to effectively monitor the Fund

investments made by the Client Plan.

The Department wishes to note that the requirement under sections I

and II of the proposal that all valuations of all plan assets

transferred from a CIF to a Fund be determined in accordance with Rule

17a-7 under the '40 Act is designed to provide flexibility for future

transactions. Thus, for example, if Rule 17a-7 is subsequently amended

by the SEC to accommodate new pricing systems, Banks could take

advantage of the amended Rule without having to request an amendment to

the class exemption. However, the Department cautions that the

exemption would not be available for transactions involving assets that

are not valued by reference to sources independent of the Bank.

Unlike the individual exemptions cited above, this proposed class

exemption does not grant relief for fees that the Bank may receive from

the Fund as a result of the Client Plans' purchase of Fund shares.

However, section III of this proposal provides that a purchase of Fund

shares that complies with sections I and II will be deemed a purchase

of shares of an open-end investment company for purposes of PTE 77-4,

and in compliance with paragraphs (a), (d) and (e) of section II of

that exemption. Compliance with all of the conditions of PTE 77-4 would

permit the Bank to receive investment advisory and similar fees from

the Fund with respect to shares acquired by a Client Plan in accordance

with the proposal.

General Information

The attention of interested persons is directed to the following:

(1) The fact that a transaction is the subject of an exemption

under section 408(a) of the Act and section 4975(c)(2) of the Code does

not relieve a fiduciary or other party in interest or disqualified

person from certain other provisions of the Act and the Code, including

any prohibited transaction provisions to which the exemption does not

apply and the general fiduciary responsibility provisions of section

404 of the Act which require, among other things, that a fiduciary

discharge his duties with respect to the plan solely in the interests

of the participants and beneficiaries of the plan and in a prudent

fashion in accordance with section 404(a)(1)(B) of the Act; nor does it

affect the requirement of section 401(a) of the Code that the plan must

operate for the exclusive benefit of the employees of the employer

maintaining the plan and their beneficiaries;

(2) Before an exemption may be granted under section 408(a) of the

Act and section 4975(c)(2) of the Code, the Department must find that

the exemption is administratively feasible, in the interests of the

plans and their participants and beneficiaries and protective of the

rights of participants and beneficiaries of such plans;

(3) If granted, the proposed exemption will be applicable to a

transaction only if the conditions specified in the class exemption are

met; and

(4) The proposed exemption, if granted, will be supplemental to,

and not in derogation of, any other provisions of the Code and the Act,

including statutory or administrative exemptions and transitional

rules. Furthermore, the fact that a transaction is subject to an

administrative or statutory exemption is not dispositive of whether the

transaction is in fact a prohibited transaction.

Written Comments and Hearing Requests

All interested persons are invited to submit written comments or

requests for a public hearing on the proposed exemption to the address

and within the time period set forth above. All comments will be made a

part of the record. Comments and requests for a hearing should state

the reasons for the writer's interest in the proposed exemption.

Comments received will be available for public inspection with the

referenced application at the above address.

Proposed Exemption

The Department has under consideration the grant of the following

class exemption under the authority of section 408(a) of the Act and

section 4975(c)(2) of the Code, and in accordance with the procedures

set forth in 29 CFR Part 2570, Subpart B (55 FR 32836, 32847, August

10, 1990.)

Section I. Retroactive Exemption for the Purchase of Fund Shares With

Assets Transferred In-Kind From A CIF

For the period from October 1, 1988, to [date of publication of

final class exemption], the restrictions of sections 406(a) and

406(b)(1) and (b)(2) of the Act and the taxes imposed by section 4975

of the Code, by reason of section 4975(c)(1)(A) through (E), shall not

apply to the purchase by an employee benefit plan (the Client Plan) of

shares of one or more diversified open-end management investment

companies (the Fund or Funds) registered under the Investment Company

Act of 1940, the investment adviser for which is a bank (the Bank) that

is also a fiduciary of the Client Plan, in exchange for assets of the

Client Plan transferred in-kind to the Fund from a collective

investment fund (the CIF) maintained by the Bank, if the following

conditions are met:

(a) No sales commissions or other fees are paid by the Client Plan

in connection with the purchase of Fund shares.

(b) All transferred assets are securities for which market

quotations are readily available.

(c) The transferred assets constitute the Client Plan's pro rata

portion of such assets that were held by the CIF immediately prior to

the transfer.

(d) The Client Plan receives Fund shares that have a total net

asset value equal to the value of the Client Plan's pro rata share of

transferred assets on the date of the transfer, as determined in a

single valuation for each asset, with all valuations performed in the

same manner, at the close of the same business day, in accordance with

Securities and Exchange Commission Rule 17a-7 (using sources

independent of the Bank and the Fund) and the procedures established by

the Funds pursuant to Rule 17a-7.

(e) With respect to each Client Plan owning assets held by the CIF,

an Independent Fiduciary with respect to such plan receives advance

written notice of the in-kind transfer and purchase and full written

disclosure of information concerning the Funds which includes the

following:

(1) A current prospectus for each Fund to which the CIF assets may

be transferred;

(2) A statement describing the fees to be charged to, or paid by, a

Client Plan and the Funds to the Bank or any unrelated third party,

including the nature and extent of any differential between the rates

of the fees;

(3) A statement of the reasons why the Bank may consider the

transfer and purchase to be appropriate for the Client Plan; and

(4) A statement of whether there are any limitations on the Bank

with respect to which plan assets may be invested in shares of the

Funds, and, if so, the nature of such limitations.

(f) On the basis of the foregoing information, the Independent

Fiduciary gives approval, in writing, for each purchase of Fund shares

in exchange for the Client Plan's transferred CIF assets, consistent

with the responsibilities, obligations and duties imposed on

fiduciaries by Part 4 of Title I of the Act.

(g) The Bank sends by regular mail to the Independent Fiduciary of

each

[[Page 58230]]

Client Plan that purchases shares in connection with the in-kind

transfer, no later than 105 days after completion of each purchase, a

written confirmation of the transaction containing--

(1) The number of CIF units held by the Client Plan immediately

before the transfer, the related per unit value and the total dollar

amount of such CIF units; and

(2) The number of shares in the Funds that are held by the Client

Plan immediately following the transfer, the related per share net

asset value and the total dollar amount of such shares.

(h) As to each Client Plan, the combined total of all fees received

by the Bank for the provision of services to the Client Plan, and in

connection with the provision of services to a Fund in which a Client

Plan holds shares purchased in connection with the in-kind transfer is

not in excess of ``reasonable compensation'' within the meaning of

section 408(b)(2) of the Act.

(i) All dealings in connection with the in-kind transfer and

purchase between the Client Plan and a Fund are on a basis no less

favorable to the Client Plan than dealings between the Fund and other

shareholders.

Section II. Prospective Exemption for the Purchase of Fund Shares With

Assets Transferred In-Kind From A CIF

Effective [date of publication of final class exemption], the

restrictions of sections 406(a) and 406 (b)(1) and (b)(2) of the Act

and the taxes imposed by section 4975 of the Code, by reason of section

4975(c)(1) (A) through (E) of the Code, shall not apply to the purchase

by an employee benefit plan (the Client Plan) of shares of one or more

diversified open-end management investment companies (the Fund)

registered under the Investment Company Act of 1940, the investment

adviser for which is a bank (the Bank) that is also a fiduciary of the

Client Plan, in exchange for assets of the Client Plan transferred in-

kind to the Fund from a collective investment fund (the CIF) maintained

by the Bank if the following conditions are met:

(a) No sales commissions or other fees are paid by the Client Plans

in connection with the purchase of Fund shares through the transfer of

assets from the CIF.

(b) All transferred assets are securities for which market

quotations are readily available.

(c) The transferred assets constitute the Client Plan's pro rata

portion of such assets that were held by the CIF immediately prior to

the transfer. Notwithstanding the foregoing, the allocation of fixed-

income securities held by a CIF among Client Plans on the basis of each

Client Plan's pro rata share of the aggregate value of such securities

will not fail to meet the requirements of section II(b) if:

(1) The aggregate value of such securities does not exceed one (1)

percent of the total value of the assets held by the CIF immediately

prior to the transfer; and

(2) Such securities have the same coupon rate and maturity, and at

the time of the transfer, the same credit ratings from nationally

recognized statistical rating agencies.

(d) The Client Plan receives Fund shares that have a total net

asset value equal to the value of the Client Plan's pro rata share of

transferred assets on the date of the transfer, as determined in a

single valuation for each asset, with all valuations performed in the

same manner, at the close of the same business day, in accordance with

Securities and Exchange Commission Rule 17a-7 (using sources

independent of the Bank and the Fund) and the procedures established by

the Funds pursuant to Rule 17a-7.

(e) With respect to each Client Plan owning assets held in the CIF,

an Independent Fiduciary for such Client Plan receives advance written

notice of the in-kind transfer and purchase of assets and full written

disclosure of information concerning the Funds which includes the

following:

(1) A current prospectus for each Fund to which the CIF assets may

be transferred;

(2) A statement describing the fees to be charged to or paid by the

Client Plan and the Funds to the Bank or any unrelated third party,

including the nature and extent of any differential between the rates

of such fees;

(3) A statement of the reasons why the Bank may consider the

transfer and purchase to be appropriate for the Client Plan;

(4) A statement of whether there are any limitations on the Bank

with respect to which plan assets may be invested in shares of the

Funds, and, if so, the nature of such limitations;

(5) The identity of securities that will be valued in accordance

with Rule 17a-7(b)(4) and allocated under section II(c); and

(6) The identity of any fixed-income securities allocated pursuant

to section II(c).

(f) On the basis of the foregoing information, the Independent

Fiduciary gives prior approval, in writing, for each purchase of Fund

shares in exchange for the Client Plan's assets transferred from the

CIF, consistent with the responsibilities, obligations and duties

imposed on fiduciaries by Part 4 of Title I of the Act.

(g) The Bank sends by regular mail to the Independent Fiduciary of

each Client Plan that purchases Fund shares in connection with the in-

kind transfer, the following information:

(1) Not later than 30 days after the completion of the purchase, a

written confirmation which contains--

(i) The identity of each security that was valued for purposes of

the purchase of Fund shares in accordance with Rule 17a-7(b)(4);

(ii) The current market price, as of the date of the in-kind

transfer, of each such security involved in the purchase of Fund

shares; and

(iii) The identity of each pricing service or market-maker

consulted in determining the current market price of such securities.

(2) Within 105 days after the completion of each purchase, a

written confirmation which contains--

(i) The number of CIF units held by the Client Plan immediately

before the in-kind transfer, the related per unit value, and the total

dollar amount of such CIF units; and

(ii) The number of shares in the Funds that are held by the Client

Plan immediately following the purchase, the related per share net

asset value and the total dollar amount of such shares.

(h) With respect to each of the Funds in which a Client Plan

continues to hold shares acquired in connection with the in-kind

transfer, the Bank provides the Independent Fiduciary of the Client

Plan with--

(1) A copy of an updated prospectus of such Fund, at least

annually; and

(2) Upon request of the Independent Fiduciary, a report or

statement (which may take the form of the most recent financial report,

the current Statement of Additional Information, or some other written

statement) containing a description of all fees paid by the Fund to the

Bank.

(i) As to each Client Plan, the combined total of all fees received

by the Bank for the provision of services to the Client Plan, and in

connection with the provision of services to a Fund in which a Client

Plan holds shares acquired in connection with the in-kind transfer, is

not in excess of ``reasonable compensation'' within the meaning of

section 408(b)(2) of the Act.

(j) All dealings in connection with the in-kind transfer and

purchase between the Client Plan and a Fund are on a basis no less

favorable to the Client Plan than dealings between the Fund and other

shareholders.

[[Page 58231]]

Section III. Availability of Prohibited Transaction Exemption (PTE) 77-

4

Any purchase of Fund shares that complies with the conditions of

either Section I or Section II of this class exemption shall be treated

as a ``purchase or sale'' of shares of an open-end investment company

for purposes of PTE 77-4 and shall be deemed to have satisfied

paragraphs (a), (d) and (e) of section II of that exemption. 42 FR

18732 (April 8, 1977).

Section IV. Definitions

For purposes of this proposed exemption:

(a) The term ``Bank'' means a bank or trust company, and any

affiliate thereof [as defined below in paragraph (b)(1)], which is

supervised by a state or federal agency.

(b) An ``affiliate'' of a person includes--

(1) Any person directly or indirectly through one or more

intermediaries, controlling, controlled by, or under common control

with the person.

(2) Any officer, director, employee or relative of such person, or

partner in any such person; and

(3) Any corporation or partnership of which such person is an

officer, director, partner or employee.

(c) The term ``control'' means the power to exercise a controlling

influence over the management or policies of a person other than an

individual.

(d) The term ``collective investment fund'' or ``CIF'' means a

common or collective trust fund or pooled investment fund maintained by

a ``Bank'' as defined in paragraph (a) of this Section IV.

(e) The term ``Fund'' or ``Funds'' means any diversified open-end

management investment company or companies registered under the '40 Act

for which the Bank serves as an investment adviser, and may also serve

as a custodian, shareholder servicing agent, transfer agent or provide

some other secondary service (as defined below in paragraph (i) of this

section).

(f) The term ``net asset value'' means the amount calculated by

dividing the value of all securities, determined by a method as set

forth in a Fund's prospectus and statement of additional information,

and other assets belonging to each of the portfolios in such Fund, less

the liabilities chargeable to each portfolio, by the number of

outstanding shares.

(g) The term ``relative'' means a ``relative'' as that term is

defined in section 3(15) of the Act (or a ``member of the family'' as

that term is defined in section 4975(e)(6) of the Code), or a brother,

a sister, or a spouse of a brother or a sister.

(h) The term ``Independent Fiduciary'' means a fiduciary of a

Client Plan who is independent of and unrelated to the Bank. For

purposes of this exemption, the Independent Fiduciary will not be

deemed to be independent of and unrelated to the Bank if:

(1) Such fiduciary directly or indirectly controls, is controlled

by, or is under common control with the Bank or any affiliate thereof;

(2) Such fiduciary, or any officer, director, partner, employee, or

relative of such fiduciary, is an officer, director, partner, employee

of the Bank (or is a relative of such persons) or any affiliate

thereof;

(3) Such fiduciary directly or indirectly receives any compensation

or other consideration for his or her own personal account in

connection with any transaction described in this proposed exemption.

If an officer, director, partner, employee of the Bank (or relative

of such persons) or any affiliate thereof, is a director of such

Independent Fiduciary, and if he or she abstains from participation in

(i) the choice of the Client Plan's investment adviser, and (ii) the

approval of any purchase or sale between the Client Plan and the Funds,

as well as any transaction described in Sections I and II above, then

paragraph (h)(2) of this Section IV shall not apply.

(i) The term ``secondary service'' means a service provided by a

Bank to a Fund other than investment management, investment advisory or

similar services.

(j) The term ``fixed-income security'' means any interest-bearing

or discounted government or corporate security with a face amount of

$1,000 or more that obligates the issuer to pay the holder a specified

sum of money, at specific intervals, and to repay the principal amount

of the loan at maturity.

(k) The term ``Client Plan'' means a pension plan described in 29

CFR 2510.3-2, a welfare benefit plan described in 29 CFR 2510.3-1, and

a plan described in section 4975(e)(1) of the Code, but does not

include an employee benefit plan established or maintained by the Bank

or by an affiliate thereof, for its own employees.

(l) The term ``security'' shall have the same meaning as defined in

section 2(36) of the '40 Act, as amended, 15 U.S.C. 80a-2(36) (1996).

Signed at Washington, D.C., this 5th day of November, 1996.

Alan D. Lebowitz,

Deputy Assistant Secretary for Program Operations, Pension and Welfare

Benefits Administration, U.S. Department of Labor.

[FR Doc. 96-29036 Filed 11-12-96; 8:45 am]

BILLING CODE 4510-29-P