Clarification of Application of ERISA to Insurance Company General Accounts

DEPARTMENT OF LABOR

Pension and Welfare Benefits Administration

29 CFR Part 2510

Clarification of Application of ERISA to Insurance Company

General Accounts

AGENCY: Pension and Welfare Benefits Administration, Labor.

ACTION: Request for information.

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

SUMMARY: This document requests information from the public concerning

issues which the Department has under consideration in developing

regulations to clarify the application of the Employee Retirement

Income Security Act of 1974 as amended (ERISA), to insurance company

general accounts. Pursuant to section 1460 of the Small Business Job

Protection Act of 1996 (Pub. L. 104-188), section 401 of ERISA has been

amended. Section 401 now provides that no later than June 30, 1997, the

Department must issue proposed regulations to: Provide guidance for the

purpose of determining, where an insurer issues one or more policies to

or for the benefit of an employee benefit plan (and such policies are

supported by assets of the insurer's general account), which assets

held by the insurer (other than plan assets held in its separate

accounts) constitute assets of the plan for purposes of part 4 of Title

I of ERISA and section 4975 of the Internal Revenue Code of 1986; and

provide

[[Page 59846]]

guidance with respect to the application of Title I to the general

account assets of insurers. The information provided to the Department

in response to this document will assist the Department in developing

the proposed regulations.

DATES: Comments must be received on or before January 24, 1997.

ADDRESSES: Comments (preferably, at least three copies) should be

addressed to: Pension and Welfare Benefits Administration, Office of

Exemption Determinations, Room N-5649, 200 Constitution Ave., N.W.,

Washington, D.C. 20210. Attention: ``General Account Contracts''.

FOR FURTHER INFORMATION CONTACT:

Lyssa E. Hall, Office of Exemption Determinations, Pension and Welfare

Benefits Administration, U.S. Department of Labor, 200 Constitution

Avenue, N.W., Washington, D.C. 20210, (202) 219-8971 (not a toll-free

number) or Timothy Hauser, Plan Benefits Security Division, Office of

the Solicitor, (202) 219-8637 (not a toll-free number).

SUPPLEMENTARY INFORMATION:

A. Background

Life insurance companies issue a variety of group contracts for use

in connection with employee pension benefit plans, some of which

provide benefits the amount of which is guaranteed, some of which

provide benefits that may fluctuate with the investment performance of

the insurance company, and some of which offer elements of both. Under

section 401(b)(2) of ERISA, if an insurance company issues a

``guaranteed benefit policy'' to a plan, the assets of the plan are

deemed to include the policy, but do not solely by reason of the

issuance of the policy, include any of the assets of the insurance

company. Section 401(b)(2)(B) defines the term ``guaranteed benefit

policy'' to mean an insurance policy or contract to the extent that

such policy or contract provides for benefits the amount of which is

guaranteed by the insurer. In addition, in paragraph (b) of ERISA

Interpretive Bulletin 75-2, 29 CFR 2509.75-2 (1975), the Department

stated that if an insurance company issues a contract or policy of

insurance to a plan and places the consideration for such contract or

policy in its general asset account, the assets in such account shall

not be considered to be plan assets.\1\

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

\1\ Paragraph (b) of 29 CFR 2509.75-2 was removed effective July

1, 1996. 61 FR 33847, 33849 (July 1, 1996).

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

On December 13, 1993, the Supreme Court rendered its decision in

John Hancock Mutual Life Insurance Co. v. Harris Trust & Savings Bank,

114 S. Ct. 517 (1993) (Harris Trust) which interpreted the meaning of

``guaranteed benefit policy''. In its decision, the Court held that a

contract qualifies as a guaranteed benefit policy only to the extent it

allocates investment risk to the insurer:

[w]e hold that to determine whether a contract qualifies as a

guaranteed benefit policy, each component of the contract bears

examination. A component fits within the guaranteed benefit policy

exclusion only if it allocates investment risk to the insurer. Such

an allocation is present when the insurer provides a genuine

guarantee of an aggregate amount of benefits payable to retirement

plan participants and their beneficiaries.

Accordingly, under the Supreme Court's decision, an insurer's general

account includes plan assets to the extent it contains funds which are

attributable to any nonguaranteed components of contracts with employee

benefit plans. Because John Hancock's contract provided for a return

that varied with the insurer's investment performance, the Court

concluded that John Hancock held plan assets, and was, therefore, a

fiduciary with respect to the management and disposition of those

assets. Under the reasoning of the Court's decision, a broad range of

activities involving insurance company general accounts are subject to

ERISA's fiduciary standards.

Because of the retroactive effect of the Supreme Court decision,

numerous transaction engaged in by insurance company general accounts

may have violated ERISA's prohibited transaction and general fiduciary

responsibility provisions. The insurance industry believed that, absent

legislative or administrative action, it would be subject to

significant additional litigation and potential liability with respect

to the operation of its general accounts.

If the underlying assets of a general account include plan assets,

persons who have engaged in transactions with such general account may

be viewed as parties in interest under section 3(14) of ERISA and

disqualified persons under section 4975 of the Code, including

fiduciaries with respect to plans which have interests as

contractholders in the general account. For example, insurance

companies are a source of loans for smaller and mid-sized companies.

Many of these companies have party in interest relationships with plans

that have purchased general account contracts. Application of the

prohibited transaction rules to the general account of an insurance

company as a result of the Harris Trust decision could call such loans

into question under ERISA. Lastly, the underlying assets of an entity

in which a general account acquired an equity interest may include plan

assets as a result of the Harris Trust decision.

On March 25, 1994, the American Council of Life Insurance (ACLI)

submitted an application for a class exemption from certain of the

restrictions of sections 406 and 407 of ERISA and from certain excise

taxes imposed by section 4975 (a) and (b) of the Code. The ACLI

requested broad exemptive relief for transactions which included the

following: all internal operations of general accounts, all investment

transactions involving general account assets, including transactions

with parties in interest with respect to plans that have purchased

general account contracts, and the purchase by the general account of

securities issued by, and real property leased to, employers of

employees covered by plans that have purchased general account

contracts.

On August 22, 1994, the Department published a notice of proposed

Class Exemption for Certain Transactions Involving Insurance Company

General Accounts. (59 FR 43134). Although the ACLI requested exemptive

relief for activities in connection with the internal operation of

general accounts, the Department determined that it did not have

sufficient information regarding the operation of such accounts to make

the findings required by section 408(a) of ERISA. Accordingly, the

proposed class exemption did not provide relief for transactions

involving the internal operation of an insurance company general

account. The final exemption (Prohibited Transaction Exemption [PTE]

95-60, 60 FR 35925) was published in the Federal Register on July 12,

1995.

B. Public Law 104-188

In response to the Supreme Court decision in Harris Trust, Congress

amended section 401 of ERISA by adding a new subsection 401(c) which

clarifies the application of ERISA to insurance company general

accounts. Pub. L. 104-188, Sec. 1460. This statutory provision requires

that the Department, not later than June 30, 1997, issue proposed

regulations providing guidance for the purpose of determining, in cases

where an insurer issues one or more policies (supported by the assets

of the insurer's general account) to or for the benefit of an employee

benefit plan, which assets held by the insurer (other than plan assets

held in its separate accounts) constitute plan assets for purposes of

part 4 of Title I and section 4975 of the

[[Page 59847]]

Code and to provide guidance with respect to the application of Title I

to an insurer's general account assets. The proposed regulations must

be subject to public notice and comment until September 30, 1997, and

final regulations shall be issued not later than December 31, 1997.

The regulations will only apply to those general account policies

which are issued by an insurer on or before December 31, 1998. In the

case of such policies, the regulations will take effect at the end of

the 18 month period following the date the regulations become final.

Pub. L. 104-188, however, authorizes the Secretary to issue additional

regulations designed to prevent avoidance of the regulations described

above. These additional regulations, if issued, may have an earlier

effective date.

The Department must ensure that the regulations issued under Pub.

L. 104-188 are administratively feasible, and protect the interests and

rights of the plan and of its participants and beneficiaries. In

addition, the regulations must require, in connection with any policy

(other than a guaranteed benefit policy) issued by an insurer to or for

the benefit of an employee benefit plan, that: (1) an independent plan

fiduciary authorize the purchase of the policy (unless the purchase is

exempt under ERISA section 408(b)(5)); (2) the insurer provide

information on an annual basis to policyholders (as prescribed in such

regulations) disclosing the methods by which any income and expenses of

the insurer's general account are allocated to be policy and the actual

return to the plan under the policy and such other financial

information as the Department determines is appropriate; (3) the

insurer disclose to the plan fiduciary the extent to which alternative

arrangements supported by the assets of the insurer's separate accounts

are available, whether there is a right under the policy to transfer

funds to a separate account and the terms governing any such right, and

the extent to which support by assets of the insurer's general account

and support by assets of the insurer's separate accounts might pose

differing risks to the plan; and (4) the insurer must manage general

account assets prudently, taking into account all obligations supported

by such general account.

Compliance with the regulations issued by the Department will be

deemed compliance by such insurer with sections 404, 406 and 407 of

ERISA. In addition, under this statutory provision, no person will be

liable under part 4 of Title I or Code section 4975 for conduct which

occurred before the date which is 18 months following the issuance of

the final regulation on the basis of a claim that the assets of an

insurer (other than plan assets held in a separate account) constitute

plan assets. The limitation on liability is subject to three

exceptions: (1) the Department may circumscribe this limitation on

liability in regulations intended to prevent avoidance of the

regulations which it is required to issue under the statutory

amendment; (2) the Department may bring actions pursuant to paragraph

(2) or (5) of section 502(a) for breaches of fiduciary responsibilities

which also constitute violations of Federal or State criminal law; and

(3) civil actions commenced before November 7, 1995 are exempt from the

amendment's coverage.

Issues Under Consideration

The Department is publishing this notice to provide interested

persons with an opportunity to submit information and comments which

will be considered by the Department in developing the regulations

mandated by Pub. L. 104-188.\2\

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

\2\ Section 1460 of Pub. L. 104-188 does not distinguish between

welfare plans and pension plans that purchase general account

contracts from insurers. Accordingly, the Department urges

interested persons to submit information and comments which are

relevant to welfare plans that have purchased general account

contracts.

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

In order to assist interested parties in responding, this notice

contains a list of specific questions designed to elicit information

that the Department believes would be especially helpful in developing

a notice of proposed rulemaking. The questions developed by the

Department may not address all issues relevant to the development of

the regulation. Therefore, the Department further invites interested

parties to submit comments on other matters that they believe are

pertinent to the Department's consideration of the regulation.

Annual Disclosures

(1) What information relating to the financial soundness of an

insurer do plan fiduciaries currently rely upon in selecting an

insurer?

(2) Should additional information be required to be disclosed to

plan fiduciaries prior to selecting an insurer? What would be the cost

of supplying this information? To what extent would these costs be

passed on to the contractholders?

(3) What annual information would plan fiduciaries find helpful in

evaluating the appropriateness of an existing general account contract?

(4) Is there any information which should be disclosed more

frequently than annually? Should this information be provided or

available upon request?

(5) Do insurers currently disclose to potential contractholders the

availability of alternative insurance arrangements supported by

separate accounts, the right to transfer funds under a general account

contract to a separate account, and the terms governing any such right?

(6) In general, what are the comparative risks and benefits of

general account contracts vis-a-vis separate account contracts?

(7) To what extent, and in what format, should insurers be required

to disclose information concerning the following:

(a) The expenses allocated to the contract and the basis for the

allocation;

(b) The investment income allocated to the contract and the basis

for the allocation;

(c) The mortality or morbidity experience attributed to the

contract and the basis for the attribution;

(d) The allocation of any other aspect of the insurance company's

financial performance which has an impact on the contract's return, and

the basis for the allocation;

(e) The timing of the allocation of expenses, investment income,

mortality or morbidity experience, and of any other factors affecting

the contract's return;

(f) Any charges or provisions attributable to the contract for

risks or profits, and the basis for the charges or provisions;

(g) Comparative data concerning the return, expenses, investment

income, profit and risk charges attributable to other contracts, and an

explanation of any disparities;

(h) The particular investment income allocation methodology or

methodologies employed by the insurer, and any departures from the

general methodologies in the actual allocation of investment income to

the contract;

(i) Financial or familial relationships or transactions between (1)

the insurer, its officers, or directors, and (2) the plan, the plan

sponsor, or plan fiduciaries;

(j) Financial transactions between the insurer and any person or

entity in which the insurer, its officers, or directors have a

financial interest or familial relationship.

Do different formats have different cost implications? Which items

are costly to produce, or involve confidential or proprietary

information? What professional skills are required to prepare the

required information?

[[Page 59848]]

(8) Should the insurer be required to retain documentation

supporting the required disclosures, and to make the supporting

documentation available to the Secretary of Labor, plan sponsors, plan

fiduciaries, or plan participants and beneficiaries? To what extent are

these documents retained as part of current business practice? What are

the estimated costs of retaining and producing these documents to the

appropriate parties?

(9) How should the insurer calculate the actual return to the plan

for purposes of any disclosure requirement? In particular,

(a) Should the insurer be required to take into account any market

value adjustments, termination expense adjustments, withdrawal charges,

or surrender charges in stating the contract's return?

(b) Should the regulations permit different approaches for

calculating the rate of return for contracts requiring the issuance of

annuities as opposed to those in which benefit payments are made

without the issuance of an annuity?

(c) Should the regulations require that dividends that are

anticipated or declared buy not yet paid, be included in determining

the contract's return?

(d) To what extent should the regulations permit the return to be

reported on a gross basis (i.e., before expenses or charges)?

(10) Under what circumstances would regulations requiring

disclosure of the contractholder's return apply to general account

contracts before the end of the 18 month period following the issuance

of the final regulations?

Market Value Adjustments Upon Termination of General Account Contracts

(1) In what ways is discretion exercised by insurers under general

account contracts in imposing market value adjustments or in

determining the amount of such adjustments?

(2) What standards should the Department adopt to assure that

market value adjustments reflect market conditions at the time of

contract termination?

(3) Should the Department require general account contracts to set

forth in ``plain English'' the method for calculating market value

adjustments that can be objectively verified by the contractholder

pursuant to standards set forth in the contract? In this regard, should

the Department require that the method used for calculating market

value adjustments only use parameters that can be independently

verified by the contractholder?

(4) Should the Department limit or forbid the imposition of

termination expense adjustments, withdrawal charges, or surrender

charges pursuant to general account contracts?

(5) Under what circumstances should regulations regarding market

value adjustments and other termination charges be applicable to

general account contracts prior to the end of the 18 month period

following the issuance of the final regulations?

State Regulatory Requirements

(1) To what extent do State regulatory requirements parallel or

conflict with some or all of the requirements imposed by section 1460

of Pub. L. 104-188?

(2) Should the Department of Labor regulation take into account any

State regulatory requirements that serve as a protection to

contractholders? If so, please describe the nature of such requirements

and the state's enforcement mechanism to assure compliance with such

requirements.

Impact on Small Entities

(1) In responding to the questions above, please address the

anticipated annual impact of any regulatory proposals on small

insurers, (insurers with annual receipts of less than $5 million, see

Small Business Administration Size Standards, 61 FR 3280, Jan. 31,

1996) and small plans, (plans with fewer than 100 participants).

(2) Statistically, what are the sizes of the plans using insurance

company general accounts? What is the volume of assets held in these

accounts, and what percent is held by small plans? Is there an estimate

of how many small plans may be affected by the regulations?

(3) How many small insurance companies offer products that may be

subject to the regulations? Is there an anticipated effect on those

small companies' competitiveness due to such a regulation?

(4) What would be the most economical and efficient method of

compliance with the requirements imposed by the amendment for small

insurance companies?

(5) In responding to the questions above, please state whether the

insurance companies' costs of complying with any regulatory proposals

are likely to be passed on to the contractholders. If so, what are the

projected costs? Are large insurance companies more likely to absorb

the costs, leaving their contractholders in better positions? If costs

are passed on, will small plans be able to absorb the increase?

(6) How can the disclosed materials be provided in formats useful

to small plans? How can these materials be structured in ``plain

English,'' or must they require the assistance of professional service

providers to be valuable?

Miscellaneous

(1) The regulations will apply only to ``policies which are issued

by an insurer on or before December 31, 1998.'' To what extent should

the regulations treat pre-existing policies which are amended after

December 31, 1998 as policies issued on or before December 31, 1998?

(2) To what extent should the Department regulate transactions

between the insurer and its subsidiaries; between the insurer and

entities in which the insurer's officers or directors have a financial

interest?

(3) To what extent can insurers exercise discretion to the

detriment of plan contractholders in the allocation of income,

expenses, dividends, and other financial costs and benefits? How should

a limitation on that discretion be formulated? For example, should the

Department require that income, expenses and surplus be allocated in a

manner directly proportionate to the plan's actual contribution to each

of these categories?

(4) What constraints, if any, should be placed on insurers' ability

to unilaterally amend contract terms which affect the value of the

plan's policy (e.g., terms concerning minimum interest rate guarantees,

expense charges, and annuity purchase rates)?

(5) Do insurance companies and persons engaging in transactions

with such companies believe that guidance is necessary regarding which

general account contracts constitute ``guaranteed benefit policies''

within the meaning of section 401(b)(2) of ERISA in light of the Harris

Trust decision? In this regard, what types of policies raise

significant issues post Harris?

All submitted responses and comments will be made a part of the

record of the proceeding referred to herein and will be available for

public inspection.

Signed at Washington, DC this 20th day of November, 1996.

Olena Berg,

Assistant Secretary, Pension and Welfare Benefits Administration, U.S.

Department of Labor.

[FR Doc. 96-30030 Filed 11-22-96; 8:45 am]

BILLING CODE 4510-29-M