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Jon W. Breyfogle, Esq.
Groom Law Group, Chartered
1701 Pennsylvania Avenue, NW
Washington, D.C. 20006-5893
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Dear Mr. Breyfogle:
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This is in response to your request as to whether
certain group annuity contracts would satisfy the definition of a “guaranteed
benefit policy” contained in section 401(b)(2) of the Employee
Retirement Income Security Act of 1974 (ERISA).
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The contracts to which your request relates are group annuity contracts
issued to defined benefit and defined contribution plans that are subject to
ERISA (“contractholders”). Your request describes two classes of such
group annuity contracts (Group Annuity Contracts). The first class of Group
Annuity Contracts provides for one (or a very few) guarantee period(s) and
terminates on the last maturity date. The second class of Group Annuity
Contracts operates for an indefinite period, although guarantee periods
mature under the terms of such Group Annuity Contracts. These guarantee
periods are of indefinite number. Further, the second class of Group Annuity
Contracts is terminated by the independent action of the contractholder, and
not as a result of reaching a maturity date.
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Both classes of Group Annuity Contracts provide for a specified rate of
guaranteed interest for fixed periods. Principal and guaranteed interest may
be withdrawn at book value on the maturity date of each guarantee period or
for the payment of benefits upon certain events known as “Benefit Events”.
Benefit Events include termination of employment, retirement, disability or
death as permitted under the plan that is being funded by the Group Annuity
Contract. You represent that the Group Annuity Contracts, irrespective of
class, operate as a bundle of guaranteed interest contracts with different
maturity dates. Guarantee periods under the Group Annuity Contracts are
always issued for a fixed number of years that is agreed to in advance by
the contractholder. Generally, guarantee periods are for two, three, five or
seven years. No guarantee period is offered for a period of less than two
years.
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You represent that amounts deposited under the Group
Annuity Contracts are invested in a guaranteed interest contract (GIC)
option supported by the insurer’s general account assets. Once the
maturity date and the interest rate is set for a GIC option, the interest
rate and maturity date cannot be changed throughout that GIC option’s
guarantee period. The entire amount of the amount deposited and interest
credited is guaranteed throughout the guarantee period. You represent that
no non-guaranteed or excess interest is credited under the contracts.
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You represent that guaranteed interest rates are established under one of
two methods. Under the first method, the interest rate is set in advance of
the guarantee period, and contributions may be made to the selected GIC
option(s) throughout a defined period of no more than a year (Deposit Year).
Under the second interest method, the participant or contractholder elects a
guarantee period. Each deposit made during a Deposit Year is credited with
the interest rate in effect on the date that deposit is received. This rate
is made available in advance and cannot be changed throughout the entire
guarantee period. At the end of the Deposit Year, the account receives a
composite guaranteed rate that is determined using the weighted average of
all deposits made during the Deposit Year. This composite guaranteed rate is
guaranteed for the remainder of the guarantee period.
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At the maturity date, participants or the contractholder (as appropriate
under the plan and Group Annuity Contract) may transfer the value of the GIC
option to other investment options available under the Group Annuity
Contract or withdraw amounts from the Group Annuity Contract entirely.
Amounts subject to transfer or withdrawal would consist of principal plus
interest, without the imposition of either a market value adjustment (MVA)
or withdrawal charge. Alternately, the participant or contractholder may
elect to invest in a subsequent GIC option subject to a new fixed guarantee
period with a new fixed guaranteed interest rate.
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You represent that the Group Annuity Contracts provide
the contractholder with the right to convert all or part of the Group
Annuity Contracts’ value to annuities for the payment of benefits. The
insurer cannot unilaterally take away the right to purchase annuities. The
Group Annuity Contracts set forth a schedule of guaranteed annuity purchase
rates. In the event the contractholder elects to purchase one or more
annuities for one or more participants or beneficiaries, the Group Annuity
Contracts provide that the insurer will make available its then-current
guaranteed annuity rates for that class of Group Annuity Contracts, if those
rates are better than the guaranteed purchase rates.
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You represent that meaningful base annuity rates are guaranteed for each GIC
option started during the initial five years that the Group Annuity Contract
is in effect. Thereafter, the insurer may prospectively change the annuity
rate guarantees applicable only to future guarantee periods. Any new annuity
rate guarantees will be permanent only for guarantee periods started while
the annuity rate guarantee is in place, and annuity rates may be changed no
more frequently than every five years.
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You represent that participants may withdraw or transfer the value of the
GIC options before the end of a guarantee period. Participant withdrawals
for Benefit Events are always made at book value. While most Group Annuity
Contracts are “benefit responsive” (i.e., they provide book value
withdrawals upon Benefit Events), a few Group Annuity Contracts are not. A
contractholder may negotiate with the insurer so that its Group Annuity
Contract is not benefit responsive and, in return, may obtain a higher
interest rate for the plans and the participants. Amounts transferred or
withdrawn by participants for non-Benefit Events from a GIC option prior to
the end of the guarantee period may be subject to a negative one-way MVA.
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You represent that the contractholder also may have
similar authority and can elect to terminate the Group Annuity Contracts
and withdraw amounts in a single sum. Contractholder withdrawals from a
GIC option in a single sum prior to the end of the relevant guarantee
period may be subject to a negative one-way MVA. Alternatively, a
contractholder who elects to terminate a contract may elect at the time of
termination to hold amounts in the GIC options until the end of the
guarantee periods and withdraw the amounts at book value.
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You represent that the MVA formula and a description of the methodology used
to determine the MVA are set forth in the Group Annuity Contracts. The
insurer may not change the MVA formula or description of the methodology for
any guarantee period that has already been established under the GIC option.
The MVA may be changed for future guarantee periods with 60 days advance
notice to the contractholder. Thus, the contractholder will have an
opportunity to withdraw before the changed MVA takes effect. Before making
an early withdrawal or transfer (i.e., prior to maturity date), the
contractholder or participant may obtain an estimate of the amount of any
MVA from the insurer. The amount of any particular MVA, however, would
likely be different for different guarantee periods because of the different
interest rates applicable to each guarantee period. Whether to make an early
transfer or withdrawal that is subject to an MVA is solely the decision of
the contractholder or participant.
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You represent that, in addition to the MVA, the Group Annuity Contracts may
place some modest limitations on withdrawals. In the event of unstable or
disorderly market conditions, the insurer may delay payments not related to
Benefit Events or annuity purchases for up to 270 days. This provision has
never been utilized in the history of the company. You represent that an
additional limitation may be placed on contractholders who want to transfer
or cash out more than $25 million in a 12-month period. This right has never
been utilized in the history of the insurer, and only the largest of the
insurer’s customers would ever be subject to this potential limitation.
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You represent that, under some Group Annuity Contracts,
contractholders may enter into a separate written service agreement with
the insurer to provide administrative and recordkeeping services to the
plan. This service agreement specifies the nature of the services and
applicable fees. Under these agreements, the contractholder may pay
administrative and recordkeeping expenses directly to the insurer or may
elect to have all or a part of the administrative and recordkeeping
expenses paid from the Group Annuity Contract. At the election of the
contractholder, these amounts may be deducted in the form of a charge
allocated to each participant account or all (or part) of the charges may
be deducted from the investment returns credited to the GIC option.
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As provided in the Group Annuity Contracts and relevant
service agreements, the insurer may propose increases in administrative
and recordkeeping expenses, subject to at least 30 days advance notice. If
the contractholder does not agree to the proposed increase, the
contractholder may withdraw amounts in a GIC option subject to the MVA.
However, the contractholder may keep amounts invested in a GIC option
until the end of the guarantee period, during which time no expense
increase will apply.
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You have requested guidance on whether the Group
Annuity Contracts, as described above, qualify as “guaranteed benefit
policies” within the meaning of ERISA section 401(b)(2).
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Section 3(21) of ERISA provides that a person is a
fiduciary with respect to a plan to the extent they exercise any
discretionary authority or control respecting the management or
disposition of the assets of the plan. Section 404(a)(1) of ERISA provides
that fiduciaries must discharge their duties with respect to the plan
prudently and solely in the interest of the participants and
beneficiaries. Section 406 of ERISA provides, in part, that a fiduciary
with respect to a plan shall not cause the plan to engage in a transfer
to, or use by or for the benefit of, a party in interest, of any assets of
the plan and that a fiduciary shall not deal with the assets of the plan
in his own interest or own account or act in a transaction involving the
plan on behalf of a party whose interests are adverse to the interests of
the plan.
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The application of sections 404 and 406 of ERISA will
depend on the extent to which fiduciaries and parties in interest with
respect to the plans deal with plan assets. Section 401(b)(2) of ERISA
provides that in the case of a plan to which a guaranteed benefit policy
is issued by an insurer, the assets of such plan shall be deemed to
include such policy, but shall not, solely by reason of the issuance of
such policy, be deemed to include any assets of such insurer. For purposes
of this provision, the term “guaranteed benefit policy” means 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.
Such term includes any surplus in a separate account, but excludes any
other portion of a separate account.
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The Supreme Court addressed the meaning of “guaranteed
benefit policy” in its decision in John Hancock Mutual Life Insurance
Co. v. Harris Trust & Savings Bank.(1)
In that decision, the Court held that a contract qualifies as a guaranteed
benefit policy only to the extent it allocates investment risk to the
insurer. Specifically, the Court indicated:
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[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.(2)
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Applying the principles set forth by the Supreme Court,
group annuity contracts, such as those described above, that provide for
reasonable rates of return (taking into account any fees and costs charged
against the contract), guaranteed for fixed periods, as well as a right to
convert the funds into annuities at the guaranteed annuity purchase rates
set forth in the contract, would, in the absence of other guidance, appear
to constitute “guaranteed benefit policies” within the meaning of
section 401(b)(2) of ERISA. This result would not, in our view, be altered
by a prospective change by the insurer in annuity rates or in
administrative expenses that could be paid from the guaranteed portion of
the contract where there has been full disclosure to the contractholder
regarding such change and the contractholder has the opportunity to
withdraw before such change take effect.(3)
This result would also not be altered by the inclusion of a market
value adjustment for withdrawals before the end of the guarantee period
where such market value adjustment formula accurately reflects the effect
on the value of the contract's accumulation fund (aggregate net
considerations credited to the contract) of its liquidation in the
prevailing market for fixed income obligations taking into account the
future cash flows that were anticipated under the contract, and the
methodology used to determine the market value adjustment is fully
disclosed in the contract and not subject to change for the guarantee
period.
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In addition, we note that no presumption should be
drawn, from the limited interpretive guidance provided by this letter,
regarding the status of other insurance policies under section 401(b)(2)
of ERISA. We hope this information is of assistance to you.
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Sincerely,
Louis Campagna
Chief, Division of Fiduciary Interpretations
Office of Regulations and Interpretations
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510 U.S. 86 (1993).
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510 U.S. at 106.
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If a plan offers only a lump sum
payment option for distribution, this result would also not be altered
because a group annuity contract does not provide for the right to
convert to an annuity.
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