Fiduciary Implications of Pension Plan Annuity Purchases

by and | Apr 17, 2018

With the growing number of annuity purchases taking place in the market today, it is imperative that plan sponsors understand the fiduciary implications for implementing this de-risking strategy.

Annuity purchases have become a major pension plan de-risking strategy employed by many plan sponsors over the last five years. What used to be a $2 billion annual business has now skyrocketed to over $13 billion in 2015 and 2016 and is $24 billion for 2017. The chart below shows the historical annuity purchase amounts by year, and excludes the $33 billion purchases made by GM and Verizon in 2012.

For additional background on what annuity purchases are and why they’ve become popular, see our three part article series (Part 1, Part 2, Part 3).

Fiduciary Considerations

As mentioned in Part 3 of our annuity purchase article series, selecting an annuity provider for any type of pension plan annuity purchase is a fiduciary responsibility that the plan sponsor must take very seriously.  In 1995, the Department of Labor published Interpretive Bulletin 95-1, which “provides guidance concerning certain fiduciary standards … applicable to the selection of an annuity provider for the purpose of benefit distributions from a defined benefit plan … when the plan intends to transfer liability for benefits to an annuity provider.”

Commonly referred to as DOL 95-1, the bulletin explains that selecting an insurer to transfer benefit liabilities is a fiduciary decision (this point is also reiterated in the new DOL fiduciary regulations – see below). As such, plan fiduciaries must act in the best interest of plan participants in selecting the insurer that can provide the “safest annuity available.” DOL 95-1 also requires that plan fiduciaries “conduct an objective, thorough, and analytical search for the purpose of identifying and selecting providers from which to purchase annuities.”

The DOL’s 95-1 procedures provide a framework for fiduciaries to evaluate potential insurers capable of providing the safest annuity available. The framework consists of:

  • Conducting an objective, thorough, and analytical search
  • Evaluating a number of factors related to an annuity provider’s claims paying ability and creditworthiness
  • Relying on insurance rating agency services not being a sufficient analysis

It should be noted that after a fiduciary has gone through their due diligence they may conclude that more than one insurer is able to offer the safest annuity available.

Most plan fiduciaries will not have the in-house expertise to analyze the various criteria specified in DOL 95-1 and will need to rely on an independent party to make the determination as to whether or not an insurer clears the 95-1 hurdle.

The New Fiduciary Rule

Since issuance the new Fiduciary Rule regulations have faced legal and political challenges to its expansion of what constitutes a fiduciary.  Regardless, the ”Rule” provides important instruction on DOL thinking and most guidance suggests that service providers should continue on as if the Rule were fully effective.

The Rulemaking Background section of the new fiduciary regulations points out that one of the flaws with prior fiduciary regulations was that advice had to be furnished on a “regular basis.” That meant that for one-time projects, such as a pension plan annuity purchase, the advice of an independent expert would not have rendered the expert a fiduciary. The background section continues by specifically calling out pension plan annuity purchases as a reason why new regulations were needed:

“A specific example is the one-time purchase of a group annuity to cover all of the benefits promised to substantially all of a plan’s participants for the rest of their lives when a defined benefit plan terminates … Despite the clear importance of the decision [sic] and the clear reliance on paid advisers, the advisers would not be fiduciaries.”

The new regulations make clear that advising on annuity purchases is a fiduciary action. The new definition of Investment Advice includes the following:

  • A recommendation as to the advisability of acquiring, holding, disposing of, or exchanging securities or other investment property.
  • Recommendations with respect to rollovers, transfers, or distributions from a plan or IRA, including whether, in what amount, in what form, and to what destination such … distribution should be made.
  • Providing a selective list of securities to a particular advice recipient as appropriate for that investor would be a recommendation as to the advisability of acquiring securities even if no recommendation is made with respect to any one security.

These specific points make it clear that any adviser assisting a plan sponsor regarding an annuity purchase is almost always going to be acting in a fiduciary role – whether they say they are or not. By advising a plan sponsor on the selection of an annuity provider, an adviser is clearly providing Investment Advice as defined in the new regulations.

So what does this mean for plan sponsors? Plan sponsors will want to ensure that their advisers acknowledge their role as a fiduciary in the annuity purchase process. Gone are the days when an adviser can claim they are only advising the settlors on the annuity purchase decision and at the same time run the annuity purchase bid process, select independent experts to qualify potential insurers as meeting the standards of DOL IB 95-1, assess the state guarantees, and provide recommendations on the disposition of plan assets to an insurer to transfer liabilities.

If your advisers do not or will not acknowledge their fiduciary responsibilities in these transactions you need to ask yourself whether or not you have the right adviser.

Charlie Cahill

Managing Director
Bio: Click Here

Michael Clark

Bio: Click Here


SECURITY INDICES: This presentation includes data related to the performance of various securities indices.  The performance of securities indices is not subject to fees and expenses associated.  Investments cannot be made directly in the indices.   The information provided herein has been obtained from sources which River and Mercantile LLC believes to be reasonably reliable but cannot guarantee its accuracy or completeness.

CONFIDENTIAL:  For addressee use only, not to be disclosed to any other person without express consent from River and Mercantile LLC.  Past performance cannot be relied upon to predict future results.  River and Mercantile LLC is an investment advisor registered with the US Securities and Exchange Commission.

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