Are You a QPAM?
Art by Tim Bower
Fiduciaries of plans governed by the Employee Retirement Income Security Act (ERISA), who hire advisers to manage plan assets on a discretionary basis, rely on these advisers to avoid engaging in transactions that are prohibited under ERISA Section 406(a). Advisers should, therefore, look to complying with applicable prohibited transaction exemptions (PTEs). One particularly helpful exemption is the qualified professional asset manager, or QPAM, exemption. Advisers should understand the nuances of the QPAM exemption and, first and foremost, confirm they are indeed one of these managers as the exemption defines.
As a reminder, Section 406(a) states that a plan fiduciary should not cause a plan to enter into certain enumerated transactions with a party in interest. These prohibited transactions include, for example, the sale or exchange, or leasing, of any property; the lending of money or other extension of credit; and the transfer to, or use by or for the benefit of, a party in interest, of any assets of the plan. A party in interest is broadly defined to include, among other things, a plan service provider—e.g., a broker/dealer (B/D), trustee or custodian—a plan fiduciary, an employer sponsoring the plan, employees covered by the plan, and certain related persons and entities.
The bottom line is that an adviser should be aware that almost any transaction between a plan and another party could be prohibited under Section 406(a). However, the good news is that the QPAM exemption provides broad exemptive relief so long as the adviser meets the exemption’s conditions. As a threshold matter, the adviser firm must be able to demonstrate that it is a qualified professional asset manager as defined in the exemption.
The exemption provides that a qualified professional asset manager includes a bank, as defined in Section 202(a)(2) of the Investment Advisers Act of 1940 (Advisers Act), that has equity capital in excess of $1 million. Also included is an insurance company that is subject to the insurance laws of more than one state, further subject to examination by at least one state insurance regulator, and that has a net worth in excess of $1 million. The bank and insurance company must have the power to be in the business of managing, acquiring or disposing of assets of a plan. Additionally, a QPAM may be an investment adviser, registered under the Advisers Act, that has total client assets under its management and control in excess of $85 million, and shareholders’ or partners’ equity in excess of $1 million. The regulators, as applicable, should be overseeing the firm’s asset management activities.
The Department of Labor (DOL), in issuing the QPAM exemption, purposefully included the above-described regulatory, assets under management (AUM) and control, and capital requirements in the exemption’s definition of QPAM. These requirements are designed to ensure that the bank, insurance company or investment adviser’s investment activities are under the supervision of applicable regulators and that the entities have the level of sophistication necessary to enter into otherwise prohibited transactions. Further, the DOL believes such entities are more likely to have the financial wherewithal to pay losses to the plan in the event they breach their fiduciary duties under ERISA.
Importantly, advisers should be careful in evaluating whether they indeed fall into the definition of a QPAM. There are instances where this may not be the case. For example, while investment advisers may meet the $85 million assets under management and control requirement, they do not always meet the equity requirement. Additionally, it’s difficult for non-U.S. advisers to fall within the definition of a QPAM, because they are not regulated by U.S. federal or state law as set forth in the QPAM definition. In some instances, an adviser who otherwise might be a QPAM cannot rely upon the exemption because the entity or an affiliate has been convicted of certain crimes.
In summary, discretionary advisers should look to their compliance policies and procedures to determine how they address Section 406(a) prohibited transactions and whether they’ve been relying on the QPAM exemption or whether they should utilize it. However, the adviser must meet the conditions of this exemption.
David Kaleda is a principal in the fiduciary responsibility practice group at Groom Law Group, Chartered, in Washington, D.C. He has an extensive background in the financial services sector. His range of experience includes handling fiduciary matters affecting investment managers, advisers, broker/dealers, insurers, banks and service providers.