The basic exclusion rule in the regulation (the
"Exclusion Rule")* says, "[T]he value of any equity interests
held by a person (other than a benefit plan investor) who has discretionary
authority or control with respect to the assets of the entity or any person who
provides investment advice for a fee (direct or indirect) with respect to such
assets, or any affiliate of such a person, shall be disregarded." 29 C.F.R. § 2510.3-101(f)(1). Thus, on the face of it, you take investment
into account (i.e., include the investment in the denominator (and the
numerator)) unless the amounts invested are assets of the manager or its
affiliates. Further, it's arguably
pretty clear that an investor does not become an "affiliate" of its
manager merely because some of its assets are under the control of the
manager. Thus, the assets in the managed
separate account of a third-party client of the manager are includible in the
25% calculation, right?
Well, some don't want to leave it there. While I'm not sure how prevalent the discomfort is among practitioners generally, the potential concern as I understand it goes that, in the context of managed separate accounts, the DOL just can't POSSIBLY have meant only THAT. The idea, supposedly, is that a rule that would permit a managed separate account under the control of the manager to count favorably under the 25% test would allow for manipulation by the manager.
Well, some don't want to leave it there. While I'm not sure how prevalent the discomfort is among practitioners generally, the potential concern as I understand it goes that, in the context of managed separate accounts, the DOL just can't POSSIBLY have meant only THAT. The idea, supposedly, is that a rule that would permit a managed separate account under the control of the manager to count favorably under the 25% test would allow for manipulation by the manager.
Well, to me, as written, the rule simply isn't worried
about that particular kind of manipulation.
It's worried about the use of one's own money to spike the test. And that's a perfectly logical place to draw
the line. If I'm managing $100 of plan
money, maybe I shouldn't be able to throw $301 of my own money into the pot and
now assert that I'm not a plan fiduciary.
I get that.
The stakes, however, are entirely different when it comes
to managed money. If I put $301 of
someone else's money into a vehicle with $100 of plan money, I really do have a
pot of managed money that is less than 25% plan. Thus, given the principles underlying the 25% test, see 50 Fed. Reg. 961, 966 (Jan. 8, 1985) ("[I]t is reasonable to conclude that no special solicitation of investments by [benefit plan] investors has been made and that there is no substantial expectation that the assets of the entity will be managed in furtherance of the investment objectives of the plan ivestors."); see also 51 Fed. Reg. 41262, 41269 (Nov. 13, 1986) ("[I]n such circumstances the manager of the fund is likely to take the objectives of the investing plans into account in making investment decisions for the fund."), it seems perfectly
reasonable to me to conclude that the entity is a nonplan-assets entity, notwithstanding that the manager is the one who directed the
nonplan money into the entity.
Simply put, on some level, there's plainly a huge difference between my money and (with apologies to Danny DeVito) Other People's Money.** I can do whatever I want with my money, with
impunity; but if I'm a manager and I decide to spike a fund with my clients'
money just to beat the 25% test, I've got people - clients - to whom I may well
have to answer.*** Now, does that mean I won't (like Rob Schneider, perhaps)
behave badly? Does it mean I won't try
to spike the fund with client money? Not
necessarily, I acknowledge, but that's not my point. My point is that the situation in which I use
my own money is at base distinguishable from the situation in which I use
client money, and that the DOL could have excluded, and, I maintain, plainly
did exclude, investment only in the former case, not in the latter. Could the DOL, when crafting the Exclusion Rule, have reasonably
excluded both kinds of investment? Sure! It's just that, as I read the words on the
page, the DOL just simply didn't.
Further to the point, if the DOL really were after
controlled assets, they surely could have found words that are more
straightforward to have gotten them there.
To wit, as one simple example, they could have so easily said, "[t]he
value of any equity interests held **or managed** by a person . . . who has
discretionary authority or control with respect to the assets of the
entity."
It is worth pointing out in this regard that the DOL is
no stranger to identifying control concepts expressly, where it wishes to use
them. Such concepts are all over the
Plan Assets Regulation. The VCOC/REOC
rules are loaded up with rules informed by control-type notions that focus on
"influence". And the rules
governing the 25% test themselves specifically use the "control"
concept in the definition of "affiliate" applicable for these
purposes. And, yet, one finds neither
hide nor hair of the control/management concept in the operative provisions of
the Exclusion Rule.
So where do people go to conclude that exclusion of
merely managed assets is called for under the 25% test? Some find it buried in another concept, the
concept of assets "held." The
idea, so the argument goes, is that when the reg. says that money
"held" by the manager (or an affiliate) is excluded it extends so as
to include assets other than the manager's (or its affiliate's) that are
controlled by the manager (or its affiliate).
I would suggest that that's quite a stretch. Do we really believe that a natural reading
of "held" really gets you there?
If one weren't trying to shoehorn the words of the rule into an adverse
result, would one really read the phrase "assets held by the manager"
as including assets over which the manager has mere discretion? Would one think that, without any indication
thereof, the DOL used the "held" concept to convey mere
management?****
It turns out that, just as one finds neither hide nor
hair of the control/management concept in the operative rule excluding manager
assets from the 25% calculation, one finds nary a hint of such a major
interpretive result in either of the two extremely detailed preambles. Indeed, if there is indeed any indication in
the preambles, the indication pushes you away from managed money and over to
proprietary money, in terms of identifying what's excluded, arguably belying an
expansive view of "held."*****
The '85 proposed preamble says: "The Department
intends that only the interests OF those who are independent of the management
of an entity would be taken into account for purposes of the test. . . . THUS, . . . equity interests . . . held by a
person (other than a benefit plan investor) who would be a fiduciary if the
assets were considered to include plan assets, and any equity interest held by
an affiliate of such a person, are to be disregarded." 50 Fed. Reg. at 966 (emphasis added). Then, maybe more
tellingly, in the '86 preamble, addressing a particular commentator's point,
the DOL said: "Some commentators also objected to the exclusion of equity
interests OWNED by the entity manager (or its affiliates) . . . . The Department has . . . concluded that it is
necessary . . . disregard investments BY the entity's managers and their
affiliates for purposes of applying the test.
In the Department's view, without THESE restrictions the test could easily
be manipulated . . . , even where plans provide a substantial degree of the
entity's capital and constitute most of the OUTSIDE investors in the
entity. None of the comments suggested
ways of avoiding THIS potential for manipulation." 51 Fed. Reg. at 41269 (emphasis added).******
It's interesting, at the very least, that, to the extent there are indications of meaning, those indications seem to cut the other way - in favor of the more natural concept of owned money. Again, the point here is not to make the case that the DOL could not have reasonably included merely controlled (as opposed to proprietary) money; the point is that they didn't (regardless of what they might say now if asked).******* I would suggest that there are many examples throughout the law where prop. money is treated differently than managed money. That's a valid distinction and one, I am submitting here, that's been drawn in this case.********
Happy Holidays!
_________
* I guess I could define it as the "Exclusionary
Rule," but that could get confusing, couldn't it?** Cf. Adv. Opn. 2003-15A (Nov. 17, 2003) ("Although Mellon would hold more than fifty percent of the value of the CIV interests, it would hold such interests on behalf of the Verizon Plans, not on behalf of itself or a third party."); Adv. Opn. 80-67A (Nov. 13, 1980) ("Ownership of 50 percent or more of an interest in an entity which interest is legally owned by a Company and allocated to a separate account for the benefit of employee benefit plans holding separate account contracts under which the results of . . . investment experience are credited or charged, directly and fully, to the accounts of participating plans does not cause the entity to be a party in interest . . . because the ownership interest in the entity is a plan asset the investment experience of whic is directly allocated to participating plans. Similarly, [such] an interest . . . does noy cause the entity to become an affiliate of the Company for purposes of Prohibited Transaction Class Exemption 78-19.").
*** As Ricky might have said, "Luceeee, you've got some 'splainin' to do!"
**** Presupposing what the words must mean in order to give them meaning contrary to their plain meaning reminds me of efforts to use legislative history to find meaning in operative language that just isn't there. There is an old witticism that may be paraphrased as decrying an inclination to look to the statute only when the legislative history is unclear. See Greenwood v. United States, 350 U.S. 366, 374 (1956) (Justice Frankfurter quipping, ‘‘This is a case for applying the canon of construction of the wag who said, when the legislative history is doubtful, go to the statute’’); see also Easterbrook, ‘‘Challenges in Reading Statutes,’’ (Sept. 26, 2007) (presented at a dinner talk for the Lawyers Club of Chi.) (‘‘The canonical way to [look for legislative intent] was to look at what legislators said — at legislative history. One wag — who happened to serve on the Supreme Court — quipped that the judge would turn to the statute only when the legislative history was unclear’’); Scalia, A Matter of Interpretation: Federal Courts and the Law 31 (Princeton Univ. Press 1997) (joking that ‘‘one should consult the text of the statute only when the legislative history is ambiguous’’).
***** Further, are we supposed to look to the form of the management arrangement as a salient factor? If a manager doesn't take custody of or otherwise have signing authority over assets, but rather just tells a third party (e.g., a trustee or other custodian) where to invest, is that no longer a "hold" situation? That would seem to me to be a pretty odd basis on which to apply (or not apply) the Exclusion Rule. For that matter, do we think, if that's really how the "hold" question should be analyzed, that we reach (and exclude assets held by) affiliated nondiscretionary custodians? (Boy, I sure hope not.)
****** One taking a position contrary to mine, and trying to narrow the meaning of the preamble passages, might argue that, especially in the '86 preamble, the DOL may well have been speaking to a specific point - exclusion of prop. money - in the quoted language. Viewed in that light, the preamble does not necessarily throw off a negative implication that merely managed money is included, and maybe the preamble simply doesn't address the managed-money scenario. I have two responses. First, I disagree with the premise underlying the foregoing, and believe that the DOL's comments do support the view that the Exclusion Rule does not apply to managed third-party money. Second, as indicated above, at a minimum there's no indication that, through the simple use of the word, "held," the DOL intended the major substantive result of excluding managed money (something to which they easily could have gotten with a straightforward "managed" or "controlled" reference).
******* I'm aware that there were early incarnations of the PPA in which it was proposed that the "hold"/"own" question would be clarified in favor of "own," and that these proposals fell out of the legislation, maybe even with the support of the DOL. Some might argue that the eventual deletion is evidence that Congress was OK with having the DOL extend the Exclusion Rule to managed assets. But I would submit that it's not like the provision was a high-profile proposal that was rejected, in a way in which one could reasonably characterize Congress as having decided to leave "hold" alone implicitly because it felt that "hold" meant something other than "own." Rather, the provision was rejected at a relatively early stage. Further, and maybe moreover, this is not a provision where Congress rejected a proposed change to its own legislation, which might indicate an implicit view of what the legislation means. Rather, what we had here was the deletion from a bill of an unusual attempt to ask Congress to second-guess the nomenclature of a regulation. (Interestingly, Section 3(42) as enacted did ultimately countermand the DOL on the question of who's included as a "benefit plan investor.") Frankly, turning the tables a bit, I'd argue that a basis for dropping the provision from the PPA was that the regulation already meant what the unnecessary proposed legislative language said.
******** Before leaving this topic, it's worth exploring this question where there is investment not from managed separate accounts, but rather from actual discretionary entities controlled by the same manager (or an affiliate)? From a policy perspective, if it is OK not to exclude investment from a managed separate account, shouldn't it also be OK to exclude investment from a controlled investment fund? Well, maybe, but the controlled investment fund is, for me, a trickier question, because the regulatory words on the page relating to "affiliates" may be more directly implicated in the case of a commonly controlled entity. It seems possible to me that the rules on their face confer an overbroad result as applied to controlled entities, notwithstanding that the result for managed separate accounts may be inconsistent with the result for controlled entities. Stated another way, just because the words used by the DOL may under certain facts run against the underlying policy and cause controlled investment funds to be excluded doesn't mean that one should conclude that there's an adverse result in the case of managed separate accounts. Having said all that, it is noted in this regard that a certain June 25, 2004 request for an Advisory Opinion argues that a manager's other investment funds, even where where actively managed, may not need to be excluded for purposes of applying the 25% limitation.
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