United States: Another Swing In DOL Investment Position

Seyfarth Synopsis:  Reminiscent of the DOL's about-face on ESG investing by ERISA fiduciaries [discussed  here], on December 21st the DOL issued a "supplemental statement" on its view of the use of private equity investments in participant-directed retirement plans, such as 401(k) plans. 

As a refresh, in June 2020 the DOL issued an Information Letter to two private equity firms that sanctioned the use of private equity investments as a component of certain designated investment alternatives, such as professionally managed target date funds and balanced funds, offered to participants in individual account plans. The firms represented that including private equity as a component of a larger managed fund allows participants access to equities outside of publicly traded securities with a potential of larger returns. The requestors also indicated that plan fiduciaries were concerned about liability for including private equity even where they believed the investment was prudent. In response to the request and representations, and recognizing the difficulties inherent in private equity with liquidity and valuation, the DOL nonetheless concluded that "a plan fiduciary would not, in the view of the Department, violate the fiduciary's duties under section 403 and 404 of ERISA solely because the fiduciary offers a professionally managed asset allocation fund with a private equity component as a designated investment alternative for an ERISA covered individual account plan in the manner described in this letter."

Fast forward a year and a half, and under a new Administration, the DOL has seen the need to issue a supplemental statement out of a concern that the Information Letter could be marketed as endorsing the use of private equity investments. The DOL stated that it has received considerable feedback from a number of stakeholders regarding the Information Letter. It also noted that after its issuance of the Information Letter, the SEC had issued its own "Risk Alert" that highlighted compliance issues discovered in examinations of registered investment advisors that manage private equity funds. In response, the DOL felt the need to issue the supplemental statement so that the Information Letter is not misread as suggesting that private equity "as a component of a designated investment alternative — is generally appropriate for a typical 401(k) plan."

The DOL is now emphasizing its concerns with adequate disclosure and valuation of private equity. It also stresses the importance of obtaining assistance from a qualified investment adviser where the responsible fiduciary does not have the skills, knowledge and experience to evaluate the prudence of the private equity component and the continual monitoring of such an investment. The DOL further notes that the Information Letter should be read in the context of use of private equity investments in a defined contribution plan where the sponsor also offers a defined benefit plan that uses private equity. Finally, the DOL states its own concern that fiduciaries of small plans will not typically have the expertise in private equity to be able to make the evaluation and monitoring determinations needed to make a prudent decision.

Bottom line: Offering a private equity component in a designated investment alternative in a participant-directed retirement plan is not endorsed by the DOL. Such an offering should be limited to one within a large plan, that perhaps parallels investments in a companion defined benefit plan, and the risks of which have been vetted (and are continually monitored) by sophisticated plan fiduciaries with investment experience in private equity.