401k

Keep Private Equity out of 401(k) Target Date Funds

/ ChrisTobe / Leave a comment

Over half of all 401(k) assets are invested in Target Date Funds (TDFs), the default investment for most workers. Proposals to embed 15% allocations to private equity (PE) in these TDFs raise severe fiduciary, legal, and policy concerns.

Private equity’s opaque self-valuations, smoothed returns, and layered fees (≈600 bps) make it wholly unsuitable for retirement savers—particularly in default funds where workers have no choice. This is not innovation; it is regulatory arbitrage designed to funnel billions in hidden fees out of participant accounts.

Key Findings

1. Fees 100x higher than index funds.

  • PE all-in costs: ~6.0% annually (Phalippou 2020).
  • Index funds: 0.03%–0.05%.
  • A 15% sleeve adds 0.90% annual drag to the entire TDF—cutting lifetime wealth by 20–25%.

2. Fraudulent return smoothing.

  • PE funds self-price and delay write-downs.
  • Reported volatility and correlations are artificially low.
  • Asset allocation models therefore over-allocate to PE, embedding mispriced risk in retirement glidepaths.

3. Liquidity mismatch.

  • TDFs promise daily liquidity.
  • PE funds lock up capital for 10+ years.
  • Participants could face redemption delays, gates, or markdowns inconsistent with plan representations.

4. Weakest regulator wins.

  • SEC and OCC rules demand transparency and independent valuation.
  • Sponsors are instead turning to state-chartered CITs, where oversight is minimal and disclosure optional.
  • This is textbook regulatory arbitrage.

5. Fiduciary red flags.

  • ERISA requires prudence and reasonable fees.
  • Supreme Court precedent (Tibble; Hughes) obligates ongoing monitoring and removal of high-cost options.
  • Embedding PE in QDIAs (defaults) is especially egregious because workers never affirmatively opt in.

Policy Recommendations

  1. DOL & SEC Joint Guidance: Prohibit private equity allocations in QDIAs until independent valuation and full fee disclosure are mandatory.
  2. State CIT Oversight: Close the loophole by requiring federal standards (SEC/OCC level) for any retirement-plan CIT.
  3. Fee Disclosure Reform: Mandate reporting of all fees, including portfolio company monitoring and transaction charges.
  4. Participant Protections: Require opt-in consent, with plain-English disclosures, before allocating participant funds to PE.

Conclusion

Private equity in 401(k) Target Date Funds is not diversification—it is defaulting American workers into opaque, fee-rich products they cannot understand or escape. This violates fiduciary duty under ERISA and undermines retirement security. Regulators and policymakers should act now to prevent a massive transfer of wealth from retirement savers to private equity sponsors.

4 Sets of Books: How Trump’s 401(k) Push Opens the Door to Accounting Chaos

/ ChrisTobe / Leave a comment

For decades, 401(k) investment accounting lived in a relatively clean world. Most plans are used primarily:

  • One set of books – a portfolio of SEC-registered mutual funds, all marked to market daily; or, around 25% used mark to market for 90% of their options, with perhaps one or 2 stable value options using book value accounting a second set of books.

Now, under Trump’s crypto and private equity in 401(k) push, we are rapidly heading toward four incompatible accounting systems inside the same retirement plan. One accounting standard is essential for transparency and accountability—but the direction we’re heading guarantees neither.

1. Mutual Funds: The Gold Standard of Market Value Accounting

Accounting Standard:

  • GAAP / FASB rules for investment companies, enforced by the SEC.
  • Mark-to-market daily pricing based on observable market prices.
  • Independent custodians and pricing vendors.
  • Audited annual reports with standardized disclosures.

Why It Works:

  • Participants see a daily NAV (Net Asset Value).
  • Prices are transparent, comparable, and difficult to manipulate.
  • Fiduciaries can benchmark performance accurately.

This is the historic standard that most investors think applies to their 401(k) across the board. Unfortunately, it’s only true for the mutual fund portion of a plan.

2. Annuities: Book Value Accounting in the Shadows

Accounting Standard:

  • Statutory accounting under the NAIC Accounting Practices and Procedures Manual.
  • Regulated by a single “cherry-picked” state insurance commissioner—chosen by the insurer, not the plan sponsor.
  • Assets are held at amortized cost or “book value,” not market value.

Key Differences from Mutual Funds:

  • Gains/losses on investments are not reflected daily—only when sold or impaired.
  • Investment returns to participants are set by the insurer’s discretion, often far below what the general account earns.
  • Spread profits (difference between what the insurer earns and what it credits) are not disclosed in plan reports or participant statements.

Fiduciary Implications:

  • Because statutory accounting hides market swings, risk appears lower than it is.

The DOL has largely ignored this space, and litigation has been sparse, focusing mostly on small plans where it’s too costly to sue.  I believe that annuities are prohibited transactions   https://commonsense401kproject.com/2025/06/13/annuities-are-prohibited-transactions-via-chat-gpt/  but I think litigation could be increasing.  https://commonsense401kproject.com/2025/05/10/annuities-flunk-prohibited-transactions-exemption-scotus-ruling-will-open-floodgates-of-litigation/

As I’ve argued before, annuities were the gateway drug that allowed non-standard accounting to creep into 401(k)s【https://commonsense401kproject.com/2025/08/07/trumps-crypto-and-private-equity-in-401k-push-enabled-by-the-gateway-drug-annuities/

3. Private Equity & Alternatives: Mark-to-Make-Believe

Accounting Standard:

  • ASC 820 (Fair Value Measurement) applies, but with a catch—private assets are often valued using Level 3 inputs (unobservable data).
  • Valuations are performed by the managers themselves or by “independent” appraisers hand-picked by the managers.

Why It’s Problematic:

  • There is no daily pricing—valuations are often quarterly, lagged, and subjective.
  • Conflicts of interest are rampant; managers have incentives to overstate values to boost reported returns or maintain fee levels.
  • Cash flows, capital calls, and distributions make performance comparisons difficult.

I’ve called this mark to make believe because, unlike mutual funds, these valuations can be engineered to smooth returns and hide losses until a crisis forces a markdown.

ERISA Status:

I believe private equity in 401(k) plans is a prohibited transaction https://commonsense401kproject.com/2025/07/02/private-equity-is-a-prohibited-transaction-via-chat-gpt/

Hiding Private Equity in 401(k) Target Date Funds risks the entire TDF as a Prohibited Transaction- ChatGPT

4. Crypto: The Accounting Wild West

Accounting Standard:

  • None has fully settled on retirement plans.
  • Under GAAP, crypto is treated as an indefinite-lived intangible asset—which means it is written down for impairment but never marked up until sold.
  • Pricing comes from exchanges with varying reliability and susceptibility to manipulation.

Risk Profile:

  • Valuation swings of 50%+ in a year.
  • Custody and security risks beyond normal market investments.
  • Potential for outright fabricated valuations if held in poorly regulated vehicles.

I have argued that crypto is a prohibited transaction under ERISA https://commonsense401kproject.com/2025/07/03/crypto-is-erisa-prohibited-transaction-chatgpt-do-not-use-in-401k/

but the bigger danger is that, without strong accounting rules, you may never know what your crypto holdings are really worth.

Comparison Table: The Four Sets of Books in 401(k) Plans

Investment TypeAccounting BasisValuation FrequencyRegulatorTransparency LevelFiduciary Risks
Mutual FundsMarket value (GAAP/FASB, SEC rules)DailySECHigh – daily NAVs, auditedLow, unless fees are excessive
AnnuitiesBook value (NAIC statutory accounting)Infrequent, market values not shownState insurance commissioner (insurer-chosen)Low – returns set by insurer, spread hiddenHigh – opaque returns, single-entity credit risk
Private Equity / Alternatives“Fair value” with Level 3 inputs (ASC 820)Quarterly or longer, laggedSEC for registered funds; otherwise state banking/trust regulators for CITsLow to moderate – manager-controlled valuationsHigh – valuation bias, illiquidity, conflicts
CryptoIntangible asset model under GAAPContinuous in theory, but source-dependentSEC/CFTC (fragmented oversight)Very low – price feeds vary, no unified custody standardVery high – volatility, custody risk, fraud potential

The Bigger Danger: Mixing the Books in Target Date Funds

The most alarming development is blended accounting inside target date funds, especially those structured as state-regulated CITs instead of SEC-regulated mutual funds.

Why this matters:

  • A single target date fund could hold mutual funds (market value accounting), annuities (book value accounting), private equity (manager valuations), and even crypto—all in one NAV.
  • The net asset value the participant sees will be a cocktail of different accounting standards, some transparent, some opaque.
  • You could be looking at a “smooth” performance line without realizing risk is hidden under the hood.

How It Will Happen:

  • Poorly regulated CITs allow private equity or annuities to be layered inside other CITs.
  • I predict a 10%–15% private equity allocation will be buried inside a CIT that’s then wrapped into a target date fund.
  • Advisors will tell fiduciaries that a “trusted professional manager” can handle these complex allocations—removing the incentive to dig deeper.

Pru and Principal are already structuring toxic target dates like this https://commonsense401kproject.com/2022/06/07/toxic-target-date-case-study-of-the-worst-of-the-worst/

ERISA’s Prohibited Transactions: The Untapped Defense

ERISA’s prohibited transaction rules were designed to stop creative accounting and self-dealing before they harm participants. But:

  • The DOL has not enforced these rules aggressively in the annuity or CIT context.
  • Litigation is only starting to touch on these accounting mismatches.

I believe annuities, private equity, and crypto in 401(k) plans are all prohibited transactions unless they fall under narrow exemptions—which most don’t in practice.

Conclusion

We are moving from one uniform, transparent accounting system to four incompatible ones inside the same retirement plan. This is not just an accounting curiosity—it is a structural shift that enables opacity, hides risk, and erodes fiduciary accountability.

Mutual funds gave us a clean, daily-marked-to-market view of investments. Annuities broke that standard, private equity exploited it, and crypto may blow it wide open. Without one standard of accounting, ERISA fiduciaries will be flying blind—and so will participants.

Target Date Benchmarks – ChatGPT

/ ChrisTobe / 1 Comment

Target-date funds are over 50% of 401(k) assets.  Litigation around target date funds I think shows a lack of knowledge around investment performance.    Target date funds were created to hide fees and mask performance concerns, and are impossible to benchmark.  In fact, many were created to manipulate benchmarks.   I feel many plaintiff attorneys are not getting the full potential out of their cases by not looking under the hood of Target Date funds to find out what is really going on. 

In my testimony for the June 2009 joint SEC-DOL hearing on target date funds, I contended that it’s huge growth would further concentrate management into an oligopoly and higher fees. I also criticized the target date structure as a step backward for transparency of fees, performance, and risk. I thought it would push plans toward a one-provider, closed platform that would lead to conflicts of interest and higher fees.

Target Date Fund Asset Allocation Drives Risk and Performance

Asset allocation is the main driver of performance and risk.  Because of the lack of transparency and investment policy guidelines, performance gaming of the benchmark in target date funds in invited.  Target date fund specialist Ron Surz warns against target date funds holding high equity allocations for those close to retirement

Joe Nagengast of Target Date Analytics in the June 2009 joint SEC-DOL hearing on target date funds. “The way to win the short-term performance horse race for target date funds (and the resulting market share) has been, in many time periods, through higher equity allocations.”

I asked ChatGPT to elaborate on this issue and specifically benchmarking to the S&P target date fund index

—————————————————————————-

From ChatGPT.  Asset allocation explains ~90% of return variability, then comparing TDFs with vastly different glide paths or allocations is not apples-to-apples.

⚖️ Why It’s a Problem

401(k) Target Date Funds often differ dramatically in:

  • Equity vs. bond allocations (e.g., 90/10 vs. 60/40 at the same “target date”)
  • Glide path design (to retirement vs. through retirement)
  • Exposure to alternatives, real assets, or high-yield bonds
  • Risk levels (volatility and drawdown potential)

So, simply comparing returns (e.g., over 1, 3, or 5 years) may reward higher-risk funds during bull markets, misleading fiduciaries and participants.

🧠 Bottom Line

You cannot responsibly compare TDFs on return alone when their asset allocations diverge. Fiduciaries must benchmark based on:

  • Risk-adjusted performance
  • Glide path risk levels
  • Appropriateness for the participant demographic
  • Alignment with ERISA’s fiduciary standards

ChatGPT said:

benchmarking Target Date Funds (TDFs) to something like the S&P Target Date Fund Index can be misleading and easily gamed, particularly because:

  1. Benchmarks like the S&P Target Date Index only reflect the average allocation (e.g., average equity/glidepath of funds in that vintage),
  2. There is no requirement that the TDF match the risk profile of the benchmark, and
  3. A higher equity allocation will often outperform the benchmark in bull markets, misleading fiduciaries into thinking the fund is “better managed” rather than just riskier.

🔎 How This Benchmarking Can Be Gamed

TDF managers can “game” the benchmark by:

  • Allocating more to equities (especially international or small-cap)
  • Taking more duration risk in bonds
  • Adding alternative assets like private equity or real estate (often with smoothed NAVs)
  • Using leverage (in CITs especially)

These tactics may result in higher performance in a rising market compared to the benchmark, even though the fund is taking on significantly more risk.

📊 Examples of Equity Overweighting vs. Benchmark

Let’s compare some common 2040 TDFs with the S&P Target Date 2040 Index, which in 2024 had approximately:

  • Equity: ~74%
  • Fixed Income: ~24%
  • Cash/Other: ~2%
Target Date FundEquity AllocationOverweight vs S&P IndexComments
Fidelity Freedom 2040 (Investor)~84%+10%Higher US equity tilt, more aggressive glidepath
T. Rowe Price Retirement 2040~89%+15%Very equity-heavy approach; often leads in returns in bull markets
American Funds 2040~78%+4%Slight overweight, includes active mgmt in underlying funds
Vanguard Target Retirement 2040~72%-2%Closest to S&P Index; more conservative relative to peers
BlackRock LifePath Index 2040~74%0%Benchmarked tightly to average; often used as a baseline
State Street Target Retirement 2040 (CIT)~78%+4%Slightly more risk in equity; often embeds alternatives in CITs

Sources: Fund prospectuses, Morningstar, 2024 allocation snapshots

⚠️ Fiduciary Implications under ERISA

  • Plan fiduciaries may be misled into thinking a fund is “better performing” when it simply takes more risk.
  • Impartial Conduct Standards under ERISA require fiduciaries to consider both performance and risk—a higher return via higher risk is not inherently better.
  • Courts may ask: Did the fiduciary understand that this TDF’s outperformance came from taking more risk than the benchmark?
  • This is especially risky when plan sponsors do not document why they selected or retained a more aggressive fund.

🧠

2. How Much Does It Matter?

  • The 1986 Brinson, Hood & Beebower (BHB) study found that asset allocation explained 93.6% of the variation in quarterly returns of pension fund portfolios.
  • Later updates and critiques (e.g., by Ibbotson & Kaplan in 2000) clarified that while asset allocation doesn’t explain everything, it still dominates over market timing or security selection in terms of predicting return variability.
    • Strategic asset allocation (long-term mix) accounts for about 90% of return variability.
    • Tactical allocation, timing, and security selection account for much less.

3. Impact on Performance vs. Variability

  • Asset allocation drives risk-adjusted returns, not just variability.
  • Picking the right mix of stocks, bonds, and alternatives greatly affects total returns, especially over longer horizons.
  • During market crises or recoveries, asset classes behave very differently—diversification reduces drawdowns.

Key Takeaway

  • TDFs should not be benchmarked only on return versus the S&P TDF Index—risk-adjusted performance and glidepath assumptions matter. A 2040 fund with 90% equity will likely beat the benchmark in good years, but may collapse harder in downturns—especially harming near-retirement investors if the glidepath is too steep.

There are no valid benchmarks for Target Date Funds.  Comparing funds with different asset allocations does not work either.  Target date funds are specifically designed to avoid accountability and thus need the most scrutiny. You have to look under the hood at the individual investment allocations and benchmark those.   Attorneys are defying investment principles and basic math in insisting on using TDF benchmarks in litigation.

Hiding Private Equity in 401(k) Target Date Funds risks the entire TDF as a Prohibited Transaction- ChatGPT

/ ChrisTobe / 1 Comment

Hiding Private Equity in 401(k) Target Date Funds risks the entire TDF as a Prohibited Transaction- ChatGPT

Because Private Equity is clearly an ERISA prohibited transaction,  https://commonsense401kproject.com/2025/07/02/private-equity-is-a-prohibited-transaction-via-chat-gpt/  it can create the false illusion that it adds value to a portfolio like a Target Date fund by overstating performance and understating risks.   As I testified to the ERISA advisory committee last year, SEC-registered mutual funds will not allow this ruse, but that weak state-regulated Collective Investment Trusts (CIT’s) would. https://commonsense401kproject.com/2025/06/29/erisa-advisory-council-testimony-released/ 

Target Date funds that allocate to Private Equity, can become Prohibited Transactions.

I asked ChatGPT how Private Equity cheats on performance and risk.  

⚠️ Core Concern:

Private Equity (PE) self-reports inflated returns and artificially smooths volatility, which distorts inputs used in mean-variance optimization (MVO), risk-parity models, and target-date glidepaths.

🔍 How the Distortion Happens:

1. Self-Reported, Marked-to-Model Valuations

  • Unlike publicly traded equities, PE funds are not marked to market.
  • General Partners (GPs) have wide latitude in determining “fair value” using Level 3 inputs under GAAP/IFRS.
  • There’s no external price discovery like in public markets—creating upward bias in reported IRRs and TVPIs.

Example: GPs may hold a portfolio company at $2.3B valuation for 12 months—until a sale occurs at $1.8B, but all the prior return models assumed $2.3B.

2. Return Smoothing Reduces Apparent Risk

  • PE firms smooth returns by reporting only quarterly, and avoiding mark-downs in downturns unless forced (e.g., in LP secondaries).
  • This lowers measured standard deviation, making PE appear less risky than it truly is.

Ludovic Phalippou, in multiple SSRN papers, shows that real economic volatility of PE is closer to or greater than public equities, but accounting practices mask this.

3. Low Correlation Is Largely an Illusion

  • PE is often shown to have low correlation with the S&P 500 or public equity indices.
  • This is not because the underlying assets are fundamentally different—but because quarterly smoothed valuations fail to reflect the real-time economic correlation.

Empirical studies (e.g., Ang, Chen, Goetzmann 2013) show that lagged public-equity returns can explain much of PE fund performance.

📉 Implications for Asset Allocation Models:

1. Misleading Inputs into MVO and Risk Budgeting

  • MVO and Black-Litterman-type optimizations overweight PE due to inflated Sharpe ratios (high returns / low volatility).
  • Allocators wrongly assume PE offers high return with diversifying low risk.

2. Target-Date Funds and Pension Glides Paths Are Over-Allocating

  • Plan sponsors may use PE-heavy CITs or TDFs based on deceptively low risk and attractive correlation stats.
  • This is especially problematic in state-regulated CITs, where oversight of inputs is weak.

3. Stress Testing Fails to Capture Liquidity & Downside Risk

  • Smoothing hides tail risk and liquidity gaps during downturns (e.g., GFC, COVID).
  • PE dry powder and capital calls may spike just when public markets are down.

🔎 Supporting Academic and Regulatory Sources

  • Ludovic Phalippou, “An Inconvenient Fact: Private Equity Returns & the Billionaire Factory”
    → Calls out manipulated IRRs, opaque fees, and correlation illusions.
  • Andrew Ang (Columbia/BlackRock)
    → PE appears low beta only due to infrequent marking; in reality, it is leveraged equity.
  • U.S. SEC under Gensler has warned of valuation opacity and risk-model distortions in private funds.
  • CFA Institute (2021 paper):
    “Asset Allocation to Alternative Investments” (CFA Institute, 2025):
    Highlights that illiquid assets often have stale and artificially smoothed returns, recommends testing for serial correlation, and states clearly that analysts “need to unsmooth the returns to get a more accurate representation of the risk and return characteristics of the asset class.” blogs.cfainstitute.org+13cfainstitute.org+13
  • 2019 SSRN paper “Unsmoothing Returns of Illiquid Assets” by Couts, Gonçalves, and Rossi, which critiques existing methods and proposes a novel three-step unsmoothing technique—highly relevant for private equity modeling. papers.ssrn.com+2
  •  

🧨 Bottom Line:

Private equity appears safer and more diversifying than it really is because it controls its own marks.
This undermines the integrity of asset allocation models and can lead to over-allocation, particularly in pensions, endowments, and TDFs.

This misrepresentation may expose fiduciaries to legal risks under ERISA’s Impartial Conduct Standards or trust law’s duty of prudence—especially if they’ve failed to adjust for these distortions.

These distortions also apply to private debt, hedge funds, real estate, and other ERISA prohibited transactions like Crypto https://commonsense401kproject.com/2025/07/03/crypto-is-erisa-prohibited-transaction-chatgpt-do-not-use-in-401k/

And Annuities  https://commonsense401kproject.com/2025/06/13/annuities-are-prohibited-transactions-via-chat-gpt/

Target Date funds that use any inputs that are prohibited transactions are at a high risk of making the entire TDF a Prohibited Transaction.

Annuities flunk Prohibited Transactions Exemption – SCOTUS ruling will open floodgates of litigation.

/ ChrisTobe / Leave a comment

Annuities have always flunked but no one has ever challenged them because of their total lack of transparency.  Now with SCOTUS Cornell decision, the burden of proof has shifted to the plans to defend why they think annuities are exempt from being prohibited transactions, and for the most part they are clueless.

Most annuities in most DC plans are labeled “parties in interest” because they have a relationship with the administrator/recordkeeper.   This relationship creates a potential conflict of interest and labeled a Prohibited Transaction.  A Prohibited Transaction Exemption (PTE) must be used to include the annuities in the plan.

PTE’s are subject to the ERISA Impartial Conduct Standards which are a set of requirements for fiduciaries providing investment advice to retirement investors, ensuring they act in the best interest of the client, receive reasonable compensation, and avoid making misleading statements. 

Annuities for decades have claimed Prohibited transaction exemptions behind PTE 84-24 and more recently PTE 2020-02 with few challenges or any accountability.[1]  However, the recent SCOTUS decision clearly says plans are responsible for verifying that their investments qualify for the prohibited transaction exemptions.  The PTEs that apply to the insurance products they put in their plans where most are “parties in interest” must meet the Impartial Conduct Standards.[2]     

Judge Lynn when ruling on Fixed Index Annuities in 2017 stated   Because “insurers generally reserve rights to change participation rates, interest caps, and fees,” FIAs can “effectively transfer investment risks from insurers to investors.”[3]  this control by insurers clearly violates Impartial Conduct Standards.[4]  

ERISA PTE 84-24, which is based on the Restatement of Trust, states the annuities must meet the following requirements called the Impartial Conduct Standards and Written Disclosures and Policies and Procedures backing up these standards.  Most annuities I have seen do not even come close.

The Impartial Conduct Standards have 4 major obligations.   A. Care Obligation    B. Loyalty Obligation C. Reasonable compensation limitation D. No materially misleading statements (including by omission)

Care Obligation This obligation reflects the care, skill, prudence, and diligence – similar to Prudent Person Fiduciary standard.   Diversification is one of the most basic fiduciary duties. Under the CFA pension trustee standard for acting with prudence and reasonable care the plan should seek appropriate levels of diversification.[5]    Fixed annuities flunk this diversification test with single entity credit and liquidity risk. [6] 

The Federal Reserve in April 2025 said “Life insurers continued to hold a significant share of risky and illiquid assets on their balance sheets” [7]  Under the CFA pension trustee standard Principle #3 to Act with skill competence and diligence it cites need for awareness of investments liquidity, and any other risks.  Certain types of investments …necessitate more thorough investigation and understanding than do fundamental investments, such as straightforward and transparent equity, fixed-income, or mutual fund products   Annuities call for more diligence by sponsors which needs to be fully documented by plans.  Plan sponsors could mitigate this credit and liquidity risk in their annuity contracts with downgrade clauses which allow liquidity at book value if the annuity issuer is downgraded but these type clauses have not been adopted for most plans.[8]

Loyalty Obligation Annuity contracts are designed to avoid all fiduciary obligation with no loyalty to participants. Diligence is nearly impossible with misleading, nontransparent contracts, and the lack of plan/participant ownership of securities. Secret kickbacks and commissions place the financial interests of the Insurers and their affiliates over those of retirement investors.  The new fiduciary rule requires the advisor to show their loyalty with a “Fiduciary Acknowledgement Disclosure.” which has been strongly opposed by the Annuity industry.   Plans typically agree to Annuity contracts that avoid any fiduciary language or responsibility on the part of the issuer. [9]   The Federal Reserve in 1992 exposed the varying weak state regulatory and reserve claims and most plans are not even aware of which state issued their annuity contract.[10]

Reasonable compensation limitation Annuities have a total lack of disclosure of profits, fees and compensation – effectively denying any chance for a prospective purchaser to make an “informed decision.”  CFA Institute Global Investment Performance Standards (GIPS) are transparency standards on performance and fees. Annuities typically do not comply with CFA GIPS standards.[11]

Noted Morningstar analyst John Rekenthaler said in April 2022 that in selecting 401(k) investment options, “inappropriate are investments that don’t price daily.”  Annuities typically do not price daily and do not provide valuation transparency.[12]

A number of lawsuits have settled with claims of excessive secret fees and spreads in annuities. An insurance executive bragged at a conference of fees over 200 basis points (2%) in 2013. [13]  In a report, Morningstar acknowledges that annuities fees inside 401(k) plans are challenging to understand.  ‘No insurer tells you what is in the spread.’    ‘Insurance firms collect a spread”[14]     I was quoted on NBC that the TIAA Fixed Annuity made spread fees of around 120 basis points.  TIAA makes $billions in undisclosed profits on their fixed annuity products. TIAA annuity has been called the company’s profit “engine” driving $46.2  in bonuses to their top five executives.[15]    These IPG fixed annuity contracts have been characterized by DC plan group NAGDCA as having serious fiduciary issues with hidden fees.  “Due to the fact that the plan sponsor does not own the underlying investments, the portfolio holdings, performance, risk, and management fees are generally not disclosed. This limits the ability of plan sponsors to compare returns with other SVFs [stable-value funds]. It also makes it nearly impossible for plan sponsors to know the fees (which can be increased without disclosure) paid by participants in these funds—a critical component of a fiduciary’s responsibility “ [16] 

No materially misleading statements (including by omission) Annuities have numerous material misleading statements in their contracts, including the total lack of disclosure of spread/fees.   Under the CFA pension trustee standard for policies Trustees should … draft written policies that include a discussion of risk tolerances, return objectives, liquidity requirements.[17] Plans with annuities many times do not have Investment Policy Statements or weak IPS that do not provide transparency or accountability for the annuities.[18]

The Annuity industry thrives on secret commissions.[19]  The GAO and Senator Warren reported on these commissions.[20] The annuity industry has fought the so-called Biden Fiduciary rule which would expose many annuity commissions in 401(k) plans.   The annuity industry trade group that coordinates weak state insurance commissioners National Association Insurance Commissioners (NAIC) best interest rule was ridiculed by a DOL Official “compensation is not considered a conflict of interest,” All 50 State Insurance Commissioners have rejected Fiduciary standards by adopting the NAIC best interest rules.[21]

Annuities claim principal protection, but some fixed annuity contracts recently have “broken the buck” and violated their contracts by forcing significant losses on participants.  The written disclosures under weak state regulations omit critical information on risks and fees also prevents any opportunity for an “informed decision.”

Conclusion

Annuities clearly flunk all 4 major obligations of the Impartial Conduct Standards and are not exempt as Prohibited Transactions. 

Plans with annuities have huge fiduciary liabilities which grow larger each year.  With the new Supreme Court Case CunninghamV.Cornell the risk of litigation, and potential damages have grown greatly. [22]  Within 2 weeks of the decision a case of annuities as prohibited transactions has already been filed.

Plan sponsors should amend their Annuity contracts to at least stop the growth of fiduciary liability.

1. A Most Favored Nation (MFN) clause to make sure they have the best rate/largest payouts/ lowest spread fees of all the annuity providers similar clients

2. A downgrade clause that allows liquidity at full book value if the insurance company issuing the annuity is downgraded.

3. Annuity provider agrees to be ERISA Fiduciary

If they cannot get these 3 clauses – the plan must demand that the annuity provider let them out of the contract, and if not consider legal action against the insurance company.

[1] https://commonsense401kproject.com/2024/11/19/burden-of-proof-is-on-plan-sponsors-hoping-to-qualifyfor-annuity-prohibited-transactions-exemption/

[2] https://news.bloomberglaw.com/daily-labor-report/high-courts-cornell-ruling-stands-to-supercharge-401k-suits

[3] Chamber of Commerce of the United States, et. al. v Hugler, 231 F. Supp. 3d 152 (N.D. Tex. 2017) (Lynn decision), 187

[4] Attorney James Watkins writes on the Fiduciary Risks of Annuities

Plan Sponsor and RIA Alert: Navigating the 78(3) Fiduciary Liability “Gotcha”

[5] https://rpc.cfainstitute.org/codes-and-standards/pension-trustee-code

[6] “Safe” Annuity Retirement Products and a Possible US Retirement Crisis   Dr. Tom Lambert and Chris Tobe  https://papers.ssrn.com/sol3/papers.cfm?abstract_id=4761980

[7] https://www.federalreserve.gov/publications/files/financial-stability-report-20250425.pdf

[8] American Academy of Actuaries Report of the GIC With Credit Rating Downgrade  October 1999 https://www.actuary.org/sites/default/files/pdf/life/gic.pdf

[9] https://commonsense401kproject.com/2024/11/19/burden-of-proof-is-on-plan-sponsors-hoping-to-qualifyfor-annuity-prohibited-transactions-exemption/

[10] . Federal Reserve Bank of Minneapolis Summer 1992  Todd, Wallace  SPDA’s and GIC’s http://www.minneapolisfed.org/research/QR/QR1631.pdf

[11] https://rpc.cfainstitute.org/-/media/documents/book/rf-publication/2017/rf-v2017-n3-1.pdf

https://www.cfainstitute.org/en/membership/professional-development/refresher-readings/gips-overview

[12]https://www.morningstar.com/articles/1090732/what-belongs-in-401k-plans

[13] Annuity Executive brags on 200bps 2% fees https://www.bloomberg.com/news/articles/2013-03-06/prudential-says-annuity-fees-would-make-bankers-dance?embedded-checkout=true

[14] https://riabiz.com/a/2024/5/11/fidelity-voya-and-boa-smooth-blackrocks-launch-of-guaranteed-paycheck-etfs-but-401k-plan-participants-may-yet-balk-at-high-unseeable-fees-and-intangibility-of-benefits

[15] https://www.nbcnews.com/investigations/tiaa-pushes-costly-retirement-products-cover-losses-whistleblower-rcna161198

[16] http://www.nagdca.org/documents/StableValueFunds.pdf_ The National Association of Government Defined Contribution Administrators, Inc. (NAGDCA) September 2010

[17][17] https://rpc.cfainstitute.org/codes-and-standards/pension-trustee-code

[18] https://commonsense401kproject.com/2023/03/12/investment-policy-statements-crucial-to-fiduciary-duty/

[19] Consumer Federation of America on Biden Annuity Rule https://consumerfed.org/annuity-industry-kickbacks-cost-retirement-savers-billions/

[20] https://www.gao.gov/products/gao-24-104632   and Senator Warrens reported on Annuity kickbacks.[xiii]   https://www.warren.senate.gov/imo/media/doc/senator_warrens_annuity_report_-_sept_2024.pdf

[21] https://401kspecialistmag.com/all-50-states-now-on-board-with-naic-best-interest-annuity-rule/

[22]   https://commonsense401kproject.com/2025/04/21/scotus-9-0-erisa-decision-in-cunningham-v-cornell-university-case-confirms-my-view-on-annuities-as-prohibited-transactions/

SCOTUS’ 9-0 ERISA decision in Cunningham v. Cornell University case– confirms my view on Annuities as Prohibited Transactions

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SCOTUS 9-0 ERISA decision – confirms my view on Annuities as Prohibited Transactions

By Chris Tobe, CFA, CAIA

The Supreme Court ruled unanimously in favor of 401(k) Transparency, while also placing the burden of proof on plan sponsors alleging that they are protected under an exception to the Prohibited Transaction rules.  This rule facilitates forcing disclosures on conflicts of interest and hidden fees.[i]  Investments that the managers have the potential for a conflict of interest are labeled “Parties of Interest” in the DOL/IRS 5500 forms attached financials for ERISA plans.  These parties in interest have the burden of proof that they have an exemption from the Prohibited Transactions rules. 

Fixed Annuities, known as IPG’s, are prevalent in large ERISA DC plans.  The largest IPG is TIAA Retirement Choice Annuity which is central in the Cornell plan and, along with Fidelity, the focus of the SCOTUS decision.

I believe that all annuities are prohibited transactions due to the inherent conflict of interest issues, and in most cases, the annuity issuer and annuity salesperson  are labeled in plans as parties in interest.  Prohibited transaction exemptions are subject to meeting certain requirements.  But the DOL does not even attempt to enforce them.   Many plans just blindly accept the claims of annuity salesmen that these contracts have a “get out of jail free card” in the form of a PTE.

Prohibited Transactions Exemption PTE 84-24

Annuities for decades have claimed Prohibited transaction exemptions behind PTE 84-24.  However, plans are responsible for verifying that the prohibited transaction exemptions apply to the insurance products they put in their plans.   This SCOTUS decision and future similar cases may force accountability for the first time.

ERISA PTE 84-24, which is  based on the Restatement of Trust,  states the annuities must meet the following requirements called the Impartial Conduct Standards and Written Disclosures and Policies and Procedures backing up these standards.  Most annuities I have seen do not even come close.

The Impartial Conduct Standards have 4 major obligations.   A. Care Obligation    B. Loyalty Obligation C. Reasonable compensation limitation  D. No materially misleading statements (including by omission)

Care Obligation This obligation reflects the care, skill, prudence, and diligence – similar to Prudent Person Fiduciary standard.   Diversification is one of the most basic fiduciary duties.  Fixed annuities flunk this with single entity credit and liquidity risk. Diligence is nearly impossible with misleading, nontransparent contracts, and the lack of plan/participant ownership of securities.[ii] The Federal Reserve in 1992 exposed the weak state regulatory and reserve claims.[iii]

Loyalty Obligation Annuity contracts are designed to avoid all fiduciary obligation with no loyalty to participants.   Secret kickbacks and commissions place the financial interests of the Insurers and their affiliates over those of retirement investors. In most cases, the annuity investor has little chance of even breaking even on the investment. The exemption requires the advisor to show their loyalty with a “Fiduciary Acknowledgement Disclosure.”   Annuity contracts avoid any fiduciary language or responsibility.

Reasonable compensation limitation Annuities have a total lack of disclosure of profits, fees and compensation – effectively denying any chance for a prospective purchaser to make an “informed decision.” They also have secret kickback commissions.[iv]   A number of lawsuits have settled with claims of excessive secret fees and spreads. An insurance executive bragged at a conference of fees over 200 basis points (2%) in 2013. [v]

No materially misleading statements (including by omission) Annuities have numerous material misleading statements, including the total lack of disclosure of spread/fees.  They claim principal protection, but some fixed annuity contracts recently have “broken the buck” and violated their contracts.  The written disclosures under weak state regulations omit critical information on risks and fees also prevents any opportunity for an “informed decision.”

GOING FORWARD

While Annuities are by far the largest area involved, I believe SCOTUS’ Cunningham decision will result in some significant consequwemces:

  1.  ERISA class action 401k litigation will explode especially against conflicted products like annuities[vi]
  2. Plans are now talking about taking legal action against vendors, who tricked them into these non-transparent products[vii]
  3. Plans will be more reluctant to take on non-transparent products like annuities[viii]
  4. Plans will be more reluctant to take on non-transparent products like crypto and private equity[ix]
  5. Plans will be more reluctant to do non-transparent administrative practices like revenue sharing[x] 

Plan Sponsors with fixed annuity contracts should demand
: 1. A MFN clause to make sure they have the best rate. A MNF (Most Favored Nation) clause is a clause that states that money managers are getting the lowest fee for their pension clients.
2. A downgrade lause that allows liquidity at full book value if the insurance company issuing the annuity is downgraded.

Annuities are clearly prohibited transactions that do not qualify for an exemption but have used their lobbying power in Washington and in states, to exempt themselves from all accountability.  This recent SCOTUS decision  may  help get accountability and transparency in plans through litigation.

[i] https://www.fingerlakes1.com/2025/04/18/supreme-court-cornell-erisa-401k-fees-decision-2025

[ii] https://commonsense401kproject.com/2024/03/26/just-how-safe-are-safe-annuity-retirement-products-new-paper-shows-annuity-risks-are-too-high-for-any-fiduciary/

[iii] Federal Reserve Bank of Minneapolis Summer 1992  Todd, Wallace  SPDA’s and GIC’s http://www.minneapolisfed.org/research/QR/QR1631.pdf

[iv] https://consumerfed.org/annuity-industry-kickbacks-cost-retirement-savers-billions/

[v] https://www.bloomberg.com/news/articles/2013-03-06/prudential-says-annuity-fees-would-make-bankers-dance?embedded-checkout=true

[vi] https://commonsense401kproject.com/2024/11/19/burden-of-proof-is-on-plan-sponsors-hoping-to-qualifyfor-annuity-prohibited-transactions-exemption/

[vii] https://commonsense401kproject.com/2024/07/31/chris-tobe-dol-testimony/

[viii] https://fiduciarywise.com/cunninghamvcornelluniversity/

[ix] https://www.linkedin.com/pulse/retirement-plan-sponsors-investment-advisors-should-take-ron-rhoades-zfp8c/?trackingId=cl6WVzR8TvCNYE2H6M59WQ%3D%3D

[x] https://commonsense401kproject.com/2022/04/02/revenue-sharing-in-401k-plans/

Cerulli Study Exposes Guaranteed Income Annuities on Fiduciary Issues

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By Chris Tobe, CFA, CAIA

A recent Cerulli Study exposes Guaranteed Income Annuities not only as unnecessary, but as creating ERISA Fiduciary Issues.[i]  I warned of this in my 2022 blog post on how income annuities are a fiduciary minefield.[ii]

“Cerulli Edge—U.S. Retirement Edition,” finds that as of 2024, 91% of asset managers believe guaranteed lifetime income options carry a negative stigma.  “Annuities continue to face perception issues due to high fees, complexity, lack of transparency, and concerns about insurer solvency, all of which deter plan participants,” says Idin Eftekhari, a senior analyst at Cerulli. “The tradeoff between liquidity and a guaranteed income stream is unappealing for many participants.[iii]

The argument that you need annuities to provide lifetime income is debunked as well.

Cerulli also points to lower cost transparent liquid methods of providing monthly income called “structured drawdown strategies” as superior alternatives to annuities.[iv] 

Annuities are a Fiduciary Breach

I wrote in 2022 that all annuities are a fiduciary breach [v]  While Guaranteed Income Annuities are still small in 401(k)s, I believe they are being used to justify even worse annuity products like IPG Fixed Annuities and Index annuities. Immediate Participation Guarantee (IPG)  is a Group fixed annuity contract (GAC) written to a group of investors in a DC Plan and not individuals. [v]  

IPG group annuities have no maturity, and set whatever rate they want without a set formula.

https://www.dfs.ny.gov/system/files/documents/2021/04/out_ipg_da_2000.pdf

Annuities are contracts that are an ERISA Prohibited Transaction.   Annuity providers claim their products are subject to Prohibited Transaction Exemption 84-4, but I have found that most annuities I have seen do not qualify for the exemption.[vi]

Annuity contracts are regulated by weak state insurance commissioners, and most plan sponsors are clueless to that fact.   The National Association of Insurance Commissioners (NAIC) sets weak national standards, but some state insurance commissioners have even weaker regulations.  NAIC’s prime goal is to prevent any national regulation or transparency as evidenced in this letter to Congress. [vii]   NAIC is currently trying to hide insurers Risk Based Capital (RBC) scores to hide significant risk from consumers. [viii]

There is an attempt to hide annuities in Target Date Funds in weak state regulated CIT’s in which I testified on to the DOL Advisory Committee in July 2024.[ix]

Annuity contracts shift all the fiduciary burden from themselves to the plan.   Thus, the burden of proof is on plan sponsors regarding if their plan annuity qualifies for an exemption from being classified as a prohibited transaction.[x]

 Annuities Credit & Liquidity Risk High & Getting Higher

A recent Federal Reserve paper exposes poor state & offshore regulation of Life Insurance companies that issue Annuities.  The FED’s main problem is the hiding and understating of credit, liquidity & leverage risks.[xi]

The FED economists contend that life and annuity issuers make investments in what amount to loans to risky firms look stronger by funneling the weak loans through arrangements — such as business development companies, broadly syndicated loan pools, collateralized loan obligations, middle-market CLOs and joint venture loan funds — that qualify for higher credit ratings.[xii]  “These arrangements seek to shift portfolio allocations towards risky corporate debt while exploiting loopholes stemming from rating agency methodologies and accounting standards.”[xiii]

Insurance risk experts Larry Rybka, Thomas Gober, Dick Weber Michelle Gordon highlight the addition of risks from Reinsurance in a recent trade publication.  Rybka says  The life insurance and annuities industry, he said, has become “like the Wild West.” Carriers are abusing reinsurance,”[xiv]  “It’s a shell game and, in general, the regulators are not paying attention,” said Dick Weber,[xv]  Gober says It’s not just offshore reinsurers that can largely skirt U.S. accounting standards, he said. There are also “captive” reinsurance companies within the U.S. mostly in Vermont, South Carolina, and Delaware.  “The lack of transparency with these affiliated reinsurance companies, both captive and offshore, is the single biggest threat to U.S. policyholders and annuitants,” said Gober.[xvi]

Michelle Gordon says that advisors should check the creditworthiness of any insurance companies they recommend to clients, she said, though most don’t or can’t because of lax ratings standards. “The non-codification of insurance advisement results in sub-optimization of consumer protections,” she said.[xvii]

Fiduciaries should be aware of these risks and have a duty to defend and justify these risks if they put annuities in their plans.

[i] https://401kspecialistmag.com/offering-guaranteed-income-not-as-essential-as-initially-perceived/

[ii] https://commonsense401kproject.com/2022/02/10/401k-lifetime-income-a-fiduciary-minefield/

[iii] https://401kspecialistmag.com/offering-guaranteed-income-not-as-essential-as-initially-perceived/

[iv] https://401kspecialistmag.com/offering-guaranteed-income-not-as-essential-as-initially-perceived/

[v] https://www.dfs.ny.gov/system/files/documents/2021/04/out_ipg_da_2000.pdf

[vi] https://commonsense401kproject.com/2022/05/11/annuities-are-a-fiduciary-breach/

[vii]  https://commonsense401kproject.com/2024/10/10/annuities-exposed-as-prohibited-transaction-in-401k-plans/

[viii] https://content.naic.org/sites/default/files/naic2025federalfinancialprioritiesletter.pdf

[ix] https://insurancenewsnet.com/innarticle/state-regulators-want-insurers-to-downplay-key-financial-strength-figure

[x] https://commonsense401kproject.com/2024/07/31/chris-tobe-dol-testimony/

[xi] https://commonsense401kproject.com/2024/11/19/burden-of-proof-is-on-plan-sponsors-hoping-to-qualifyfor-annuity-prohibited-transactions-exemption/

[xii] https://www.federalreserve.gov/econres/notes/feds-notes/life-insurers-role-in-the-intermediation-chain-of-public-and-private-credit-to-risky-firms-20250321.html

[xiii] https://www.thinkadvisor.com/2025/03/24/fed-researchers-see-life-insurers-filling-up-on-junk-assets/

[xiv] https://www.federalreserve.gov/econres/notes/feds-notes/life-insurers-role-in-the-intermediation-chain-of-public-and-private-credit-to-risky-firms-20250321.html

[xv] https://www.fa-mag.com/news/annuities-and-life-insurance-are-at-risk–advisors-warn-81810.html?section=303

[xvi] https://www.fa-mag.com/news/annuities-and-life-insurance-are-at-risk–advisors-warn-81810.html?section=303

[xvi] https://www.fa-mag.com/news/annuities-and-life-insurance-are-at-risk–advisors-warn-81810.html?section=303 [1] https://www.fa-mag.com/news/annuities-and-life-insurance-are-at-risk–advisors-warn-81810.html?section=303

Private Equity in 401k Plans- A Fiduciary Minefield for Plan Sponsors

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By Christopher B. Tobe, CFA, CAIA

Economic and Policy Research’s Eileen Appelbaum said “Much as private equity firms may wish it were different, they have been mostly unable to worm their way into workers’ 401(k)s and abscond with their retirement savings,”[i]

The Private Equity industry’s limited success and future success depends on Private Equity and related contracts like Private Debt finding tricks that block transparency to hide their excessive fees and risks, and inferior performance in ERISA plans.

The first trick is to exempt the actual Private Equity contact itself exempt from ERISA by a loophole of commingling it with non-ERISA public pensions and other non-ERISA plans.

In the context of a Private Equity contract, a “20% ERISA exemption” generally refers to a situation where a fund is considered exempt from full ERISA regulations if less than 20% of its total investor base consists of “benefit plan investors” (like retirement plans), meaning that the fund doesn’t need to adhere to the stricter rules of ERISA as long as the percentage of ERISA-regulated money invested remains below 20% of the total fund size.[ii] 

The second trick is to domicile the Private Equity contract in a place with lax laws.   Roughly a third of the private equity contracts are domiciled in the Cayman Islands and much of the rest in the State of Delaware.[iii]

The third trick is one I warned the DOL ERISA Advisory council in July 2024.   I focused on the hiding of Private Equity and other illiquid contracts buried in Target Date Funds.[iv]   SEC registered Mutual funds require too much transparency on fees and risks so Private Equity has avoided them.   Federal OCC regulated Collective Investment Trusts (CIT’s) also require too much transparency.  Instead, the Private Equity Industry needs a weak regulator that requires minimum transparency, and they have found it by cherry picking the laxest of 50 state banking regulators.   In May 2023, SEC chair Gary Gensler sounded the alarms on CIT’s “Rules for these funds lack limits on illiquid investments and minimum levels of liquid assets. There is no limit on leverage, or requirement for regular reporting on holdings to investors”[v]

Private Equity DOL Guidance

DOL guidance seems to shift with the political winds.  Around 4 years ago Forbes Columnist Ted Siedle wrote “Trump DOL throws 401k Investors to the Wolves” [vi]   At Berkshire Hathaway annual meeting  (2019) Buffett stated, “We have seen a number of proposals from private equity firms where the returns are not calculated in a manner that I would regard as honest… If I were running a pension fund, I would be very careful about what was being offered to me.” Other publications warned of Leading U.S. Retirees ‘Lik Lambs to the Slaughter’[vii]

This was due to the trade press and Private Equity industry interpreting a June 2020 DOL letter as a “get out of jail free card” for plan sponsors to load up on Private Equity if it is buried in Target Date Funds.   What the letter says is that theoretically the perfect Private Equity fund with a high level of transparency and independent verifiable valuation could be included in a diversified Target Date Fund.

  I do not thing this perfect Private Equity contract investment exists, and the burden of proof is on the plan sponsor to prove that it does exist when they went into the contract and to continually monitor the contract to make sure it stays “perfect”. [viii]
 

Morningstar asks Can the presence of a largely illiquid fund comply with DC ERISA regulation?  An answer arrived in a June 2020 “Information Letter” in which the Department of Labor addressed a proposal by Pantheon Ventures LP, and Partners Group, Inc. to put private equity within a target-date fund. The DOL letter states that this would not violate ERISA provided the vehicle resided within a diversified managed solution like a target-date fund or managed account, and that it was otherwise walled off to participants. Additionally, the fund within which the illiquid investment resides must have a “sufficient” level of liquidity—that is, investment in public-market vehicles to meet likely participant demands. These are guidelines rather than specific rules, but they appear sufficiently actionable for a competent fiduciary.[ix]

But if you look at the actual information letter, you can see this part was cherry picked to spin a positive story for sneaking in Private Equity 401(k).[x]  The DOL in full, warns plan sponsors of numerous potential fiduciary issues.   Statements like plan fiduciaries have duties to prudently select and monitor any designated investment alternative under the plan, and liability for losses resulting from a failure to satisfy those duties.[xi] In evaluating … fiduciary must engage in an objective, thorough, and analytical process[xii]  Warns of typically, higher fees and that you must evaluate the risks and benefits returns net of fees including management fees, performance compensation, or other fees or costs that would impact the returns received)…, including cost, complexity, disclosures, and liquidity, and has adopted features related to liquidity and valuation designed to permit the asset allocation fund to provide liquidity for participants [xiii] Ensure that private equity investments be independently valued according to agreed-upon valuation procedures. [xiv]   DOL also shows a duty to monitor “The fiduciary also must periodically review whether the investment vehicle continues to be prudent[xv]    DOL also talks about the requirement to be fully transparent to participants whether plan participants will be furnished adequate information regarding the character and risks of the investment alternative to enable them to make an informed assessment [xvi] Especially noted a higher level of fiduciary duty for a qualified default investment alternative (QDIA) [xvii]

The DOL clarified these requirements early in the Biden Administration in late 2021. [xviii] “Cautions plan fiduciaries against the perception that private equity is generally appropriate as a component of a designated investment alternative in a typical 401(k) plan. [xix] The DOL letter did not endorse or recommend PE investments.[xx]

During the Trump administration, Private Equity is expecting a friendlier DOL on messaging.   The DOL has never really engaged in any broad investment enforcement, and I expect we will see more of the same during the Trump administration.

Private Equity Does not meet exemptions standards for being a Prohibited Transaction.

Plan sponsors do not need to fear the DOL, but they do need to fear litigation if they invest in Private Equity.   Looking at all the ERISA attributes that Private Equity needs to be exempted from Prohibited Transactions – Private Equity flunks all the impartial conduct standards in numerous ways.

Private equity offering documents generally prominently state (in capital, bold letters) that an investment in a private equity fund is speculative, involves a high degree of risk, and is suitable only for persons who are willing and able to assume the risk of losing their entire investment.  Most contracts that PE can engage in borrowing, or leverage, on a moderate or unlimited basis.  There is no assurance of diversification since funds generally reserve the right to invest 100 percent of their assets in one investment.  There are also heightened legal, regulatory, operational and custody risk. [xxi]      

Private Equity has a myriad of conflicts of interest, self-dealing practices. The investment manager determines the value of the securities held by the fund. Such a valuation affects both reported fund performance as well as the calculation of the management fee and any performance fee payable to the manager. [xxii]    

Private Equity has business practices that violate ERISA in many ways. Private equity fund offering documents often disclose that investors agree to permit managers to withhold complete and timely disclosure of material information regarding assets in their funds. Further, the fund may have agreed to permit the investment manager to retain absolute discretion to provide certain mystery investors with greater information and the managers are not required to disclose such arrangements. As a result, the fund you invest in is at risk that other unknown investors are profiting at its expense—stealing from you. [xxiii] 

A Private Equity-like structure technically private debt has cost JP Morgan over $400 million in damages in 401(k) litigation.  This private debt was put in a state regulated JP Morgan CIT, which was put in JPM broad bond CIT, with was put in a JPM stable value CIT.[xxiv] 

Plan sponsors will have a tough time justifying Private Equity as being exempted as a prohibited transaction given these facts.   

Private Equity Performance and Valuation Issues

With such a lack of controls over the contracts, reliable valuation and performance in Private Equity is almost impossible and benchmarks are mostly useless.[xxv]

The entire justification Fiduciaries must rely on is the superior performance of Private Equity which has been proven to be mostly false after excessive fees.[xxvi] A report by University of Oxford professor Ludovic Phalippou shows that in the last 15 years, private equity firms generally have not provided better returns to investors than low-fee stock index funds. Prof. Phalippou has shown excess mostly hidden fees and expenses to exceed 6% killing net returns.[xxvii]   

Noted founder of investment consulting firm Richard Ennis in quoting Beath & Flynn 2020 study says that private equity (as a class of investment) in fact ceased to be a source of value-added more than a decade ago. [xxviii] Jeff Hooke of Johns Hopkins book the “Myth of Private Equity” goes into detail on the asset class and its numerous fiduciary flaws.  He documents that many performance claims are made up by the managers with no independent verification and are greatly exaggerated. [xxix]   Academic Wayne Lim finds Fees and Expenses totaling over 6-8%     The corresponding fee drag on gross-to-net total value to paid-in capital is 0.1x to 0.7x and 5% to 8% in annualized terms. [xxx]

Conclusion

Private Equity along with other illiquid contract investments are a potential Fiduciary Time Bomb for plans and their participants.   Does the fiduciary even know if the Private Equity contract is subject to ERISA or exempt.  Is the contract domiciled in the Cayman Islands?  If its buried in a target date fund, is it in a mutual fund, or a poorly regulated state CIT?

A lack of transparency makes it impossible for fiduciaries to prove that Private Equity contracts are worthy of a Prohibited Transaction exemption.   Worse, most have excessive fees and risks which cause real damages to participants.   While the Private Equity industry may be able to prevent regulation, the real threat of litigation will lead to prudent fiduciaries keeping Private Equity out of ERISA plans.

[i] https://commonsense401kproject.com/2022/02/15/private-equity-in-401k-plans-a-ticking-time-bomb/

[ii] https://www.wlrk.com/webdocs/wlrknew/AttorneyPubs/WLRK.25307.15.pdf https://www.ropesgray.com/-/media/files/prax-pages/erisa/erisa-compliance-2019.pdf

[iii] https://www.sec.gov/files/investment/private-funds-statistics-2023-q4.pdf

[iv] https://commonsense401kproject.com/2024/07/31/chris-tobe-dol-testimony/   In addition  Annuity providers bury mostly Private Debt in their weak state insurance regulators.

[v] https://www.sec.gov/newsroom/speeches-statements/gensler-etam-051624

[vi] https://www.forbes.com/sites/edwardsiedle/2020/06/13/dol-throws-401k-investors-to-the-wolves/

[vii]

[viii] Hal.Ratner@morningstar.com   Private Equity and Private-Market Funds in Managed Defined Contribution Plans  https://www.morningstar.com/business/insights/research/private-market-funds-dc-plans?utm_source=referral&utm_medium=center&utm_campaign=private-market-funds-dc-plans

[ix] Hal.Ratner@morningstar.com   Private Equity and Private-Market Funds in Managed Defined Contribution Plans  https://www.morningstar.com/business/insights/research/private-market-funds-dc-plans?utm_source=referral&utm_medium=center&utm_campaign=private-market-funds-dc-plan

[x] https://www.dol.gov/agencies/ebsa/about-ebsa/our-activities/resource-center/information-letters/06-03-2020

[xi] See, e.g., 29 CFR 2550.404c-1(d)(2)(iv) and 29 CFR 2550.404c5(b).

[xii] https://www.dol.gov/agencies/ebsa/about-ebsa/our-activities/resource-center/information-letters/06-03-2020

[xiii] https://www.dol.gov/agencies/ebsa/about-ebsa/our-activities/resource-center/information-letters/06-03-2020

[xiv] that satisfy the Financial Accounting Standards Board Accounting Standards Codification (ASC) 820, “Fair Value Measurements and Disclosures,”9 and require additional disclosures needed to meet the plan’s ERISA obligations to report information about the current value of the plan’s investments.

[xv] https://www.dol.gov/agencies/ebsa/about-ebsa/our-activities/resource-center/information-letters/06-03-2020

[xvi] https://www.dol.gov/agencies/ebsa/about-ebsa/our-activities/resource-center/information-letters/06-03-2020

[xvii] for the plan under 29 CFR 2550.404c-5. Moreover, as noted above, the fiduciary responsible for including the fund on the plan’s investment menu always retains responsibility for ensuring that the decision to retain the fund is consistent with the fiduciary responsibility provisions of Section 404 of ERISA.

[xviii] https://www.dol.gov/newsroom/releases/ebsa/ebsa20211221

[xix] https://www.dol.gov/newsroom/releases/ebsa/ebsa20211221

[xx] https://www.dol.gov/agencies/ebsa/about-ebsa/our-activities/resource-center/information-letters/06-03-2020-supplemental-statement

[xxi] https://commonsense401kproject.com/2022/02/15/private-equity-in-401k-plans-a-ticking-time-bomb/

[xxii] https://commonsense401kproject.com/2022/02/15/private-equity-in-401k-plans-a-ticking-time-bomb/

[xxiii] https://commonsense401kproject.com/2022/02/15/private-equity-in-401k-plans-a-ticking-time-bomb/

[xxiv] https://www.nytimes.com/2012/03/23/business/jpmorgan-discloses-it-lost-in-arbitration-to-american-century.html

[vii] https://casetext.com/brief/whitley-v-jp-morgan-chase-co-et-al_memorandum-of-law-in-opposition-re-49-motion-to-dismiss-first-amended

[viii] 

[xxv] https://commonsense401kproject.com/2024/11/29/crypto-private-equity-annuity-contracts-are-impossible-to-benchmark/

[xxvi] https://commonsense401kproject.com/2022/02/15/private-equity-in-401k-plans-a-ticking-time-bomb/ 

[xxvii] https://blogs.cfainstitute.org/investor/2024/11/22/a-reality-check-on-private-markets-part-iii/  https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3623820  an Inconvenient Fact Private Equity Returns U.of Oxford  Ludovic Phalippou

[xxviii]  https://richardmennis.com/blog/how-to-improve-institutional-fund-performance

[xxix] https://cup.columbia.edu/book/the-myth-of-private-equity/9780231198820

[xxx] https://rpc.cfainstitute.org/research/financial-analysts-journal/2024/accessing-private-markets-what-does-it-cost

Pension Risk Transfer Annuities should be Prohibited.  The Burden of proof is on plan sponsors to justify that they are prudent

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By Christopher B. Tobe, CFA, CAIA

Pension Risk Transfer Annuities (PRT’s) replace a solid diversified defined benefit plan with federal (PBGC) insurance, with a high single entity risk annuity with higher risks and weak state regulation. 

Pension Risk Transfers (PRT’s) shift the risk off the plan sponsor onto the backs of the participants.   This allows plan sponsors to lower costs and insurance companies billions at the expense of participants and retirees.

It appears that large pension plans have been in a hurry to close Pension Risk Transfer deals, before their victims the participants wake up and see the raw deal they are getting.[i] Regulators, to my knowledge, have never tested this risk with actuarial analysis.  Under industry pressure they came up after the Executive Life defaults IB95-1 a weak rule to pick the “safest available annuity”.  I think the premise of a least risky annuity would is like a less risky plane crash.

However, plan sponsors are not off the hook, due to the ability of plaintiffs to recover these losses through litigation.   The Burden of proof is on plan sponsors that their plan PRT Annuity contract has low enough risk to be exempted from being a Prohibited Transaction and is at a reasonable cost.

Fiduciary Breaches of PRT Annuity Contracts

PRT Annuity Contracts are a Fiduciary Breach for 4 basic reasons.[ii] 

  1. Single Entity Credit Risk[iii]  
  2. Single Entity Liquidity Risk in illiquid investments [iv]   
  3. Hidden fees spread and expenses [v]  
  4. Structure -weak cherry-picked state regulated contracts, not securities and useless reserves [vi]    

These breaches make it impossible for most annuity products to qualify for exemptions to Prohibited Transactions.[vii]  

The Federal Reserve in 1992 exposed the weak state regulatory and reserve claims of Fixed annuities in retirement plans.[viii]   In 2008 Federal Reserve Chairman Ben Bernanke said about these annuity products “workers whose 401(k) plans had purchased $40 billion of insurance from AIG against the risk that their stable-value funds would decline in value would have seen that insurance disappear.”[ix]  In the major stable value annuity source book,  single annuity like PRTs are shown to have 10 times the risk of a diversified fixed portfolio. [x]

.

The Burden of proof is on plan sponsors that they have documented due diligence on these risk issues and that their PRT Annuity contract is exempted from being a Prohibited Transactions. [xi]  

Fiduciary Transparency Conflicts Tests – Loyalty Excessive Compensation

As a plan sponsor you should put all products through these fiduciary transparency tests, I contend that annuities almost always flunk this basic level of care.

Annuities avoid transparency with poor state regulated structures which allow them to hide excessive risks and fees.    Annuity providers fight hard to avoid any Federal Regulations usually favoring state regulation in their home states where they are major employers and have higher political influence. Even industry insiders admit hidden fees are problematic to adopting annuities.[xii]

After the 2008 financial crisis several Insurers were forced into Federal Regulation under SIFI (too big to fail) they did everything to get out of the higher transparency and higher capital requirements.[xiii] 

Annuity contracts have been characterized by retirement group NAGDCA as having serious fiduciary issues.  “Due to the fact that the plan sponsor does not own the underlying investments, the portfolio holdings, performance, risk, and management fees are generally not disclosed.

It also makes it nearly impossible for plan sponsors to know the fees (which can be increased without disclosure) paid by participants in these funds—a critical component of a fiduciary’s responsibility “  [xiv]

Plans need to put their Loyalty to plan participants first which is their fiduciary duty.   They do not have loyalty to vendors such as money managers and annuity providers.

Annuities have an Inherent conflict because investment dollars leave the ownership of the plan and participants and become part of the balance sheet of the insurance company.   

Annuity contracts are designed to avoid all fiduciary obligation with no loyalty to participants.   Most annuity providers refuse to sign a “Fiduciary Acknowledgement Disclosure.” 

DOL official Khawar said. “” Under the National Association of Insurance Commissioners’ model rule, for example, “compensation is not considered a conflict of interest,” [xv]

Annuities have a total lack of disclosure of profits, fees and compensation.  They have secret kickback commissions.    How can a plan claim any of the compensation annuity provider receives is reasonable if it is secret and not disclosed.

Current Cases – Worst of Worst Athene-Apollo

PRTs have been operating under a weak DOL rule to pick the “safest available annuity”.  Over decades traditional insurers have made millions.  While default risk is present with traditional insurers, they do want to sustain the business long-term and avoid default.  When Private Equity players got involved, with their short-term mentality, they are set to strip billions in profits, not afraid to bankrupt companies and “kill the Golden Goose” for the traditional part of the business.

With these significant differences in risks and profit for the private equity insurers, it has created measurable damages that has jump started litigation. 

From Piercy v. AT&T filed on 3/11/24 says, AT&T turned its back on its retired workers, choosing to put the pensions of almost 100,000 AT&T retirees in peril, to secure AT&T an enormous profit. AT&T stood to gain—and did gain—more than $360 million in profit from this scheme The only losers in the transaction were AT&T’s retirees, who face the danger—now and in the future—that their lifelong pensions will go unpaid while they have lost all the protections of federal law.

As pointed out above the standard PRT is at least 10 times that of a diversified portfolio, but that an even riskier single entity credit risk like private equity backed Athene could have 20 times the risk. [xvi]

Most of the current PRT cases are against Apollo owned Athene.   Apollo is infamous with over

684 regulatory violations. [xvii]  Fines range from the DOJ $210 million fine for accounting fraud, to $53 Million by the SEC for misleading investors on fees. [xviii]   Other claims against Apollo are around investor protection violations, consumer protection violations, and the false claims act.

In early 2021 Apollo founder & CEO Leon Black resigned after paying $158 million in “tax advice” to Jeffrey Epstein.[xix]   In 2015 Apollo was involved in a massive pay to play scheme involving a trustee and CEO of CALPERS the US largest public pension.  The CALPERS CEO Buenrostro was sent to prison and the trustee Villalobos committed suicide before serving his term.[xx] 

Conclusion

In a submitted academic paper on Annuity risks it touts the risks of PRT’s.   It states the “Emperor has no Clothes” as the life insurance industry has poured billions of dollars into advertising, lobbying, commissions & trade articles with misinformation on annuities with everyone afraid to call out the obvious.[xxi]

The ultimate responsibility and the burden of proof goes on to the plan sponsor to prove this annuity purchase was for the benefit of participants.  Those who have pulled the trigger on these questionable annuity deals will probably face litigation. 

[i] https://www.chicagofed.org/publications/economic-perspectives/2024/5   https://www.chicagofed.org/publications/chicago-fed-letter/2024/494

[ii] https://commonsense401kproject.com/2022/05/11/annuities-are-a-fiduciary-breach/   https://commonsense401kproject.com/2024/11/29/crypto-private-equity-annuity-contracts-are-impossible-to-benchmark/

[iii] https://commonsense401kproject.com/2024/03/26/just-how-safe-are-safe-annuity-retirement-products-new-paper-shows-annuity-risks-are-too-high-for-any-fiduciary/  https://www.thinkadvisor.com/2024/11/20/yes-life-and-annuity-issuers-can-suddenly-collapse-treasury-risk-tracker-warns/ 

[iv] https://www.chicagofed.org/publications/economic-perspectives/2024/5   https://www.chicagofed.org/publications/chicago-fed-letter/2024/494

[v] https://www.bloomberg.com/news/articles/2013-03-06/prudential-says-annuity-fees-would-make-bankers-dance?embedded-checkout=true   TIAA https://www.nbcnews.com/investigations/tiaa-pushes-costly-retirement-products-cover-losses-whistleblower-rcna161198

[vi] Federal Reserve Bank of Minneapolis Summer 1992  Todd, Wallace  SPDA’s and GIC’s http://www.minneapolisfed.org/research/QR/QR1631.pdf  https://www.chicagofed.org/publications/economic-perspectives/1993/13sepoct1993-part2-brewer 

[vii] https://commonsense401kproject.com/2024/10/10/annuities-exposed-as-prohibited-transaction-in-401k-plans/

[viii] Federal Reserve Bank of Minneapolis Summer 1992  Todd, Wallace  SPDA’s and GIC’s http://www.minneapolisfed.org/research/QR/QR1631.pdf

[ix] http://www.federalreserve.gov/newsevents/testimony/bernanke20090324a.htm

[x] The Handbook of Stable Value Investments 1st Edition by Frank J. Fabozzi 1998 Jacquelin Griffin Evaluating Wrap Provider Credit Risk in Synthetic GICs pg. 272  https://www.amazon.com/Handbook-Stable-Value-Investments/dp/1883249422

[xi] https://commonsense401kproject.com/2024/11/19/burden-of-proof-is-on-plan-sponsors-hoping-to-qualifyfor-annuity-prohibited-transactions-exemption/

[xii] https://riabiz.com/a/2024/5/11/fidelity-voya-and-boa-smooth-blackrocks-launch-of-guaranteed-paycheck-etfs-but-401k-plan-participants-may-yet-balk-at-high-unseeable-fees-and-intangibility-of-benefits

[xiii] https://www.stanfordlawreview.org/online/the-last-sifi-the-unwise-and-illegal-deregulation-of-prudential-financial/

[xiv] http://www.nagdca.org/documents/StableValueFunds.pdf_ The National Association of Government Defined Contribution Administrators, Inc. (NAGDCA) September 2010.

[xv] https://www.thinkadvisor.com/2024/10/07/top-dol-official-sees-a-nonsensical-reality-at-heart-of-fiduciary-fight/

[xvi] The Handbook of Stable Value Investments 1st Edition by Frank J. Fabozzi 1998 Jacquelin Griffin Evaluating Wrap Provider Credit Risk in Synthetic GICs pg. 272  https://www.amazon.com/Handbook-Stable-Value-Investments/dp/1883249422

[xvii] https://violationtracker.goodjobsfirst.org/?company=Apollo

[xviii] https://www.ai-cio.com/news/apollo-fined-53-million-over-fees/

[xix] https://www.nytimes.com/2021/01/26/business/jeffrey-epstein-leon-black-apollo.html

[xx] https://www.latimes.com/business/la-fi-villalobos-suicide-20150115-story.html 

[xxi] Lambert, Thomas E. and Tobe, Christopher B., “Safe” Annuity Retirement Products and a Possible US Retirement Crisis (March 18, 2024). Available at SSRN: https://ssrn.com/abstract=4763269

Crypto, Private Equity, Annuity Contracts Are Impossible to Benchmark

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By Christopher B. Tobe, CFA, CAIA

Crypto, Private Equity, and Annuity contracts are impossible to Benchmark because of a lack of transparency accountability and liquidity.   Valid Benchmarks require investable securities.   These issues make it nearly impossible for any of these contracts to be exempted from being a prohibited transaction in an ERISA plan. [i]

According to the CFA Institute, a valid benchmark should meet the following criteria:

  • Specified in advance: The benchmark is defined before the evaluation period begins. 
  • Measurable: The benchmark’s return can be calculated regularly and in a timely manner. 
  • Unambiguous: The identities and weights of the securities in the benchmark are clearly defined. 
  • Reflective of current investment opinions: The manager is knowledgeable about the securities in the benchmark and their factor exposures. 
  • Accountable: The manager is aware of and accepts responsibility for the benchmark’s performance and constituents. 
  • Investable: The assets of the underlying index are available for purchase by investors. 

These attributes are impossible for contract-based investments like Crypto, Private Equity, and Annuities since you do not own any securities.  There is no accountability, they are ambiguous and use different forms of accounting than securities. 


Benchmarks can work when you compare a security-based active investment fund with a security-based index fund as highlighted in Brotherston vs. Putnam.[ii]

These are one sided contracts, not securities, in favor of the vendor and to the detriment of the investor.    Looking at these from an ERISA particularly 401(k) context these contracts have severe fiduciary issues which I feel prevent them from an exemption from prohibited transaction rules.  The Burden of Proof is on the Plan Sponsor to document that these contracts are not Prohibited Transactions.[iii]

 I think the conflicted contract nature of these investments allows them to manipulate or avoid benchmarks altogether.    While plan sponsors should never have entered into these contracts in the first place, how do you hold them accountable for the damages they have caused participants.   If you compare them against benchmarks to the lower risk investments they should have invested in, it conceals the damages.   You must find comparable contracts with the same types of high risk to find the actual damages.

Annuity Contracts

I wrote last month that Annuities should not be allowed in 401(k)s as Prohibited Transactions.  Annuities are a Fiduciary Breach for 4 basic reasons. [iv]

  1. Single Entity Credit Risk [v] 
  2. Single Entity Liquidity Risk in illiquid investments [vi]
  3. Hidden fees spread and expenses [vii]
  4. Structure -weak cherry-picked state regulated contracts, not securities and useless reserves [viii] 

These breaches make it impossible for most annuity products to qualify for exemptions to Prohibited Transactions which need to fill these 4 major obligations.  [ix]

A. Care Obligation

B. Loyalty Obligation

C. Reasonable compensation limitation

D. No materially misleading statements (including by omission

I do not believe few if any annuities meet these 4 obligations, and the

burden of proof is on the plan sponsor that the annuities they use in their ERISA plans have a valid exemption. [x]

I have extensive experience showing damage by annuity contracts in large 401(k) and 403(b) plans.   These are primarily fixed annuity IPG contracts within the broad category of stable value with no maturity and discretion by the insurer to pay rates that maximize their profits, at the detriment of participants.   Some Fixed Annuity providers will claim money markets as a benchmark, despite having over 20 times the risk.   The Federal Thrift Savings Plan has a high-quality stable value product, the G fund which they state is impossible to benchmark. [xi]    

Single entity Fixed annuity providers have attempted to compare to the diversified Hueler Stable Alue Index despite having 10 times the risk.  The proper comparable has been to other IPG fixed annuities with single entity risk, which has used in over a dozen cases specifically comparables like TIAA and MassMutual cited in detail in 2 ERISA Hospital Cases: Columbus, GA and Norton Hospital.

Private Equity Contracts

Private Equity contracts have mostly been contained in non-ERISA plans but this may be changing.  Economic and Policy Research’s Eileen Appelbaum said “Much as private equity firms may wish it were different, they have been mostly unable to worm their way into workers’ 401(k)s and abscond with their retirement savings,”[xii]

Private Equity flunks all the impartial conduct standards in numerous ways.

Private equity offering documents generally prominently state (in capital, bold letters) that an investment in a private equity fund is speculative, involves a high degree of risk, and is suitable only for persons who are willing and able to assume the risk of losing their entire investment.  Can engage in borrowing, or leverage, on a moderate or unlimited basis.  No assurance of diversification since funds generally reserve the right to invest 100 percent of their assets in one investment.  Heightened offshore legal, regulatory, operational and custody risk.[xiii]  

Private Equity has a myriad of conflicts of interest, self-dealing practices. The investment manager determines the value of the securities held by the fund. Such a valuation affects both reported fund performance as well as the calculation of the management fee and any performance fee payable to the manager. [xiv]

Private Equity has business practices that may violate ERISA. Private equity fund offering documents often disclose that investors agree to permit managers to withhold complete and timely disclosure of material information regarding assets in their funds. Further, the fund may have agreed to permit the investment manager to retain absolute discretion to provide certain mystery investors with greater information and the managers are not required to disclose such arrangements. As a result, the fund you invest in is at risk that other unknown investors are profiting at its expense—stealing from you. [xv]

Plan sponsors will have a tough time justifying Private Equity as being exempted as a prohibited transaction given these facts.   With such a lack of controls on the contracts, benchmarks are mostly useless.

Private Equity Benchmarks have been manipulated in U.S. public pensions to get higher bonuses not only for the Private Equity managers but for public government staff.  [xvi]   Private Equity benchmarks typically add a premium of 2%-6% to small cap index for leverage and liquidity.  I think the high end of this range could be appropriate for damage comparisons given the fiduciary issues of the assets.  

Crypto Contracts

Crypto has not been used extensively in ERISA plans as of now, but it is increasing.[xvii]

It was first discovered in Brokerage Windows, in which plans feel they have less fiduciary accountability.   Companies running Brokerage Windows have been paid $millions by Crypto companies to put their options on their Brokerage Window Platform. In the article, “401(k)s with Bitcoin Should Expect Lawsuits: Lawyers,” the trade publication “Ignites” quotes Jerry Schlichter as saying that.  Any employer who would follow the Fidelity lead by offering cryptocurrency and a 401(k) plan is exposing itself to very serious risk of a fiduciary breach…. As an unproven, highly volatile investment, Bitcoin would test the prudence standard under the Employee Retirement Income Security Act….The account will carry a fee of up to 90 basis points plus undisclosed commission fees, which would be 20 times as much as a simple index fund. Any 401(k) plans with a brokerage window will be subject to severe fiduciary liability unless they can prove they have provided 100% prudent options. This will most likely lead to much more litigation and many more settlements, as the cost of proving 100% prudent options will be extremely expensive. [xviii]   

Burden of proof is on plan sponsors that Prohibited Transactions crypto in their plans qualify for a Prohibited Transaction Exemption.  I have seen no evidence that any form of Crypto has met the qualifications for an exemption. 

The Department of Labor in 2022 severely questions the reliability and accuracy of cryptocurrency valuations.  A major concern is that cryptocurrency market intermediaries may not adopt consistent accounting treatment and may not be subject to the same reporting and data integrity requirements with respect to pricing as other intermediaries working with more traditional investment products.[xix]   Under that guidance, which the DOL issued last month (April 22), employers could be responsible for risky crypto trades their workers make in workplace 401(k)s. The DOL’s employee benefits enforcement agency will launch what it’s calling “an investigative program” that requires plan officials to “square their actions with their duties of prudence and loyalty” if they allow crypto investments in self-directed accounts, according to the guidance.[xx]

The CFA institute writes.  The unfortunate reality is that none of the proposed valuation models are as sound or academically defensible as traditional discounted cash flow analysis is for equities or interest and credit models are for debt. This should not come as a surprise. Crypto assets are more similar to commodities or currencies than to cash-flow producing instruments, such as equities or debt, and valuation frameworks for commodities and currencies are challenging.  Custody is challenging and there is significant technological risk.  As recently as 2018, researchers uncovered a bug in the bitcoin code that, if left unchecked and exploited, could have led to significant (theoretically infinite) inflation in the issuance of new bitcoin [xxi]

The lack of any valuation parameters makes benchmarks impossible.  Comparisons should be flexible.  One of the main comparisons should be the most popular Crypto asset Bitcoin. 

Corrupt Structures

Crypto, Private Equity and Annuities in ERISA plan are mostly hidden in corrupt structures.    Besides brokerage windows poorly state regulated separate account annuity products and Collective investment Trusts are places to hide these prohibited assets.  

Over 50% of 401(k) assets are in Target Date Funds which are made up of underlying funds.  This allows for less transparency of the underlying funds. 

However, historically the largest structure for Target Date Funds has been SEC registered Mutual Funds.   Mutual Funds have transparency and fiduciary standards that do not allow Crypto, Private Equity and Annuities. [xxii]    Federal OCC regulated Collective Investment Trusts (CITs) have transparency and fiduciary standards that do not allow Crypto, Private Equity and Annuities.[xxiii]  However, many state regulated CIT’s have weak or no transparency or fiduciary standards, so you can allow Crypto, Private Equity and Annuities.

Currently I believe the biggest threat of prohibited investments like Crypto, Private Equity and Annuities will be hidden in target date funds structured as state regulated CIT’s that I outlined in my DOL Advisory testimony in July 2024.[xxiv] 

Conclusions

 Since Crypto, Private Equity, Annuity contracts are impossible to Benchmark you need to use Comparables.     To make valid comparisons you have to compare them to other prohibited transactions that are materially similar, and looking at those similar funds with the best performance is valid for damages.    

[i] https://commonsense401kproject.com/2024/10/10/annuities-exposed-as-prohibited-transaction-in-401k-plans/

[ii] 117https://www.plansponsor.com/supreme-court-will-not-weigh-burden-proof-index-fund-comparison/ https://401kspecialistmag.com/brotherston-v-putnamsfar-reaching-401k-fallout/

[iii] https://commonsense401kproject.com/2024/11/19/burden-of-proof-is-on-plan-sponsors-hoping-to-qualifyfor-annuity-prohibited-transactions-exemption/

[iv] https://commonsense401kproject.com/2022/05/11/annuities-are-a-fiduciary-breach/

[v] https://commonsense401kproject.com/2024/03/26/just-how-safe-are-safe-annuity-retirement-products-new-paper-shows-annuity-risks-are-too-high-for-any-fiduciary/  https://www.thinkadvisor.com/2024/11/20/yes-life-and-annuity-issuers-can-suddenly-collapse-treasury-risk-tracker-warns/ 

[vi] https://www.chicagofed.org/publications/economic-perspectives/2024/5   https://www.chicagofed.org/publications/chicago-fed-letter/2024/494

[vii] https://www.bloomberg.com/news/articles/2013-03-06/prudential-says-annuity-fees-would-make-bankers-dance?embedded-checkout=true   TIAA https://www.nbcnews.com/investigations/tiaa-pushes-costly-retirement-products-cover-losses-whistleblower-rcna161198

[viii] Federal Reserve Bank of Minneapolis Summer 1992  Todd, Wallace  SPDA’s and GIC’s http://www.minneapolisfed.org/research/QR/QR1631.pdf  https://www.chicagofed.org/publications/economic-perspectives/1993/13sepoct1993-part2-brewer 

[ix] https://commonsense401kproject.com/2024/10/10/annuities-exposed-as-prohibited-transaction-in-401k-plans/

[x] https://commonsense401kproject.com/2024/11/19/burden-of-proof-is-on-plan-sponsors-hoping-to-qualifyfor-annuity-prohibited-transactions-exemption/  https://fiduciaryinvestsense.com/2024/09/25/chief-judge-of-the-5th-circuit-calls-out-his-brethren-on-decision-to-stay-the-dols-retirement-security-rule/#:~:text=As%20to%20coverage%20under%20the,of%20whether%20advice%20is%20given.

[xi] https://www.tsp.gov/funds-individual/g-fund/      https://www.frtib.gov/pdf/reading-room/InvBMarks/2017Oct_Benchmark-Evaluation-Report.pdf     

[xii] https://commonsense401kproject.com/2022/02/15/private-equity-in-401k-plans-a-ticking-time-bomb/     

[xiii] https://www.sec.gov/comments/s7-03-22/s70322-267369.htm 

[xiv] https://www.sec.gov/comments/s7-03-22/s70322-267369.htm 

[xv] https://www.sec.gov/comments/s7-03-22/s70322-267369.htm 

[xvi] https://www.nakedcapitalism.com/2022/04/calpers-consultant-global-governance-advisors-recommends-further-overpaying-grossly-underperforming-calpers-staff.html

[xvii] https://commonsense401kproject.com/2022/06/18/brokerage-windows-exposed-by-crypto/

[xviii] https://www.ignites.com/lead/c/3622614/465124?referrer_module=t.co: https://uselaws.com/media-turns-to-jerry-schlichter-for-guidance-following-fidelity-bitcoin-announcement/

[xix] https://www.dol.gov/agencies/ebsa/employers-and-advisers/plan-administration-and-compliance/compliance-assistance-releases/2022-01

[xx] https://www.dol.gov/agencies/ebsa/employers-and-advisers/plan-administration-and-compliance/compliance-assistance-releases/2022-01

[xxi] http://www.coindesk.com/the-latest-bitcoinbug-was-so-bad-developers-kept-its-full-details-a-secret.

Click to access 20200806.pdf

[xxii] https://commonsense401kproject.com/2022/02/22/cits-collective-investment-trusts-in-401k-the-good-and-the-bad/

[xxiii] https://www.occ.treas.gov/topics/supervision-and-examination/capital-markets/asset-management/collective-investment-funds/index-collective-investment-funds.html

[xxiv] https://commonsense401kproject.com/2024/07/31/chris-tobe-dol-testimony/