Reed Smith Client Alerts

On June 3, 2020, the U.S. Department of Labor issued an information letter permitting individual account plans subject to the Employee Retirement Income Security Act of 1974 (ERISA), such as 401(k) and 403(b) plans, to offer private equity investments that are part of target date funds and other professionally-managed, multi-asset class vehicles. The letter gives assurances that private equity may be part of a prudent investment mix, provided a proper analysis is conducted by the plan’s fiduciaries. It does not, however, allow participants to direct investments specifically into private equity.

Authors: Andrew Douglass Allison Warden Sizemore Russell J. Boehner Shannon Mincemoyer

Background

Under ERISA, plan fiduciaries have a duty to prudently select and monitor each investment option offered under an individual account plan by conducting an objective, thorough, and analytical review of all relevant facts and circumstances. Although private equity investments have commonly been part of the asset portfolios used for defined benefit pension plans, they generally have not been included in investment funds used by defined contribution plans, such as 401(k) plans, primarily due to uncertainties around ERISA’s fiduciary obligations.

Scope of the information letter

The information letter provides that a plan fiduciary would not violate its fiduciary duties solely by offering a professionally managed asset allocation fund with a private equity component as an investment option under an ERISA-covered individual account plan. The information letter addresses private equity investments offered as part of a professionally managed multi-asset class vehicle structured as a target date, target risk, or balanced fund; however, it does not authorize offering private equity investments under such a plan on a standalone basis.

Selecting investment options

Private equity may provide plan fiduciaries with opportunities for broader diversification and greater returns than investment options offered solely from the public markets. However, before offering such an investment under an individual account plan, the letter cautions that fiduciaries must still follow a prudent process. In particular, a fiduciary must engage in a comparative review of the investment options by weighing funds that do not include private equity components against the opportunities for diversification and enhanced investment returns (along with potentially higher fees and higher risk) of funds with private equity components. Although the information letter opens the door to private equity investments in more types of ERISA-covered retirement plans, fiduciaries should continue to be cautious and carefully analyze all facts and circumstances when selecting and monitoring the investment options under 401(k) plans and other individual account plans.

Client Alert 2020-389