Employee Retirement Income Security Act of 1974

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Be afraid. Be very afraid.

The Employee Retirement Income Security Act of 1974 (ERISA) (Pub.L. 93–406, 88 Stat. 829, enacted September 2, 1974, codified in part at 29 U.S.C. ch. 18) is a United States federal law which establishes minimum standards for pension plans in private industry and provides for extensive rules on the federal income tax effects of transactions associated with employee benefit plans. ERISA was enacted to protect the interests of employee benefit plan participants and their beneficiaries by:

• Requiring the disclosure of financial and other information concerning the plan to beneficiaries;
• Establishing standards of conduct for plan fiduciaries;
• Providing for appropriate remedies and access to the federal courts.
• ERISA is sometimes used to refer to the full body of laws regulating employee benefit plans, which are found mainly in the Internal Revenue Code and ERISA itself.

Plan assets

ERISA can get you in its clutches even if you aren’t (knowingly) an ERISA plan.

Investment vehicles

Be extra-specially warned: this is the untutored ramblings of a one who is not even a US attorney let alone an ERISA attorney

Close out

If there is more than a certain percentage of ERISA plan money (or money from other non-ERISA Government retirement plans with similar legislation) in a fund, it becomes itself subject to ERISA regulations, particularly penal tax and investor protection provisions, and also provisions affecting the ordinary winding up of the fund and therefore netting.

While some people will loosely talk of a “look-through” to the underlying fund it doesn’t seem right that you would look through the close out netting of a separate Fund legal entity to view the insolvency scenario of an underlying ERISA investor – particularly since the underlying investor will by no means necessarily itself be insolvent, just because a legally distinct fund it had invested in had blown up.

It seems more likely that by dint of its ERISA investment, the sleeve fund itself would be deemed subject to ERISA and therefore ERISA might intervene in the Fund's insolvency.

In any case in the UK the netting analysis depends on the good old fashioned corporate veil: Unless there is a reason (fraud etc.) to lift the veil and treat the proximate corporate entity (the Fund) as a sham, the corporate veil will not be lifted under English law: the fact that there is just one investor in the company is very clearly no reason to lift the veil in itself (else the majority of all corporate veils would be lifted). (I would have said exactly the same would apply in the US – but as per above happy to stand corrected)

There are no special rules applying to UK pension plans akin to ERISA that would change that (if what you say below is true) and nor is there an equivalent to the ERISA’s “contribution percentages”.

The credit/trading risk analysis would also be directed at the assets in the fund. There will be no recourse beyond them and I can’t see how the characterisation of the person contributing those assets in return for a structurally subordinated equity stake could make any difference, either in the UK or in the US.

ERISA netting

Famously, ERISA plans tend to be set not to net, and for the unholiest of reasons, courtesy of the opinions committee of a leading U.S. law firm which prudence counsels it would be wiser not to name, but upon whom the whole market relies.

This firm cannot bring itself to rule out the risk that, when resolving an insolvent ERISA plan, a court would interpret ERISA as incorporating the US Bankruptcy Code as it stood in 1971 to the insolvency of the plan, rather than the Code as it stands at the time of insolvency. That’s a problem, because the “safe harbors” one relies upon for safely closing out swaps were only put into the Bankruptcy Code in the 1980s. So, no netting against ERISA plans. Just in case.

Let me break that down:

• The Bankruptcy Code, today, contains a safe harbor allowing you to close out an ISDA Master Agreement without fearing for your netting, and has done for thirty odd years.
• The ERISA legislation, today, allows you to rely on available safe harbors in the Bankruptcy Code.
• Since ERISA was enacted in 1971, thought the very wisest eagle of the legal eagles, this might mean only the safe harbors that were there in 1971 count, even if they don’t exist today, and none of the safe harbors that have been enacted since, even if they still do exist, because when it refers to the Bankruptcy Code, ERISA doesn’t say “as amended from time to time”.

Seriously. That’s it.

It is a frankly fantastical fear: Not only is it hard to know, at this remove, what the US Bankruptcy Code said in 1971, much less how it might have been interpreted in those days, but many of the institutions and concepts it relies on may since have been abolished or materially changed. Who knows? perhaps some old safe harbors from the 1960s might apply to swaps. But then again, since there weren’t any swaps before 1981, it’s not exactly likely. It would be an imaginative legislator indeed who catered in 1971 for something no-one had even had the presence of mind to think up for another decade.

Originalism?

There is a school of thought in US constitutional law — “originalism” — that when construing a legal text one should extract the original understanding at its time of adoption, disregarding all subsequent changes in law, moral consensus or technology. This is popular with conservatives, the four Yorkshiremen, people who think they don’t make things like they used to, but who are in denial about how crappy things used to be, and indeed how impossible it is to know, over the years, what those who framed a text had in mind in the first place anyway. It is a, ostensibly, a device from preventing judicial activism in favour of express legislative and constitutional amendment, but is in its own way just as wilful an exercise in juicial imagination. Perhaps we should call it judicial passivism, or even judicial passive-aggressivism. It is also to assume that legislation — especially consitutional legislation — is easily amended. But the U.S. constitution has long since transcended mere legislation and as become some kind of sacred article of faith for the American people. No-one is amending that. All that is left is creative interpretation of what it means to suit the current social climate.

See also

• Safe harbor
• Pension Fund
• ERISA Reps
• Qualifying Professional Asset Manager (QPAM)
• Indicia of ownership where you have a non-US investment manager.