Fiduciary Liability Insurance protects the fiduciaries of employee benefit plans for sums they are legally obligated to pay as a result of an actual or alleged "wrongful act" or breach of their fiduciary duties
under ERISA. The policy also provides coverage for defense expenses to defend a claim made against the fiduciary for an actual or alleged "wrongful act", after the insured pays the retention (deductible). When purchased (for an additional premium), Fiduciary Liability coverage is usually added by endorsement to the fund's E&O/D&O policy; although some funds opt to pay more for a separate policy in order to get a lower retention (deductible).
There are two ways that hedge funds may have a fiduciary liabilty exposure. First, the fund manager (investment adviser entity) may sponsor a retirement (401k) or health plan for its own employees. And second, if twenty-five (25%) percent or more of the fund's assets are owned by benefit plan investors (as defined under ERISA regulations and as modified under ERISA section 3(42) by the Pension Protection Act of 2006) then the fund may be deemed to hold plan assets, and the fund's investment manager will be deemed to be an ERISA fiduciary (note: Hedge Fund Insurance is not a law firm and cannot provide legal advice - please consult with qualified legal counsel to determine whether your firm has a fiduciary liability exposure). Under ERISA law, a fiduciary can be held personally liable - and fiduciaries may not be indemnified by the fund out of plan assets. Our hedge fund clients with a fiduciary liabilty exposure purchase this policy primarily to protect their personal assets. It is important to note that unless coverage is specifically added, an E&O/D&O policy will exclude ERISA claims.
Every insurer has a somewhat different policy form. The better forms have a broad definition of "wrongful act" and include many of the following features:
- Duty to defend;
- Broad definition of "claim" to include:
- Written demand
- Civil proceeding
- Criminal proceeding
- Formal administrative or regulatory proceeding
- Worldwide coverage;
- Marital property extension;
- Omnibus welfare plan coverage;
- Civil penalties under sections 502(i) and 502(l) of ERISA in definition of damages;
- Defense coverage for claims seeking benefits due to injunctive or equitable relief in the U.S.;
- No exclusion for:
- Failure of maintain insurance;
- Failure to collect contributions;
- Libel, slander, defamation;
- Severability of exclusions and application;
- Automatic coverage for:
- Sold plans;
- Terminated plans;
- Newly formed or acquired plans if plan assets are less than 10% of total plan assets;
- Continued coverage for:
- Merged plans;
- All plans for prior acts in the event of change in control;
- Bilateral Discovery - upon termination or cancellation for any reason, other than non-payment of premium, the insured organization may purchase an Extended Reporting Period ("tail").
The U.S. Supreme Court's decision in
LaRue v. DeWolff, Boberg & Associates, Inc. allows individual 401(k) plan participants to sue plan fiduciaries. This makes it more important than ever for hedge funds with 401(k) plans to purchase this important coverage.
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We need the following information to quote a Fiduciary Liability policy for your hedge fund:
- Copy of the Form 5500 for each sponsored plan
- Audited financial statement for each sponsored plan
- Details of any claims
- Completed and signed Fiduciary Liability application
Hedge Fund Insurance, a division of Frenkel & Co., Inc., has access to every major market in the U.S., London, and Bermuda. As brokers, we represent the policyholder and not the insurance company. Among the largest brokers in the country as ranked by
Business Insurance magazine, we have the market clout necessary to get you the best possible price. Some of the markets we place Fiduciary Liability policies with include:
- ACE USA
- Allied World Assurance Company (AWAC)
- American International Group (AIG recently changed the name of its property casualty operations to AIU Holdings, Inc.)
- Arch Insurance Group
- AXIS
- Catlin
- Chubb / Executive Risk
- CNA
- Hartford
- Houston Casualty (HCC/PIA)
- Lloyds of London
- Travelers
- XL
- Zurich
The most cost effective way for a hedge fund to purchase Fiduciary Liability coverage is to pay a relatively small additional premium to include it as part of the E&O/D&O policy. Some hedge funds purchase a separate Fiduciary Liability policy - either because they want a lower deductible or because they do not purchase an E&O/D&O policy. A separate Fiduciary Liability policy for most hedge funds will cost between $2,500 and $10,000 depending on the plan assets, the limit, and the claims history.
Hedge Funds typically have a low freqency of Fiduciary Liability claims. Some claim scenarios include:
- ERISA Claims against Madoff "Feeder Funds" - $500,000+
- The trustees of two multiemployer benefit plans brought a class action suit under ERISA against "feeder funds" that invested plan assets in Bernard L. Madoff-related investment funds. The trustees of the I.B.E.W. Local 43 and Electrical Contractors Welfare Fund and the Oswego County Laborors' Local 214 Pension Fund sued Beacon Associates LLC I and Beacon Associates LLC II (collectively, the feeder funds) in the U.S. District Court for the Southern District of New York on May 8, 2009. Also named as defendants are Beacon Associates Management Corp. (the investment adviser to the funds), Ivy Asset Management (sub-adviser) and several related individuals. The complaint alleges that the defendants directed the plans' assets to accounts controlled by Madoff and Madoff Investment Securities "without adequately investigating and conducting complete and proper due diligence," subjecting the plans' assets "to misappropriation by Madoff." The trustees allege breach of fiduciary duty of prudence, breach of the fiduciary duty of loyalty, failure to comply with plan documents, prohibited transactions, and co-fiduciary liability. The trustees seek restoration of the losses, disgorgement of investment management fees received, costs and expenses and attorney fees.
- Delayed transfer balance - $1,250,000
- A group of employees alleged that the newly selected outside plan administrator improperly delayed transferring fund balances in the plan from one investment option to another, as directed by the participants. Subsequently the employees sued the plan trustees to recover more than $1,000,000 in lost investment income. Defense expenses were $250,000.
- Failure to monitor investments - $858,000
- Legal action brought by employees alleged the wrongful elimination of a profitable investment option, improper selection of another and failure to monitor the actions of the outside investment manager. Defense costs were $358,000 and the court awarded the plaintiffs $500,000 in damages.
- Failure to provide information - $350,000
- Two employees approaching retirement age discovered they had never enrolled in the company’s 401(k) plan. The employees sued the company and plan trustees, alleging the plan administrators failed to properly advise them how to enroll and the enrollment was not automatic. The value of the alleged lost benefits exceeded $150,000, and defense expenses were in excess of $200,000.
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