Enacted in 1974, ERISA celebrates its 45th birthday this year. A lot has changed in those 45 years. While ERISA has kept up with the changes at time, one area where ERISA has not stayed current is Section 404(b). Here we discuss this section in brief and offer a word of caution to ERISA fiduciaries pursuing global investment strategies.

ERISA Section 404(b) is a sneaky section, stuck between two arguably more prominent sections: Section 404(a), which sets forth the fiduciary duties, and Section 404(c), which helps fiduciaries protect themselves against claims of breach of those duties. But there between them—clocking in at a slim 44 words—is Section 404(b):

Indicia of Ownership of Assets Outside the Jurisdiction of District Courts.—Except as authorized by the Secretary by regulation, no fiduciary may maintain the indicia of ownership of any assets of a plan outside the jurisdiction of the district courts of the United States.

The secretary of Labor did indeed authorize such regulations, which were adopted in 1977 and amended in 1981. Not quite 45 years old, but nevertheless a lot has changed since then.

While a detailed analysis of Section 404(b) is beyond the scope of this blog post (and, in my experience, beyond the scope of most people’s patience), we will summarize the key points so that ERISA fiduciaries can identify when it may be necessary to dive into those murky waters.

The Section 404(b) regulations provide a narrow exception to its blanket prohibition on holding assets outside the jurisdiction of the district courts of the United States. The exception is narrow in that it only applies to two general categories of assets:

  1. Securities that are non-US securities in some way (either because the issuer is not a US entity or because the principal trading market of the security is not in the United States)
  2. Non-US currency held “solely as an incident to the purchase, sale or maintenance” of the securities otherwise covered by the Section 404(b) regulations

Importantly, the Section 404(b) regulations do not cover a number of things that a plan may invest in, such as US dollars, investment instruments that do not meet the definition of “security” (such as some swaps or other derivatives), and foreign currency held as an investment in its own regard (not just to carry out trading in non-US securities).

The ubiquitous use of electronic trading presents another question: What is the “indicia of ownership” of an entirely dematerialized investment instrument anyway? (And for that matter, what constitutes “indicia”?) The notion that an investment has a physical indicia that can be “held” in a physical place may be a concept that makes more sense in 1974 (or 1977 or 1981) than today.

Finally, Section 404(b) offers two basic avenues by which this narrow range of assets can be held. First, the assets can be under the “management and control” of a fiduciary, which is a bank, insurance company, or registered investment adviser with its principal place of business within the United States. Second, the assets can be held through a specified type of sub-custodian, a broker-dealer, or certain types of securities depositories meeting detailed, specific conditions.

So before a plan fiduciary starts thinking globally and pursuing an international mandate, it will want to discuss Section 404(b) compliance with its service providers. If there is an outside investment manager, the fiduciary should confirm its principal place of business and whether it has the capacity to satisfy the conditions of the Section 404(b) regulation. In addition, the fiduciary may wish to discuss with its trustee or custodian how international custody is handled. The major trustee banks in the United States have sub-custodian networks that may assist plan fiduciaries in achieving this objective.

Furthermore, care should be taken to identify those investment instruments that do not have the benefit of the Section 404(b) regulations in any event (such as US cash, swaps, foreign exchange positions) to confirm how they will be addressed.

Basically, if plan assets are leaving the country, an ERISA fiduciary would be well served to consider and confirm the implications of ERISA Section 404(b).