QUESTION: Our company sponsors a 401(k) plan with a company stock fund investment option. We have a fidelity bond, but we aren’t sure whether it meets ERISA’s bonding requirement. What bonding requirements apply to our plan? Might our bonding obligation have changed when we outsourced functions that used to be performed in-house?
ANSWER: ERISA generally requires that every person who “handles funds or other property” of an employee benefit plan, including a 401(k) plan, be bonded. The required bond, commonly known as a fidelity bond, protects plans against losses due to fraud or dishonesty by plan fiduciaries and others who handle plan funds, whether directly or through cooperation with others. It is not the same as fiduciary liability insurance, which provides broad coverage for employees and others who perform fiduciary functions for the plan but generally excludes fraud and dishonest practices.
If you have outsourced any plan functions that involved handling plan funds, or made certain other changes since you last reviewed your fidelity bond, it is possible your bonding obligation has changed. To help you assess your situation, here’s a review of ERISA’s bonding requirements as they apply to 401(k) plans:
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Funds Subject to the Bond Requirement. The phrase “funds or other property” of a plan (i.e., “plan funds”) includes “all property which is used or may be used as a source for the payment of benefits to plan participants,” including all plan investments. Plans funds include, but are not quite the same as, plan assets. For example, 401(k) elective deferrals are plan assets from the moment they can reasonably be segregated from the employer’s general assets, but they are not plan funds for bonding purposes until they are actually segregated from the employer’s general assets.
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Type of Bond Required. Fidelity bonds can take the form of an “individual bond” covering a named individual, a “name schedule” bond covering multiple named individuals, a “position schedule” bond covering individuals who hold specified positions, or a “blanket bond” covering anyone who handles plan funds. The bond must be obtained from an approved corporate surety company. (A list of approved companies is published in the Treasury Department’s Circular 570.) Neither the plan nor a party in interest to the plan can have any direct or indirect control or significant financial interest in the surety company.
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Who Handles Plan Funds? A person handles plan funds if that person (1) has physical contact with cash, checks, or other similar property; (2) is able to secure physical possession of plan funds; or (3) has the potential ability to transfer plan funds to themselves or to third parties. If a function that requires bonding is outsourced and the service provider is not exempt from ERISA’s bonding requirement, the plan’s fiduciaries will remain responsible for ensuring that the service provider is properly bonded.
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Amount of the Bond. Generally, a bond must be for at least 10% of the amount of funds handled by the covered person in the preceding plan year but not less than $1,000. The maximum required bond generally is $500,000, but for plans like yours that hold employer securities, the maximum is $1 million. For example, if your plan’s trust balance were $15 million at the close of a year, 10% of the plan’s assets would be $1.5 million, but the required bond would be $1 million because of the cap for plans with company stock. Retirement plans with fewer than 100 participants that can qualify for a waiver of ERISA’s audit requirements for the Form 5500 filing may be subject to additional bonding requirements (see our Checkpoint article).
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Exemptions. There is no small plan or small amount exception to the bonding requirement. However, certain types of fiduciary organizations (including FDIC-insured banks, trust companies, and others that are subject to equivalent state-law bonding requirements), and registered brokers and dealers that are subject to the fidelity bonding requirements of a self-regulatory organization, are exempt.
For more information, see EBIA’s 401(k) Plans manual at Sections XXIV.K (“Bond Requirement Under ERISA § 412”) and XXXI.D.4 (“Disclosure and Fidelity Bond Requirements for Small Plan Audit Waiver”).
Contributing Editors: EBIA Staff.
