ERISA Fidelity Bond Requirements

ERISA section 412 requires that every person who handles funds or other property of an employee benefit plan be bonded. The bond protects the plan against loss from fraud or dishonesty by those people. Each person must generally be bonded for at least 10 percent of the amount of funds that person handled in the preceding plan year, with a floor of $1,000 and a ceiling of $500,000 per plan, rising to $1,000,000 for plans that hold employer securities. The bond is not insurance for the employer, and it is not a substitute for fiduciary liability insurance.

4J Insurance Brokerage is an independent employee benefits and commercial insurance brokerage in Frisco, Texas. Because we place both benefits programs and surety, we see this requirement from both sides: the compliance obligation on the benefits side and the bond placement on the surety side. This page explains the requirement itself. It is educational and is not legal advice.

What an ERISA fidelity bond is

An ERISA fidelity bond, also called a section 412 bond, protects an employee benefit plan against loss caused by acts of fraud or dishonesty on the part of the people who handle the plan's funds or other property. The regulations call those people plan officials.

The Department of Labor describes the covered conduct broadly: larceny, theft, embezzlement, forgery, misappropriation, wrongful abstraction, wrongful conversion and willful misapplication, whether the person acted alone or in concert with others. The bond must respond even where the person gained nothing personally and was never charged with a crime, provided a court in the state where the act occurred would afford recovery under a bond protecting against fraud or dishonesty.

The parties are the source of most confusion around this product, so they are worth stating plainly. The plan is the named insured. A surety issues the bond. The people covered are the plan officials who handle plan funds. If a plan official causes a loss to the plan through fraud or dishonesty, the plan makes the claim.

Why ERISA requires bonding

Plan assets are held for participants and beneficiaries rather than for the employer, while the people with day to day access to them are employees of the sponsor. Section 412 places a floor of protection under the plan that does not depend on the employer's solvency, insurance program or good faith. The protection runs to the plan, which is why the plan and not the employer is the insured.

Who must be bonded

Every person who handles funds or other property of an employee benefit plan must be bonded, unless an exemption applies. The test is the handling, not the job title and not fiduciary status.

What "handling" means

The regulatory standard is broader than physical custody. A person is treated as handling plan funds whenever their duties or activities in relation to those funds create a risk that the funds could be lost through fraud or dishonesty, acting alone or in collusion with others. The general criteria include:

• Physical contact with cash, checks or similar property, or the power to exercise such contact or control
• Power to transfer plan funds or other property to oneself or to a third party, or to negotiate such property for value
• Disbursement authority, or authority to direct disbursement
• Authority to sign checks or other negotiable instruments
• Supervisory or decision-making responsibility over activities that themselves require bonding

In a typical employer this reaches the plan administrator and the officers and employees whose duties involve receipt, safekeeping or disbursement of plan funds. It can also reach service providers, but only where the provider actually handles plan funds. Where the plan official is an entity rather than an individual, the requirement applies to the natural persons who perform the handling functions for it.

Two points that are frequently reversed

• Not every fiduciary must be bonded. A fiduciary is bonded only if they handle plan funds and no exemption applies. Naming someone a fiduciary does not by itself create a bonding obligation.
• Providing investment advice is not, by itself, handling. A person who advises but does not exercise or hold discretionary authority to buy or sell plan property is not required to be bonded solely for giving that advice. If they also perform handling functions, the requirement applies.

Who is responsible for making sure it happens

Responsibility can rest on several people at once. Section 412(b) makes it unlawful for a plan official to permit another plan official to handle plan funds without being properly bonded, and extends that prohibition to any other person with authority to direct the performance of those functions. A named fiduciary who hires a trustee is therefore responsible for confirming the trustee is either bonded or exempt, even if the named fiduciary handles no funds and needs no bond personally.

Which plans are subject to the requirement

The requirement does not reach every plan. It does not apply to plans that are completely unfunded, or to plans not subject to Title I of ERISA, which is where governmental and most church plans sit.

The unfunded exemption is narrower than employers expect. A plan is unfunded only where benefits are paid solely from the general assets of the employer or union and those assets stay unsegregated until benefits are paid. A plan is not unfunded if any of the following is true:

• Benefits are provided or underwritten by an insurance carrier or similar organization
• There is a trust or other separate entity receiving contributions or paying benefits
• Employees contribute, whether by withholding or otherwise
• There is a separately maintained bank account, or separately maintained books and records, or other evidence of a segregated fund from which benefits are paid

Two consequences catch employers out. A fully insured plan is not unfunded, so it is not exempt on that basis. And employee contributions generally take a plan out of the unfunded category, subject to one limited accommodation: where a welfare plan is associated with a cafeteria plan under Internal Revenue Code section 125 and meets the conditions of DOL Technical Release 92-01, the Department will treat it as unfunded for bonding purposes as a matter of enforcement policy.

Separately, even where an insured plan is not exempt, no bond is required if nobody handles the plan's funds. Where contributions are paid out of general assets to buy benefits from a carrier and are never segregated, paying that premium is not handling. The picture changes where money comes back to the plan, through benefit payments, dividends, credits or cash surrender belonging to the plan rather than to the employer or carrier, and a plan official handles it.

Other exemptions

Section 412 also excludes certain regulated financial institutions: banks and insurance companies meeting the statutory criteria on organization, supervision and capitalization, and entities registered as brokers or dealers under section 15(b) of the Securities Exchange Act of 1934 where they are subject to the fidelity bond requirements of a self regulatory organization. These are institutional exemptions and do not extend to the sponsoring employer's own staff.

How much bond is required

The amount is set per person, per plan, not as a single number for the employer.

The 10 percent rule

Each plan official must be bonded for at least 10 percent of the amount of funds that person handled in the preceding plan year. The amount cannot be less than $1,000, and the Department cannot require more than $500,000 per plan, or $1,000,000 per plan where the plan holds employer securities, absent action by the Secretary of Labor after a hearing.

Employer securities

The $1,000,000 maximum applies only where the plan actually holds employer securities within the meaning of ERISA section 407(d)(1). The Department's stated view is that a plan is not treated as holding employer securities merely because it invests in a broadly diversified pooled vehicle, such as a mutual fund or index fund, that is independent of the employer and holds employer stock among its assets.

When the amount is set, and when it is recalculated

The amount is fixed annually rather than adjusted continuously. It must be fixed or estimated at the beginning of the plan's reporting year, as soon after that date as the prior year's information can practicably be determined, based on the highest amount of funds the person handled in the preceding plan year. If funds handled increase after the bond is bought, it does not have to be updated mid-year. Where there is no complete preceding plan year, the amount handled must be estimated under the procedure in the regulations. This makes bonding an annual task tied to the plan year rather than a set-and-forget purchase, and a plan whose assets or contribution volume have grown materially since the bond was written is the common source of an underbonded finding.

A separate and larger requirement for some small plans

A small plan relying on the audit waiver has an additional condition. Where a person handles non-qualifying plan assets and those assets exceed 5 percent of total plan assets, that person must be bonded for at least 100 percent of the value of the non-qualifying assets, not 10 percent. This requirement sits on top of section 412 and is a frequent surprise for plans holding assets outside regulated custody.

What the bond must and must not contain

• No deductible. The bond must protect the plan from the first dollar of loss up to the required amount. Deductibles and similar features that shift part of the required risk back to the plan are prohibited. A deductible may apply to coverage above the ERISA-required amount.
• The plan must be identified. The plan whose funds are handled must be named on the bond, or identified in a way that lets the plan's representatives make a claim. An omnibus clause naming, for example, all employee benefit plans sponsored by a company, is acceptable.
• An approved surety. The bond must be placed with a surety or reinsurer named on the Department of the Treasury's Listing of Approved Sureties, Circular 570, and under stated conditions with Underwriters at Lloyd's. Neither the plan nor a party in interest may have control or a significant financial interest in the surety, reinsurer, or the agent or broker through which the bond is obtained.
• No "knew or should have known" exclusion. An exclusion for situations where the employer or plan sponsor knew or should have known a theft was likely is not acceptable, because the plan is the insured, not the sponsor.
• One plan's claim must not erode another's protection. Where a bond insures several plans, each plan must be protected as though bonded separately, and payment of one plan's loss must not reduce the coverage required to be available to the others.

Adding a plan to an existing crime policy

Employers commonly try to satisfy section 412 by adding the plan as a named insured to the company crime policy. That can work, but only if the resulting protection is complete. The Department's guidance addresses the common failure directly: if the crime policy excludes the company owner and the owner handles plan funds, the policy does not fully protect the plan as section 412 requires. The owner then needs a separate bond, or the ERISA rider on the crime policy must ensure the owner is not excluded with respect to the plan.

What the bond does not do

The bond covers fraud and dishonesty, and nothing else. It does not respond to losses from imprudent investment decisions, poor plan governance or excessive fees, all of which are fiduciary breach allegations rather than theft. It does not respond to administrative errors such as failing to enroll an eligible employee, or to employment claims of any kind. It does not defend the fiduciaries personally. And because the plan is the insured, it does not make the employer whole for anything.

How the ERISA bond differs from the products it is confused with

These are not interchangeable, because they protect different parties against different wrongs. The bond protects the plan against theft. Fiduciary liability protects fiduciaries against claims that they breached a duty. A crime policy protects the employer's own assets. An employer can hold every one of the others and still be out of compliance with section 412, and can hold a compliant bond with no protection at all against a fiduciary breach claim.

The plan versus employer axis is what most often causes real loss. A bond claim makes the plan whole and does nothing for the employer. A crime claim makes the employer whole and does nothing for the plan. For the administrative error exposure, see employee benefits liability coverage.

Common compliance mistakes

• Treating fiduciary liability insurance as the bond. Different instruments, different insured parties. Holding one says nothing about the other.
• Assuming a fully insured plan is exempt. Fully insured is not unfunded. The exemption turns on whether assets are segregated, not on how benefits are financed.
• Buying once and never revisiting. The amount is fixed at the start of each plan year against the prior year's funds handled, so growth in assets or contributions is the usual cause of an underbonded plan.
• Bonding only the person who signs the checks. Handling includes disbursement authority and supervisory responsibility over bonded activities, so the population is normally wider than one person.
• Relying on a crime policy that excludes the owner. If the owner handles plan funds and is excluded, the plan is not fully protected.
• Failing to name the plan. The plan must be identified on the bond, specifically or by omnibus clause, or it cannot make a claim.
• Overlooking the audit waiver bond. Small plans relying on the audit waiver may need 100 percent bonding of non-qualifying assets, not 10 percent.
• Accepting a deductible. A deductible within the ERISA-required amount is not permitted.

What is normally required to obtain a bond

For most employer-sponsored plans this is a straightforward placement. Expect to provide the legal name of the plan exactly as it should appear on the bond, the plan year, the sponsor's details, the funds handled in the preceding plan year or a supportable estimate where there is no full prior year, the resulting required amount, the names or classes of persons who handle plan funds, whether the plan holds employer securities, whether the plan relies on the small plan audit waiver, and details of any existing crime policy the plan might be added to. Bonds are commonly written for one year and may be written for longer periods.

Questions to ask before you renew

• Which of our plans are subject to section 412, and which if any are genuinely exempt?
• Who currently meets the definition of handling plan funds, and what was the highest amount each handled in the preceding plan year?
• Does the current bond amount satisfy 10 percent of that figure, subject to the minimum and maximum?
• Is the plan named on the bond, specifically or through an omnibus clause, and is the surety on the Treasury Circular 570 list?
• Does the bond carry any deductible within the ERISA-required amount?
• If we rely on a company crime policy, is any owner or officer who handles plan funds excluded from it?
• Are we relying on the small plan audit waiver, and if so are non-qualifying assets bonded at 100 percent?
• Do we separately carry fiduciary liability insurance, and was that a conscious decision?

ERISA fidelity bond FAQ

What is an ERISA bond?

A bond required by ERISA section 412 that protects an employee benefit plan against loss caused by fraud or dishonesty on the part of persons who handle the plan's funds or other property. The plan is the named insured, a surety issues the bond, and the people who handle plan funds are the persons covered.

What does an ERISA bond cover?

Loss to the plan by reason of acts of fraud or dishonesty by persons required to be bonded, whether acting alone or in collusion with others. The Department of Labor describes this as including larceny, theft, embezzlement, forgery, misappropriation, wrongful abstraction, wrongful conversion and willful misapplication. It does not cover fiduciary breach, administrative error or loss to the employer.

Who needs an ERISA bond?

Every person who handles funds or other property of a plan subject to Title I of ERISA, unless an exemption applies. Handling is broader than physical custody and includes the power to transfer plan property, disbursement authority, check signing authority and supervisory responsibility over activities that require bonding. Fiduciaries are bonded only if they also handle plan funds.

How much ERISA bond coverage is required?

Generally at least 10 percent of the amount of funds the person handled in the preceding plan year, with a minimum of $1,000 and a maximum of $500,000 per plan, or $1,000,000 per plan where the plan holds employer securities. The figures apply per person for each plan in which that person has handling functions.

Is an ERISA fidelity bond the same as fiduciary liability insurance?

No. The fidelity bond insures the plan against losses caused by fraud or dishonesty by persons who handle plan funds, and ERISA requires it. Fiduciary liability insurance generally insures against losses caused by breaches of fiduciary responsibility, and ERISA permits rather than requires it. Holding one does not satisfy the need for the other.

Are fully insured health plans exempt from the ERISA bonding requirement?

Not on the basis of being fully insured. A plan is exempt as unfunded only where all benefits are paid from the general assets of the employer or union and those assets are never segregated. Insured arrangements are not unfunded. In practice, a bond may still not be required for an insured plan if nobody handles plan funds, which can be the case where contributions go straight from general assets to the carrier as premium and nothing comes back to the plan.

Can the plan pay for the bond out of plan assets?

Yes. Because the bond protects the plan and does not relieve plan officials of their obligations to it, the Department has stated that a plan's purchase of a proper section 412 bond does not contravene ERISA's prohibited transaction provisions in sections 406(a) and 406(b).

Can an ERISA bond have a deductible?

No, not within the amount ERISA requires. Section 412 requires the bond to insure the plan from the first dollar of loss up to the required amount, so deductibles and similar features that transfer part of that risk back to the plan are prohibited. A deductible may apply to coverage purchased above the required amount.

Does the bond amount have to be updated during the plan year?

No. The amount is fixed annually at the beginning of the plan's reporting year based on the highest amount of funds the person handled in the preceding plan year. An increase in funds handled during the year does not require the bond to be updated mid-year, but it will affect the calculation at the start of the next plan year.

Can one bond cover more than one plan?

Yes. ERISA does not prohibit naming several plans on one bond, but the bond must allow each plan to recover at least what it would have recovered under a separate bond, and payment of a loss for one plan must not reduce the coverage required to be available to the others.

Where this sits in your benefits compliance work

The bond is one item on a wider compliance list that also covers plan documents, participant disclosure and reporting. Our ERISA employer responsibilities page covers the plan document, summary plan description and Form 5500 obligations, and the benefits compliance page sets out which law creates each duty and when it comes due.

Placement is a surety transaction rather than a benefits transaction, which is why the two conversations usually happen with different people at different firms. We run both, so if a bond needs to be placed or corrected it moves to our surety bonds practice and the calculation and the placement stay in one file.

Review Your ERISA Bond Requirement Call (469) 756-8776

Sources

• ERISA section 412, 29 U.S.C. 1112
• 29 C.F.R. 2550.412-1 and 29 C.F.R. Part 2580
• U.S. Department of Labor, Employee Benefits Security Administration, Field Assistance Bulletin No. 2008-04, Guidance Regarding ERISA Fidelity Bonding Requirements, November 25, 2008
• Small plan audit waiver bonding condition, 29 C.F.R. 2520.104-46
• U.S. Department of the Treasury, Listing of Approved Sureties, Department Circular 570

This page is educational and does not constitute legal, tax or benefits advice, and it does not determine any plan's obligations. Whether the bonding requirement applies to a particular plan, and in what amount, depends on that plan's facts and may require review by benefits, legal or accounting professionals. Bond terms are governed solely by the instrument as issued. 4J Insurance Brokerage is a broker and does not underwrite risk or issue bonds.