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Proposed Exemptions; Milan Uremovich, D.D.S., P.C. Profit Sharing Plan and Trust (the Plan) [06/29/2005]
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Volume 70, Number 124, Page 37434-37440
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DEPARTMENT OF LABOR
Employee Benefits Security Administration
[Application No. D-11175, et al.]
Proposed Exemptions; Milan Uremovich, D.D.S., P.C. Profit Sharing
Plan and Trust (the Plan)
AGENCY: Employee Benefits Security Administration, Labor.
ACTION: Notice of proposed exemptions.
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SUMMARY: This document contains notices of pendency before the
Department of Labor (the Department) of proposed exemptions from
certain of the prohibited transaction restrictions of the Employee
Retirement Income Security Act of 1974 (the Act) and/or the Internal
Revenue Code of 1986 (the Code).
Written Comments and Hearing Requests
All interested persons are invited to submit written comments or
requests for a hearing on the pending exemptions, unless otherwise
stated in the Notice of Proposed Exemption, within 45 days from the
date of publication of this Federal Register Notice. Comments and
requests for a hearing should state: (1) the name, address, and
telephone number of the person making the comment or request, and (2)
the nature of the person's interest in the exemption and the manner in
which the person would be adversely affected by the exemption. A
request for a hearing must also state the issues to be addressed and
include a general description of the evidence to be presented at the
hearing.
ADDRESSES: All written comments and requests for a hearing (at least
three copies) should be sent to the Employee Benefits Security
Administration (EBSA), Office of Exemption Determinations, Room N-5649,
U.S. Department of Labor, 200 Constitution Avenue, NW., Washington, DC
20210. Attention: Application No. ----, stated in each Notice of
Proposed Exemption. Interested persons are also invited to submit
comments and/or hearing requests to EBSA via e-mail or FAX. Any such
comments or requests should be sent either by e-mail to:
``moffitt.betty@dol.gov'', or by FAX to (202) 219-0204 by the end of
the scheduled comment period. The applications for exemption and the
comments received will be available for public inspection in the Public
Documents Room of the Employee Benefits Security Administration, U.S.
Department of Labor, Room N-1513, 200 Constitution Avenue, NW.,
Washington, DC 20210.
Notice to Interested Persons
Notice of the proposed exemptions will be provided to all
interested persons in the manner agreed upon by the applicant and the
Department within 15 days of the date of publication in the Federal
Register. Such notice shall include a copy of the notice of proposed
exemption as published in the Federal Register and shall inform
interested persons of their right to comment and to request a hearing
(where appropriate).
SUPPLEMENTARY INFORMATION: The proposed exemptions were requested in
applications filed pursuant to section 408(a) of the Act and/or section
4975(c)(2) of the Code, and in accordance with procedures set forth in
29 CFR part 2570, subpart B (55 FR 32836, 32847, August 10, 1990).
Effective December 31, 1978, section 102 of Reorganization Plan No. 4
of 1978, 5 U.S.C. App. 1 (1996), transferred the authority of the
Secretary of the Treasury to issue exemptions of the type requested to
the Secretary of Labor. Therefore, these notices of proposed exemption
are issued solely by the Department.
The applications contain representations with regard to the
proposed exemptions which are summarized below. Interested persons are
referred to the applications on file with the Department for a complete
statement of the facts and representations.
Milan Uremovich, D.D.S., P.C. Profit Sharing Plan and Trust (the Plan),
Located in Arvada, CO.
[Application No. D-11175]
Proposed Exemption
The Department is considering granting an exemption under the
authority of section 408(a) of the Act and section 4975(c)(2) of the
Code and in accordance with the procedures set forth in 29 CFR part
2570, subpart B (55 FR 32836, 32847, August 10, 1990).\1\ If the
exemption is granted, the restrictions of sections 406(a), 406(b)(1)
and (b)(2) of the Act and the sanctions resulting from the application
of section 4975 of the Code, by reason of section 4975(c)(1)(A) through
(E) of the Code, shall not apply to the leasing (the New Lease) by the
individual account in the Plan of Dr. Milan Uremovich (the Account), of
certain office space (the Office Space) to Milan Uremovich, D.D.S.,
P.C., (the Employer), a party in interest with respect to the Plan,
provided that the following conditions are met:
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\1\ For purposes of this proposed exemption, references to
specific provisions of Title I of the Act, unless otherwise
specified, refer also to the corresponding provisions of the Code.
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(a) The terms and conditions of the New Lease are at least as
favorable to the Account as those the Account could obtain in a
comparable arm's length transaction with unrelated parties.
(b) The fair market rental value of the Office Space leased to the
Employer is determined by a qualified, independent appraiser.
(c) The rent charged by the Account under the New Lease and for
each renewal term is, at all times, not less than the fair market
rental value of the Office Space, as determined by a qualified,
independent appraiser. The rental payments under the New Lease are
adjusted once every five years after the initial term and after each
renewal term by the qualified, independent appraiser to ensure that the
New Lease payments are not greater than or less than the fair market
rental value of the leased space. In no event may the rent be adjusted
below the rental amount paid for the preceding term of such lease.
(d) The fair market value of the Office Space represents, at all
times, no more than 25 percent of the total assets of the Account.
(e) The Account does not pay any real estate fees, commissions, or
other expenses with respect to the New Lease.
(f) The New Lease is a triple net lease under which the Employer,
as lessee, pays, in addition to the base rent, all normal operating
expenses associated with the Office Space, including real estate taxes,
insurance, maintenance, repairs and utilities.
(g) Dr. Uremovich is the only participant in the Plan whose Account
is affected by the New Lease.
(h) Within 90 days of the publication, in the Federal Register, of
the notice granting this exemption, the Employer files a Form 5330 with
the Internal Revenue Service (the Service) and pays all applicable
excise taxes under section 4975(a) of the Code that are attributed to
the past purchase of the Building by Dr. Uremovoich's individual
account in the Milan Uremovich, D.D.S., P.C. Profit Sharing Plan (the
Profit Sharing Plan), a
[[Page 37435]]
predecessor to the current Plan, and the leasing of Office Space in the
Building by the Profit Sharing Plan Account and the Account to Dr.
Uremovich.
Summary of Facts and Representations
1. The Employer (or the Applicant) is a Colorado corporation
engaged in the business of providing dental services. Dr. Uremovich is
the corporation's sole shareholder. Since 1974, the Employer has
operated a dental practice in a single story building (the Building)
containing 7,219 square feet of space. The Building is located at 11890
W. 64th Avenue. (This address is also known as ``11890 Ralston, Arvada,
Colorado.'') Until October 1, 2001, the Employer sponsored two
retirement plans, the Profit Sharing Plan and the Milan Uremovich,
D.D.S., P.C. Money Purchase Plan and Trust (the Money Purchase Plan),
which were then merged into the current ``Milan Uremovich, D.D.S., P.C.
Profit Sharing Plan and Trust'' (otherwise referenced herein as ``the
Plan'').
The Plan provides for individually directed accounts wherein each
Plan participant exercises investment discretion over the assets of
their respective accounts. Dr. Uremovich and Carol Uremovich, his wife,
serve as the directed trustees of the Plan. As of September 30, 2004,
the Plan had total aggregate assets of $2,706,515 and 7 participants,
including Dr. Uremovich. Also as of that same date, the Account had
total assets of $2,312,063. Among the assets of the Plan that are
currently allocated to Dr. Uremovich's Account is the Building in which
the Employer conducts its dental practice.
2. Prior to the October 1, 2001 merger of the Profit Sharing Plan
and the Money Purchase Plan, Dr. Uremovich directed his Profit Sharing
Plan Account to purchase the Building. The Applicant represents that
the acquisition of the Building presented an opportunity for the Profit
Sharing Plan Account to diversify its portfolio holdings among equity,
bonds, and property assets. Furthermore, at the time of the purchase,
equity and fixed income prices were falling while commercial real
estate prices were rising thereby making the Building a good
investment.
The Profit Sharing Plan Account acquired the Building for the total
cash consideration of $386,000. The seller was a former joint venture
group (the Joint Venture Group) comprised of Donald G. Richards, Edward
J. Seibert, Jr., and Dr. Uremovich. Each joint venturer held a \1/3\
ownership interest in the Building, as tenants in common. The Profit
Sharing Plan Account paid no real estate fees or commissions in
connection with the acquisition of the Building. At that time, the
purchase price represented 58% of the Profit Sharing Plan Account's
assets and 50% of the Profit Sharing Plan's total assets. The Applicant
states the Building was and continues to be clear of any mortgages or
encumbrances.
3. On August 20, 2000, Dr. Uremovich had the Building appraised by
Mr. Richard DeFord, S.R.A., a qualified, independent appraiser, who was
the President of DeFord and Associates, an independent appraisal firm
located in Lakewood, Colorado. Dr. Uremovich was contemplating
dissolving the Joint Venture Group and therefore requested that Mr.
DeFord establish the Building's fair market value. In a limited scope
appraisal, Mr. DeFord placed the fair market value of the Building at
$353,000 as of August 20, 2000. Mr. DeFord stated that the Building,
based on its overall condition and 100% occupancy, would sell at the
appraised value within 12 months. Therefore, he recommended the value
of the Building be discounted for the period of time required to sell
such property.
The Joint Venture Group also retained the services of Messrs. Basil
S. Katsarous, MAI, SRA and Daniel K. Sorrells, Associate Appraiser/
Certified General Appraiser, who were affiliated with West Terra (West
Terra), a real estate appraisal and consulting firm located in Denver,
Colorado, to determine the fair market value of the Building. In an
appraisal report dated November 10, 2000, the appraisers placed the
fair market value of the Building at $375,000 and the fair market
rental value of the rentable space in the Building at $15 per square
foot as of August 23, 2000.
It is represented by the Applicant that the Building's $386,000
purchase price was ultimately determined by averaging both the DeFord
and West Terra appraisals. In addition, the Profit Sharing Plan Account
paid 6.5% above the averaged price for a total purchase amount of
$386,000. At the time of the January 31, 2001 purchase transaction,
none of the underlying appraisals were updated to reflect the then
current fair market value of the Building.
4. As part of the terms of the purchase transaction, the Profit
Sharing Account assumed the existing leases in force. Among the lessees
was the Employer, which was already leasing 1,366 square feet of Office
Space in the Building from the Joint Venture Group under the provisions
of a written lease (the First Lease). The First Lease had an expiration
date of November 4, 2001 and required a monthly rental of $1,708. The
First Lease also provided for annual adjustments to the Colorado
Consumer Price Index.
The other lessees in the Building were, and continue to be,
unrelated parties. They are James Gallagher, D.M.D. and Calm Spirit
Acupuncture, Inc.
On June 1, 2001, the Profit Sharing Plan Account negotiated with
the Employer to increase the amount of square footage under the First
Lease from 1,366 square feet to 2,400 square feet pursuant to an
amendment to the First Lease. The amendment was not executed in writing
nor was there a corresponding increase in the rental amount.
On November 5, 2001, the Applicant explains that a new written
lease (the Second Lease) was entered into between the Employer and the
newly-merged Plan for an additional five year period ending on December
1, 2006. The Second Lease was allocated exclusively to Dr. Uremovich's
Account in the Plan as was the First Lease.\2\ The Second Lease
provides for a monthly rent of $4,000, which represented a rental
increase to $20 per square foot from the former rental amount of $15
per square foot. The Second Lease also provides that the rent be
adjusted each year in accordance with the Colorado Consumer Price
Index. Although the Second Lease was initially silent about which party
would be responsible for paying for utilities, real estate taxes and
insurance with respect to the leased premises, it did provide that the
Account would not be required to pay for any leasehold improvements.
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\2\ Because the Building and the New Lease have been allocated
to Dr. Uremovich's Account in the Plan, the ``Account'' rather than
``the Plan'' is hereinafter deemed to be the lessor for the purposes
of this exemption.
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In May 2003, the Second Lease was amended in order to clarify
certain of its provisions. In this regard, the Plan and the Employer
agreed that (a) the Employer would be responsible for paying its pro
rata share of real estate taxes, insurance and leasehold improvements
associated with the Office Space it occupied; (b) the annual rental
payment under such lease would be adjusted each November 1 during the
term of the Second Lease to reflect increases in the Colorado Consumer
Price Index made during the preceding year, but not decreases; (c) at
the time of expiration of the Second Lease on December 1, 2006, the
Employer would be eligible to renew the lease for two additional two
year terms; (d) the lease rate at the beginning of a renewal term would
be determined by a qualified, independent appraiser; and (e) during the
second year of each renewal term
[[Page 37436]]
under the Second Lease, the rent would be adjusted upward to reflect
increases in the Colorado Consumer Price Index, but would never be
adjusted downward.
It is represented that all times under the Second Lease, the
Employer has paid rent in a timely manner and there have been no
defaults or delinquencies in rental payments.
5. The Applicant represents that legal counsel failed to inform Dr.
Uremovich that the Building purchase and Lease transactions would
constitute prohibited transactions in violation of the Act. In this
regard, approximately 20 months after the transactions (i.e., September
2002), Dr. Uremovich had a conversation with different legal counsel
regarding updates to the Plan documents. In the course of the
conversation, Dr. Uremovich was made aware of the prohibited
transactions entered into by the Employer and the Profit Sharing Plan
Account. Subsequent to the conversation, Dr. Uremovich filed an
exemption application with the Department.
6. In conjunction with the preparation of the exemption
application, Dr. Uremovich consulted an independent real estate broker,
Mr. Charles S. Ochsner, President of REMAX Alliance of Arvada,
Colorado, a commercial and residential real estate brokerage firm, to
determine the fair market rental value of the Office Space occupied by
the Employer. In a ``look back'' appraisal report dated January 21,
2003, Mr. Ochsner concluded that the fair market rental value of such
Office Space was between $18-$21 per square foot for the period of
November 2001 through January 2003. Mr. Ochsner noted that the Building
was in good condition, situated in a very convenient location, and had
ample parking. He also noted that the Employer occupied the prime lease
space in the Building in terms of view and location. Therefore, Mr.
Ochsner concluded that the lease rate paid by the Employer was within
an acceptable range of fair market value rent.
7. Lease rates in the Building were also analyzed by Mr. Richard
DeFord. Taking into account other comparable rentals and the condition,
location, and features of the Building, Mr. DeFord concluded in a
``look back'' appraisal report dated May 14, 2003, that the fair market
rental value of the Office Space occupied by the Employer was $20 per
square foot for the period January 30, 2001 through February 1, 2003.
Mr. DeFord noted that this rate was in line with rental rates for good
quality dental space in 2001. In arriving at this figure, Mr. DeFord
explained that he took into account the fact that lease rates were high
for dentists and doctors because of the extra costs associated with
this type of lessee. According to Mr. DeFord, dentist and doctor
facilities require more water and air hookups, as well as many small
``check-up'' rooms.
8. Because the Building purchase and the Lease transactions appear
to reflect less than arm's length dealings between the Employer and the
Plan Accounts and were prohibited transactions in violation of the Act,
the Department is not prepared to provide exemptive relief for such
transactions. In this regard, the Profit Sharing Plan Account paid a
6.5 percent premium over the average of the two independent appraisals
in order to acquire the Building. In addition, Dr. Uremovich did not
obtain contemporaneous independent appraisals of the Building at the
time of the acquisition, at the inception of the First and Second
Leases, or when the Employer sought an increase in rental space.
Further, the Department notes that the Building represented a large
percentage of the Profit Sharing Plan Account's total assets at the
time of acquisition.
Therefore, the Applicant represents that within 90 days of the
publication, in the Federal Register, of the notice granting the
exemption, the Employer will File a Form 5330 with the Service and pay
all applicable excise taxes that are due. However, in order that the
Employer may continue leasing the Office Space from the Account under
the provisions of a new, written lease, the Applicant requests a
prospective administrative exemption from the Department.
9. Thus, the New Lease will be effective on the date the grant
notice is published in the Federal Register. It will have an initial
term of five years and will require a minimum rent of $4,130 per month
or $49,560 per year. Such rental amount will be based upon the fair
market rental value of the Office Space as determined by Michael J.
Martin, CFA, MAI,\3\ a qualified, independent appraiser, on the date
the New Lease is entered into by the parties. On April 16, 2005, Mr.
Martin determined that the fair market rental value of the Office Space
was $20.65 per square foot. Following the conclusion of the initial
term, the New Lease may be renewed for two additional terms, each of 5
year's duration.
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\3\ Michael J. Martin, CFA, MAI, is the founder of Meta Advisory
Services, Inc. of Centennial, Colorado. He has over twenty years of
experience in real estate, business and finance valuations. In May
2005, upon Mr. DeFord's unavailability, the Applicant retained the
services of Mr. Martin to update the DeFord November 24, 2003
appraisal report. In addition, Mr. Martin will also update the April
16, 2005 fair market rental update on the date of the New Lease's
execution.
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10. Rent for any of the two renewal periods under the New Lease
will be determined at the outset of such renewal period in an amount no
less than the Office Space's fair market value as established by a
qualified, independent appraiser, but it will be for no less than the
preceding lease term's rental value.
Under the New Lease, the Employer will pay all damages, costs and
expenses which the Account may suffer or incur by reason of any default
of the Employer or failure to comply with New Lease covenants, and all
Office Space costs associated with real estate taxes, fire insurance
premiums, water rent, sewer rent, electricity, gas, cost of
maintenance, repairs, utilities and agrees to indemnify and hold the
Account harmless against all claims, which might arise from the
Applicant's use of the Office Space. The New Lease will also require
the Employer to maintain personal and property liability insurance on
the leased premises. The Account will pay no fees or commissions in
connection with the administration of the New Lease.
11. The Applicant represents that the New Lease is in the best
interest of the Account because it will help maintain the value of the
Account's investment in commercial real estate by ensuring that the
property has a strong, long-term anchor tenant. Further, the New Lease
will help the Account maintain a suitable stream of income from its
investment.
12. In summary, it is represented that the proposed transaction
will satisfy the statutory criteria for an administrative exemption
under section 408(a) of the Act because:
(a) The terms and conditions of the New Lease will be at least as
favorable to the Account as those the Account could obtain in a
comparable arm's length transaction with unrelated parties.
(b) The fair market rental value of the Office Space leased to the
Employer at the inception of the New Lease and for each renewal term
will be determined by a qualified, independent appraiser.
(c) The rent charged by the Account under the initial term of the
New Lease and for each renewal term will, at all times, be no less than
the fair market rental value of the Office Space, as determined by a
qualified, independent appraiser. The rental payments under the New
Lease will be adjusted once every five years after the initial term and
after each renewal term by the qualified, independent appraiser to
ensure that the New Lease payments are not greater
[[Page 37437]]
than or less than the fair market rental value of the leased space. In
no event may the rent be adjusted below the rental amount paid for the
preceding term of such lease.
(d) The fair market value of the Office Space will represent, at
all times, no more than 25 percent of the total assets of the Account.
(e) The Account will not pay any real estate fees, commissions, or
other expenses with respect to the New Lease.
(f) The New Lease is a triple net lease under which the Employer,
as lessee, will pay, in addition to the base rent, all normal operating
expenses associated with the Office Space, including real estate taxes,
insurance, maintenance, repairs and utilities.
(g) Dr. Uremovich is the only participant in the Plan, whose
Account will be affected by the New Lease.
(h) Within 90 days of the publication, in the Federal Register, of
a notice granting this proposed exemption, the Employer will file a
Form 5330 with the Service and pay all excise taxes applicable under
section 4975(a) of the Code that are attributed to the former Profit
Sharing Plan Account's purchase of the Building and leasing of the
Office Space therein to Dr. Uremovich by the Profit Sharing Plan
Account and the Account.
Notice to Interested Persons
Because Dr. Uremovich is the only participant in the Plan whose
Account has been affected by the transactions, the Department has
determined that there is no need to distribute the notice of proposed
exemption to interested persons. Therefore, the comments and requests
for a hearing are due 30 days after the date of publication of the
notice of pendency in the Federal Register.
FOR FURTHER INFORMATION CONTACT: Ms. Silvia M. Quezada of the
Department, telephone (202) 693-8553. (This is not a toll-free number).
Edward D. Jones & Co., L.P. (the Applicant), Located in St. Louis,
Missouri
[Application No. D-11216]
Proposed Exemption
The Department is considering granting an exemption under the
authority of section 408(a) of the Act and section 4975(c)(2) of the
Code and in accordance with the procedures set forth in 29 CFR Part
2570, Subpart B (55 FR 32836, August 10, 1990). If the proposed
exemption is granted, the restrictions of sections 406(a)(1)(A) through
(D) of the Act and the sanctions resulting from the application of
section 4975 of the Code, by reason of section 4975(c)(1)(A) through
(D) of the Code, shall not apply to the extension of credit to the
Applicant, by certain IRAs whose assets are held in custodian accounts
by the Applicant, a party in interest and a disqualified person with
respect to the IRAs, in connection with the Applicant's use of
uninvested IRA cash balances (Free Credit Balance(s)) in such accounts,
provided that the following conditions are met:
(a) Neither the Applicant nor any affiliate has any discretionary
authority or control with respect to the investment of the cash
balances of the IRA that are held in the Free Credit Balance or
provides investment advice (within the meaning of 29 CFR 2510.3-21(c))
with respect to those assets;
(b) Edward Jones credits the IRA with monthly interest on its Free
Credit Balance at an annual rate no less than the bank national index
rate for interest checking, as reported in the Bank Rate Monitor. This
rate will be subject to a minimum rate level of 10 basis points
(0.10%);
(c) The interest rate will be no less than the rate paid by Edward
Jones on non-IRA Free Credit Balances;
(d) The IRA independent fiduciary has the ability to withdraw the
Free Credit Balance at any time without restriction;
(e) The Applicant provides in writing, to the IRA independent
fiduciary, prior to any transfer of the IRA's available cash into a
Free Credit Balance account, an explanation (i) that funds invested in
a Free Credit Balance are not segregated and may be used in the
operation of the business of the Applicant; (ii) of the method to be
used for crediting interest to the Free Credit Balance; and (iii) that
the funds are payable to the IRA on demand at any time;
(f) The IRA independent fiduciary approves the transfer of the
IRA's available cash into a Free Credit Balance account no less
frequently than once every three months, or once every month if there
is account activity for the particular month other than the crediting
of interest, together with or as a part of the customer's statement of
account; and
(g) The Applicant periodically provides a written statement
subsequent to the proposed transaction informing the independent IRA
fiduciary of the IRA that (i) such funds are not segregated and may be
used in the operation of the business of such broker or dealer, and
(ii) such funds are payable on the demand at the customer.
Summary of Facts and Representations
1. The Applicant is a brokerage firm with its principal office in
St. Louis, Missouri. It is a member of the National Association of
Securities Dealers, the New York Stock Exchange and the Chicago Stock
Exchange. The firm serves as custodian of self-directed IRAs, to which
it provides brokerage services. As of March 26, 2005, the Applicant had
2,005,000 IRA accounts, with total assets of $99.7 billion. The IRAs
fall into three categories:
------------------------------------------------------------------------
Number of Assets
Category Accounts (billion)
------------------------------------------------------------------------
Traditional IRAs.............................. 1,348,000 $90.3
Roth IRAs..................................... 571,000 4.4
SEP-IRAs...................................... 86,000 5.0
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The IRA accountholder is responsible to direct the Applicant with
respect to the investments to be made, retaining sole responsibility
for those investment decisions.\4\ Investments are limited to those
that are legally permissible for an IRA account and that are securities
that are obtainable through the Applicant in the regular course of its
business, such as mutual funds, stocks, bonds, certificates of deposit
and unit trusts. The Applicant charges each IRA account an
administrative fee of $30 per IRA account (which is sometimes waived),
as well as fees for brokerage services and reimbursement for its
reasonable expenses and any taxes paid with respect to the account.
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\4\ The Applicant will not have any authority, control or
responsibility concerning the IRAs and, as a result, the Applicant
has no discretion over uninvested IRA cash balances.
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2. Under the terms of the Applicant's retirement account
agreements, the Applicant is pre-authorized to conduct daily sweeps of
cash for its IRA accounts into a money market fund, to assure that all
IRA account assets are fully invested. The money market fund used is
the Edward Jones Money Market Fund (the Cash Fund), which currently
holds total assets of $10.8 billion. The cash may be a dividend or
interest payment that is too small to invest, an annual contribution
awaiting investment, or proceeds from investments, sales or maturities.
The sweep is conducted automatically, without any discretion
exercised on the part of the Applicant. All available cash is swept.\5\
The IRA accountholder determines when to withdraw the swept cash, so
that the
[[Page 37438]]
Applicant has no discretion over how long the cash remains in the Cash
Fund.
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\5\ The term available cash excludes, for example, the proceeds
of checks that have not yet cleared, so that Edward Jones is not
obligated to advance funds against amounts that ultimately may not
be collected.
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The Cash Fund is a registered mutual fund that invests primarily in
U.S. Treasury and government agency securities maturing in 397 days or
less, with a dollar-weighted average maturity of 90 days or less. As a
money market fund, it has the goal of maintaining a constant $1.00 net
asset value per share. It has two classes of shares, Investment Shares
and Retirement Shares. IRAs for which the Applicant is custodian
typically invest in the Retirement Shares.
The investment adviser to the Cash Fund is Passport Research Ltd.,
which is owned 50.5% by a subsidiary of Federated Investors, Inc. and
49.5% by the Applicant. It receives an annual investment advisory fee
on a sliding scale of 0.500% of net assets on the first $500 million
down to 0.400% of net assets over $2 billion--for the most recent
reported period, its advisory fee was 0.41%. The Cash Fund also pays
administrative and shareholder services fees to Federated Services
Company and the Applicant. The Applicant serves as the transfer and
dividend-disbursing agent for the Cash Fund, and receives a fee that is
a fixed dollar amount multiplied by the number of shareholder
accounts.\6\
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\6\ On December 12, 2004, the Securities and Exchange Commission
(SEC) instituted cease-and-desist proceedings pursuant to Section 8a
of the Securities Act of 1993 (Securities Act) and Sections 15(b)
and 21(c) of the Securities Exchange Act of 1934 against the
Applicant. The allegations included: (1) That the Applicant violated
Section 17(a)(2) of the Securities Act, Rule 10b-10 under the
Securities Exchange Act, Section 17a-4 of the Securities Exchange
Act, Section 15B of the Securities Exchange Act, and MSRB Rule G-15;
(2) that the Applicant effected sales in mutual fund shares and 529
Plans without disclosing its financial incentives to sell the fund
shares of preferred mutual fund families which compensated the
Applicant on the basis of revenue sharing; (3) that the Applicant
effected sales in mutual fund shares and 529 Plans without
adequately disclosing the amounts and source of remuneration
received in connection with the transactions either by written
document or on its public Web site; (4) that the Applicant failed to
ensure that adequate disclosure was contained in prospectuses and
Statements of Additional Information (SAIS) concerning revenue
sharing, directed brokerage payments or other incentives offered to
the Applicant; (5) that the firm failed to supervise, establish,
maintain and enforce adequate written supervisory procedures and
systems related to sales of preferred family mutual funds and 529
Plans, including the failure to properly review prospectuses and
SAIS of preferred fund families to make sure that they contained
adequate disclosures of potential conflicts of interest; and (6)
that the Applicant improperly encouraged its investment
representatives to favor the sale of mutual funds and 529 Plans on
the basis of the amount of revenue the Applicant received in
connection with those sales. To resolve these allegations, without
admitting or denying any misconduct, the Applicant has agreed to pay
$75 million in disgorgement and civil penalties. Going forward, the
Applicant has agreed, among other things, to place and maintain on
its Web site specific disclosures showing the information regarding
these disclosures to its customers. The Applicant is also required
to establish procedures documenting its basis for adding or removing
mutual fund families from its preferred list.
The Applicant represents that no revenue sharing is paid to the
Applicant in connection with the investment in the money market fund
since the investment adviser to the fund is partly owned (49.5%) by
the Applicant. The Applicant further represents that the SEC
investigation does not affect the proposed exemption because the
investigation and settlement did not target any conduct relating to
the money market fund, and the requirements of the settlement do not
affect the current sweep arrangement.
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While the Investment Share accounts are subject to a minimum
average monthly account balance requirement of $2,500, and are charged
a $3/month minimum balance fee in months when that requirement is not
met, the Retirement Share accounts are not currently subject to such a
requirement. As a result, as of September 30, 2003, there were
1,421,997 Retirement Share accounts holding $2,500 or less--91.0% of
the Retirement Share accounts, accounting for only 2.1% of total Cash
Fund assets--and over two-thirds of those (1,088,870 accounts) held
$100 or less--accounting for under 0.1% of total Cash Fund assets. The
consequence of having such a large number of small accounts with such
small balances is to increase the fixed costs attributable to the
Retirement Shares, particularly the transfer and dividend disbursing
agent fees that are based in large part on the number of accounts and
transactions. Thus, while the Investment Shares represent over four
times as much assets as the Retirement Shares, the transfer and
dividend disbursing agent fees deducted from the Retirement Shares
exceed the amount of such fees deducted from the Investment Shares
($4.8 million versus $4.6 million, for the year ended August 31, 2003).
The result is that the Retirement Shares currently bear an expense
ratio of 118 basis points, versus 86 basis points for the Investment
Shares. Because of the current low interest rates, the cost of transfer
agency services can result in minimal returns for the Retirement
Shares--currently down to 0.05%. To alleviate this problem, the
Applicant is planning to impose on the Retirement Shares the $2,500
minimum balance requirement, thereby subjecting accounts below that
balance to the $3/month minimum balance fee. At current market returns,
the minimum balance fee would more than offset any investment income.
3. The Applicant seeks exemptive relief to maintain the IRA cash
balances in the Applicant's broker-dealer account. The type of account
the Applicant is proposing to use is a customer cash account that holds
cash on deposit temporarily awaiting investment, drawn principally from
dividends and interest paid on securities held in the customer's
securities account. Unlike a subordinated loan, the cash can be
withdrawn on demand and used for trading and investment activity.
The Applicant represents that according to the SEC, the Securities
Investor Protection Corporation would presume that cash balances are
left in the securities account for the purpose of purchasing
securities, and would therefore be covered, absent substantial evidence
to the contrary. The Applicant also represents the following: The cash
accounts that would be used by the Applicant would not constitute loans
of the type not covered by SIPC insurance. Even though interest would
be paid, the accounts would be established pursuant to customer
relationships for the holding of cash accumulated through dividends,
interest and sales of securities, with the cash available on demand for
use in investment transactions. As such, the Applicant represents that
these would be free credit balances of the type that the SEC has
acknowledged are covered by SIPC insurance\7\. SIPC covers cash claims
up to $100,000 and the Applicant represents that a customer's free
credit balance, of the type Edward Jones contemplates using, would be
the type of cash that, assuming a ``customer'' relationship, is covered
as described in SEC Release No. 34-18262 (Nov. 17, 1981), ``Notice to
Broker-Dealers Concerning Interest-Bearing free Credit Balances\8\.''
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\7\ The Department expresses no opinion as to whether the Free
Credit balances are covered by SIPC insurance.
\8\ The Applicant represents that in an effort to ensure that
those persons who have contributed capital to the debtor do not
receive the special protection (priority) afforded customers under
the Bankruptcy Code and The Securities Investor Protection Act
(SIPA), Congress has seen fit to include language in both statutes
to deny this statutory priority to subordinated lenders. In SEC v.
F.O. Baroff Company, [1973-74] Fed. Sec. L. Rep. ] 94,576 (S.D.N.Y.
1974) the court dealt with securities that were transferred to a
broker as, in effect, a loan, to help the broker out of a cash bind.
Relying in part on the statutory provision described above, the
court found that because there was no reasonable expectation that
the securities would be used for trading or investment activity,
they were not covered by SIPC insurance--the person making the claim
simply was not in a ``customer'' relationship with the broker.
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4. The funds will be held by the Applicant as Free Credit Balances,
and will be treated as debt obligations of the broker-dealer to its
customers. The Applicant will pay the IRAs interest on
[[Page 37439]]
the amounts at no less than the bank national index rate for interest
checking, as reported in the Bank Rate Monitor.
This rate will remain be subject to a minimum rate level of 10
basis points (0.10%), so as not to disadvantage the IRAs transferring
assets from the Retirement Shares of the Cash Fund (which currently are
earning 5 basis points (0.05%)). The Applicant will commit to use, for
purposes of determining the monthly Free Credit Balance interest rate,
the targeted Bank Rate Monitor rate in effect on the first day of the
month during which the interest is to be paid.
A Free Credit Balance can be called on demand, and cannot be
treated as part of the broker-dealer's capital for minimum net capital
purposes--it is not an investment in the broker-dealer, but rather
customer funds. In addition, customer Free Credit Balances of the type
that would be used here are subject to reserve requirements, which are
designed to assure that these funds are used solely for the broker-
dealer's customer-related business and are protected against misuse and
insolvency.
5. Free Credit Balances are defined by federal securities law
regulations as ``liabilities of a broker or dealer to customers that
are subject to immediate cash payment to customers on demand, whether
resulting from sales of securities, dividends, interest, deposits or
otherwise (17 CFR 240.15c3-3(a)(8)).'' Until a Free Credit Balance
amount is repaid, it can be used in connection with the operation of
the broker-dealer's business. Rule 15c3-2 under the Securities Exchange
Act of 1934 (Rule 15c3-2) requires a broker-dealer to establish
adequate procedures governing the use of its Free Credit Balances,
providing as follows: (1) Each customer for whom a credit balance is
carried will be given or sent, together with or as a part of the
customer's statement of account, whenever sent but not less frequently
than once every three months, a written statement informing such
customer of the amount due to the customer by such broker or dealer on
the date of such statement; and (2) The statement must contain a
written notice that (a) such funds are not segregated and may be used
in the operation of the business of such broker or dealer, and (b) such
funds are payable on the demand of the customer. In compliance with
these requirements, the Applicant will provide a statement on customer
account statement in accordance with Rule 15c3-2.
Customers with Free Credit Balances are further protected by a
special reserve requirement. If the Applicant's total amounts owed or
payable to its customers that are attributable to, among other things,
Free Credit Balances exceed (subject to certain adjustments) the total
amounts receivable by the Applicant from certain sources related to its
customer accounts, the Applicant is required to maintain a minimum
level of deposits in a segregated special reserve account at a bank (17
CFR 240.15c3-3(e). Because Free Credit Balances are treated as part of
the assets and liabilities of the broker-dealer, they can be used in
the Applicant's business and thereby reduce its borrowing needs. The
Applicant will receive this benefit from the change; it also will lose
transfer agency and other fees it will otherwise receive from the money
market fund.
6. Compliance with the terms of the exemption will be monitored by
IRA fiduciaries independent of the Applicant, the IRA accountholders,
who will initially approve the cash sweep into the Free Credit Balance
accounts and monitor the balances in those accounts through receipt of
quarterly or monthly statements. For this reason, the Applicant
represents that the exemption will be administratively feasible because
the Department will not have to monitor the exemption's implementation
or enforcement.
7. Because the Applicant plans to impose a minimum balance
requirement (subject to a minimum balance fee) of $2,500 on the
Retirement Shares of the Cash Fund, uninvested cash below that level
will, under current market conditions, earn income that is less than
the fee imposed if swept into the Cash Fund. Absent exemptive relief,
the IRAs could suffer an economic loss on this cash in the form of lost
principal and/or investment income. If the requested exemption is
granted, making the Free Credit Balance option available, the small
amounts of cash deposited in the Free Credit Balance account will be
able to earn income pending investment.
8. Under the terms of the requested exemption, those IRA accounts
withdrawing from the Cash Fund will earn interest on their Free Credit
Balances that will not decrease below 0.10%, a rate that exceeds the
0.05% rate they were earning in the money market fund at the time of
withdrawal. The interest rate also will be no less than the same rate
paid by the Applicant on non-IRA Free Credit Balances. The independent
fiduciaries of those IRAs will be able to withdraw the Free Credit
Balances and reinvest them in other assets upon demand at any time. The
arrangement under which available cash will be invested in Free Credit
Balance accounts at the Applicant will be subject to the approval of an
IRA independent fiduciary with respect to each IRA following full
disclosure. The IRA independent fiduciary will be able to monitor the
accumulation in the Free Credit Balance account through quarterly or
monthly reports, and would be on notice of the interest rate to be
earned and that the amounts are payable to the IRA on demand at any
time.
9. In summary, the Applicant represents that the proposed
transaction satisfies the statutory criteria for an administrative
exemption under section 408(a) of the Act and section 4975(c)(2) of the
Code because: (a) Neither the Applicant nor any affiliate has any
discretionary authority or control with respect to the investment of
the cash balances of the IRA that are held in the Free Credit Balance
or provides investment advice (within the meaning of 29 CFR 2510.3-
21(c)) with respect to those assets; (b) the Applicant credits the IRA
with monthly interest on its Free Credit Balance at an annual rate no
less than the bank national index rate for interest checking, as
reported in the Bank Rate Monitor. This rate will be subject to a
minimum rate level of 10 basis points (0.10%); (c) The interest rate
will be no less than the rate paid by the Applicant on non-IRA Free
Credit Balances; (d) The IRA has the ability to withdraw the Free
Credit Balance at any time without restriction; (e) The Applicant
provides in writing to the IRA independent fiduciary, prior to any
deposit of the IRA's available cash into a Free Credit Balance account,
an explanation (i) that funds invested in a Free Credit Balance are not
segregated and may be used in the operation of the business of the
Applicant; (ii) of the method to be used for crediting interest to the
Free Credit Balance; and (iii) that the funds are payable to the IRA on
demand at any time; (f) The IRA independent fiduciary approves the
deposit of the IRA's available cash into a Free Credit Balance account
no less frequently than once every three months, or once every month if
there is account activity for the particular month other than the
crediting of interest, together with or as a part of the customer's
statement of account; and (g) The Applicant provides a written
statement subsequent to the proposed transaction informing the IRA
independent fiduciary that (i) such funds are not segregated and may be
used in the operation of the business of such broker or dealer, and
(ii) such funds are payable to IRA on demand.
[[Page 37440]]
Notice to Interested Persons
Notice of the proposed exemption shall be given to all interested
persons in the manner agreed upon by the applicant and Department
within 15 days of the date of publication in the Federal Register.
Comments and requests for a hearing are due forty-five (45) days after
publication of the notice in the Federal Register.
FOR FURTHER INFORMATION CONTACT: Khalif Ford of the Department,
telephone (202) 693-8540. (This is not a toll-free number.)
General Information
The attention of interested persons is directed to the following:
(1) The fact that a transaction is the subject of an exemption
under section 408(a) of the Act and/or section 4975(c)(2) of the Code
does not relieve a fiduciary or other party in interest or disqualified
person from certain other provisions of the Act and/or the Code,
including any prohibited transaction provisions to which the exemption
does not apply and the general fiduciary responsibility provisions of
section 404 of the Act, which, among other things, require a fiduciary
to discharge his duties respecting the plan solely in the interest of
the participants and beneficiaries of the plan and in a prudent fashion
in accordance with section 404(a)(1)(b) of the Act; nor does it affect
the requirement of section 401(a) of the Code that the plan must
operate for the exclusive benefit of the employees of the employer
maintaining the plan and their beneficiaries;
(2) Before an exemption may be granted under section 408(a) of the
Act and/or section 4975(c)(2) of the Code, the Department must find
that the exemption is administratively feasible, in the interests of
the plan and of its participants and beneficiaries, and protective of
the rights of participants and beneficiaries of the plan;
(3) The proposed exemptions, if granted, will be supplemental to,
and not in derogation of, any other provisions of the Act and/or the
Code, including statutory or administrative exemptions and transitional
rules. Furthermore, the fact that a transaction is subject to an
administrative or statutory exemption is not dispositive of whether the
transaction is in fact a prohibited transaction; and
(4) The proposed exemptions, if granted, will be subject to the
express condition that the material facts and representations contained
in each application are true and complete, and that each application
accurately describes all material terms of the transaction which is the
subject of the exemption.
Signed in Washington, DC, this 23rd day of June, 2005.
Ivan Strasfeld,
Director of Exemption Determinations, Employee Benefits Security
Administration, U.S. Department of Labor.
[FR Doc. 05-12834 Filed 6-28-05; 8:45 am]
BILLING CODE 4510-29-P
