What Is an ERISA Bond?

Understanding ERISA Fidelity Bonds and Why They Are Required

What Is an ERISA Bond?
An ERISA bond, also known as an ERISA fidelity bond, is a type of insurance product meant to protect the plan participants, and their beneficiaries, of employer-sponsored retirement plans such as pensions. John Holcroft / Getty Images

On September 2, 1974, a law called The Employee Retirement Income Security Act of 1974, often shorthanded as ERISA, was enacted after being passed by the 93rd Congress and signed into law by President Gerald Ford. Along with a handful of other retirement-related legislation — e.g., The Taxpayer Relief Act of 1997, which created the Roth IRA; the Revenue Act of 1978, which created the 401(k) — ERISA stands out as one of the few laws passed in this nation's history that fundamentally changed the nature of retirement planning and administration in the United States because it created a regulatory framework around employer-sponsored retirement plans.

This regulatory framework had one overriding objective, which was to protect employees participating in an employer-sponsored retirement plan, as well as those employee's beneficiaries who might someday benefit from the plan.

Those familiar with ERISA will recall that Congress sought to achieve this objective in three well-known ways, each of which is supported by a myriad of rules and regulations: 1. It required employers to disclose certain information, including certain financial information, about the employer-sponsored retirement plan, 2. It created rules of conduct that were required for those acting as a fiduciary of an employer-sponsored plan, and 3. It granted both plan participants and the beneficiaries of plan participants, certain rights in the U.S. federal court system, including granting the federal courts jurisdiction and allowing plan participants and their beneficiaries harmed by the misconduct or incompetence of plan sponsors the right to seek restitution and remedy.

One of those rules and regulations involves something known as an ERISA bond.

What Is an ERISA Bond?

An ERISA bond, also known as an ERISA Fidelity Bond or a Fidelity Bond, is a special insurance policy that protects a retirement plan covered under The Employee Retirement Income Security Act (ERISA) against losses that result from fraud or dishonesty.

According to the Department of Labor, which is the government agency responsible for administering ERISA and ensuring compliance with the law, the definition of fraud or dishonesty as it pertains to ERISA bonds includes "larceny, theft, embezzlement, forgery, misappropriation, wrongful abstraction, wrongful conversion, willful misapplication, and other acts".

How Is an ERISA Bond Different From Other Types of Insurance Coverage?

ERISA bonds have very specific terms and conditions that must be included in order to be compliant with the law and the Department of Labor's regulations. First, an ERISA bond cannot include any deductible or other provisions that would result in an economic effect similar to a deductible in the insurance contract because all losses caused by fraud or dishonesty must be covered from the very first penny. Second, an ERISA bond must explicitly name the employer-sponsored retirement plan itself as the beneficiary of the insurance policy so that the plan, and therefore the plan participants and their beneficiaries, can be restored.

How Much Insurance Coverage Does an ERISA Bond Need to Include?

Assuming we are discussing a single employer-sponsored retirement plan, the ERISA bond coverage is usually determined as follows:

  • Each person handling or having access to funds, including cash and/or securities of an employer-sponsored retirement plan, must be covered for up to 10 percent of the amount he or she handled or to which he or she had access in the previous year.
  • The coverage cannot be less than $1,000 or more than $500,000 unless the employer-sponsored retirement plan includes securities issued by the employer — e.g., a company such as Procter & Gamble holding shares of P&G common stock in the plan — in which case, the maximum coverage required cannot exceed $1,000,000.

For example, if you ran a successful business that had $7,000,000 in total assets within the plan, the plan contained no securities issued by the employer, and there were two employees who had access to the money, each of those employees would need to be covered under the plan's ERISA bond for $500,000.

This is the case because $7,000,000 x 10 percent = $700,000 but $700,000 exceeds the maximum permitted ERISA bond requirement of $500,000. If, on the other hand, this plan did include employer-sponsored securities, each of those two employees would need to be covered for $700,000 because $700,000 is less than the $1,000,000 maximum cap that applies to plans holding those types of investments.

Note that an employer can decide to purchase larger coverage amounts under its ERISA bond to protect plan participants and their beneficiaries though the Department of Labor points out that this would involve a fiduciary decision about whether or not the trade-offs of the higher expenses justified the additional benefits.

Who Pays for an ERISA Bond?

Due to the fact the ERISA bond covers the employer-sponsored retirement plan itself, it is considered acceptable for the employer-sponsored plan to pay the ERISA bond premiums using plan funds.

Who Is Required to Be Covered By an ERISA Bond?

The Department of Labor states that "[e]very person who 'handles funds or other property' of an employee benefit plan is required to be bonded unless covered by an exemption under ERISA. ERISA makes it an unlawful act for any person to 'receive, handle, disburse, or otherwise exercise custody or control of plan funds or property' without being properly bonded." [Source: Page 2 of the Department of Labor Publication, Getting It Right Know Your Fiduciary Responsibilities Protect Your Employee Benefit Plan with an ERISA Fidelity Bond].

For the purposes of ERISA, the term "funds" includes a wide range of assets; e.g., the Department of Labor makes it a priority to point out that "land and buildings, mortgages, and securities in closely-held corporations" are included in the definition so you aren't just talking about publicly traded stocksbondsmutual fundsexchange-traded funds, etc. The term "funds" also includes both employer and employee contributions, whether those contributions are in the form of cash, checks, or other property, as the ERISA bond needs to be in place to protect against those assets being embezzled or somehow misdirected before being invested.

The Department of Labor then goes on in that same publication to identify six tests that indicate a person is "handling" funds during the prior year. These tests are:

  1. Did the person have physical contact with cash, checks, or similar property belonging to the employer-sponsored retirement plan?
  2. Did the person have the authority or power to transfer funds from the employer-sponsored retirement plan to himself or herself, or to a third-party?
  3. Did the person have the authority or power to negotiate plan property? The Department of Labor provides examples such as taking out a mortgage on a piece of real estate, holding the title to land or buildings, or physically possessing stock certificates.
  4. Did the person have some other disbursement authority or authority to direct disbursement?
  5. Did the person have the authority to sign checks or other negotiable instruments drawn against the funds in the employer-sponsored plan?
  6. Did the person have "[s]upervisory or decision-making responsibility over activities that require bonding"?

At the heart of these tests is a general attempt to figure out whether or not someone has the opportunity to physically steal or misappropriate assets or the authority to do so by changing the rules or people in charge of assets.

What Is the Difference Between a 1st-Party ERISA Bond and a 3rd-Party ERISA Bond?

A 1st-party ERISA bond is one that an employer-sponsored retirement plan acquires for itself. A 3rd-party ERISA bond is one that covers a service provider, such as a registered investment advisor the plan has hired to manage plan assets. In the case of a 3rd-party ERISA bond, the service provider usually provides to the insurance company a list of all ERISA-covered accounts or plans it manages. For 3rd-party ERISA bonds, the coverage amounts might exceed the previously-discussed limits because each plan or account is calculated on its own.

Which Types of Insurance Companies Are Allowed to Issue ERISA Bonds?

The ERISA bond market is highly regulated. ERISA bonds must be issued by an underwriter, such as a surety company or reinsurer, that is identified in an official government publication known as the Department of the Treasury’s Listing of Approved Sureties, Department Circular 570. The Department of Labor notes that, in certain situations that usually don't apply to most plans, an ERISA bond can be acquired from a specialty insurance market known as the Underwriters at Lloyds of London.

There's also one other catch: ERISA bonds must be issued by an independent insurance company and acquired through an independent insurance broker. If you have a significant financial interest in either, you can't buy your ERISA bond through that business. For example, if you own a manufacturing business but also have a big stake in a local insurance agency, you couldn't buy the ERISA bond for your manufacturing business through your own insurance agency.

Are There Any Situations Where a Person or Plan Is Exempt From the Requirement to Maintain ERISA Bond Coverage?

Yes. ERISA bonds are not required for:

  • Organizations that are included in the Title 1 section of ERISA, which includes church retirement plans, government retirement plans, and certain other plans. In the case of the former, this was done as an accommodation to religious organizations to ease their regulatory burden and give them special treatment given they are viewed, rightly or wrongly, as being largely charitable organizations.
  • Some types of organizations that are involved in the financial industry and that are already highly regulated. According to the Department of Labor, this includes, "certain banks, insurance companies, and registered brokers and dealers".
  • Employer-sponsored retirement plans that are "completely unfunded"; i.e., those in which the plan benefits are general liabilities and obligations of the employer.

How Much Do ERISA Bonds Cost?

The good news is that ERISA bonds are incredibly affordable; easily among the least expensive insurance coverage products on the market when you consider the total amount being covered. Usually, an ERISA bond is going to cost no more than a few hundred or a few thousand dollars depending upon the overall size of the employer-sponsored retirement plan.

One Final Note About ERISA Bonds

ERISA bonds are meant to protect employer-sponsored retirement plans from the mismanagement of those handling funds or the fiduciaries in charge of the plan. As an insurance product, an ERISA bond is fundamentally different from so-called fiduciary liability insurance. The latter is a special type of insurance contract that can cover either or both the fiduciary and/or the plan against breaches of fiduciary responsibility.