Limits on 401(k) Plan Brokerage Windows

Parker Poe Adams & Bernstein LLP

Many companies have recently modified their 401(k) plans to add a “brokerage window,” sometimes also known as a “self-directed account” or “self-directed brokerage account.” Rather than limiting participants to specified investment options (which may or may not include the employer’s own stock), plans with brokerage windows offer participants the ability to trade most of the listed stocks, mutual funds and exchange-traded funds within a brokerage’s offering.

Leaving aside whether this level of investment freedom is advisable for many retirement plan participants, employers must consider the Securities Act implications of providing such an option. Companies that allow employees to purchase employer stock through their 401(k) plans are already well aware of the securities law requirements and restrictions related to that plan feature. However, what if a plan with no employer stock investment alternative is modified to include a brokerage window that does not prohibit employee contributions from being invested in employer stock? Could this constitute an offer of employer stock requiring Securities Act registration?

While this might seem like a stretch, the SEC previously addressed analogous concerns in the context of employee stock purchase plans. A new CDI 139.33 from the Division of Corporation Finance now provides guidance on exactly this issue regarding 401(k) plans by referring back to its long-standing ESPP guidance.

The answer, says the staff, depends on the extent of the employer company’s involvement in the brokerage window investment option. The concern is whether there is an “attempt or offer to dispose of, or solicitation of an offer to buy, a security or interest in a security, for value” within the meaning of Securities Act Section 2(a)(3) and depends on the degree and type of participation by employer companies or their affiliates.

The CDI states that, in the context of a self-directed brokerage window in which plan participants could trade in employer securities with employee contributions, the staff will not consider the employer to be offering its stock to its employees for purposes of Securities Act registration where the employer company and the 401(k) plan do no more than:

  • describe the brokerage window as part of the investment alternatives under the plan,
  • make payroll deductions, and
  • pay administrative expenses not in any way tied to particular investments selected by employees,

and take no action to draw employees’ attention to the possibility of investing in employer securities through the brokerage window.

This approach is generally consistent with the staff’s position regarding the registration of open market employee stock purchase plans set forth in SEC Release 33-4790 issued way back in 1965.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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