ABSTRACT PSNTs are attracting more attention. Could this new focus increase regulatory oversight or spur transformational rulemaking? We don’t think so. PSNTs already operate in a highly indirectly regulated environment. Regulatory entities govern all of the component parts of PSNTs including investments, banking, nonprofit status, fundraising, activities of the PSNT administrator, and disability and related benefits that impact beneficiaries. The more likely path is that an absence of widespread disclosure and consistent adherence to well-defined industry quality standards, plus growth, draws regulatory attention and enforcement.
There is a view that transformational regulation and/or enforcement is coming, inevitably, to the Pooled Special Needs Trust (PSNT) industry. This scenario envisions that regulation can be accelerated by increased attention or decelerated by adherence to “best practices.” Other concerns include the idea that the codification of PSNTs in ’93 resulted in unintended consequences which will come to regulators’ attention along with a desire to constrain them, and/or that PSNTs are not currently regulated.
We see things a little differently. We see a greater likelihood that regulators will become concerned that growth in the PSNT industry has not been accompanied by both 1) broad and robust disclosure that allows beneficiaries and those whose advise and care for them to make decisions founded in facts and data, and 2) widespread adherence to well-defined industry standards of excellence. Rather than needing to issue new regulations, we see room for regulators to enforce existing regulations.
Evolution v. Revolution
Regulators address risky behavior they view as presently or potentially disruptive. They do that by creating rules (rulemaking is its own process), enforcing them, and by addressing violations with tools like litigation and fines. They lean reactive rather than anticipatory.
In the moment, the pooled special needs trust industry does not appear to be widely disruptive to people or capital markets. Rather, the PSNT market is experiencing a version of what’s going on in Cryptocurrency, which is often described as the “Wild West.” Unlike Crypto, which is so new that regulations are not fully established, PSNTs do not lack for regulations to follow or regulators to inquire about them, including:
- Securities Exchange Commission (SEC), which regulates investment advice and management, including communication regarding investments
- State Attorney’s General, known to jump in on investment-related consumer complaints and issues and responsible for oversight of nonprofit entities
- Bank regulators, including the Office of the Comptroller of the Currency (OCC), the Federal Deposit Insurance Corporation (FDIC) and others, govern bank operations including trusts
- IRS, controls tax status of the nonprofit trust administrator
- States establish audit and fundraising registration requirements
- Social Security Administration (SSA) rules govern eligibility for means-tested benefits, and direct how the PSNTs must be organized so beneficiaries qualify for these benefits
PSNTs are Unique but Not Alone
Defined contribution (DC) retirement plans – 401(k)s, for most people – were, like PSNTs, brought into existence by tax legislation, back in 1978. The legislation stipulates, among other things, that investment returns and capital gains in investor accounts are not taxable until withdrawal. These deferred taxes became an eye-catching target as plans grew, and as the benefit the plans provide was widely understood chatter about unwinding them evaporated.
The evolution of defined contribution plans over time is instructive for PSNTs. Multiple regulators address components of the business. The SEC focuses on the investments, the IRS sets annual contribution limits, and the Department of Labor (DOL) focuses on employer fiduciary responsibility. No single entity governs the entire industry.
Proactive management of a maturing industry, including its regulatory framework, suggests a number of specific activities that would be of benefit to PSNTs. For example:
- Creation and Adoption of an Industry Code of Ethics and Standards
- Specific PSNT industry initiatives that reflect regulators’ identified agendas
- For example, the SEC cares very much about fee disclosure and performance reporting to consumers for financial products
- Robust disclosure of information that affects consumers, including financials and governance
- Dialogue with regulators to help them understand the world of PSNTs and those served by them, and to clarify existing regulations
- Creation of an industry Governance / Compliance / Advocacy committee to track and interpret applicable and anticipated regulations
The government entity most engaged with PSNTs now is Medicaid, fighting battles over beneficiary resources (assets) and benefits in the Circuit courts.
What Comes Next?
Regulation is a factor in every industry. The PSNT industry is governed by multiple regulators enforcing existing rules who take their responsibility seriously. Many PSNT providers do excellent work, are well-governed and appropriately resourced.
Industry growth without accompanying disclosure and robust service and quality standards is indeed likely to prompt regulators to take a closer look. A solid foundation that includes these elements, on the other hand, will maximize industry credibility, voice, vote, and sustainability.