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| Ohio Acts Against Flagship Administration
State Alleges Misappropriation of 403(b), 457 and 401(k) Pension Money and Fraudulently Sold Stock |
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| Recently, my former employer, Flagship Administration, was charged with a number of
illegal acts. In addition to securities fraud, owner Harold "Hal" Hopkins and his wife Linda Hopkins are accused of misappropriating
funds from the 40 plus 403(b), 457 and 401(k) plans that Flagship administers in Ohio, Alaska, Illinois, Massachusetts,
Missouri, Pennsylvania, New York, and Texas. Until December 2003 I was president of broker/dealer and vice president of administration
for third party administration for the company. Flagship acted as a common remitter, a company that handles the distribution of employer payroll deferrals. Allegedly, funds that Flagship received were diverted for corporate use. It is believed that the money was used to pay company bills and the owners themselves. Flagship also maintained a master custodial account (403(b)(7) account) that held mutual funds owned by participants in the plans. It is alleged that money was also taken from these accounts for corporate and personal use. Additionally, the state asserts that Harold "Hal" Hopkins fraudulently sold more than $700,000 in common stock. All totaled, the state of Ohio believes that about $1,000,000 has vanished into thin air, with little hope of recovery. The Victims of Flagship's Alleged Actions I believe there are three groups of true victims if the charges prove to true. The first group is the clients who trusted Harold "Hal" Hopkins, and invested in the common stock of his firm. The lesson to be learned here: never, never, never base investment decisions on trust. Instead follow President Reagan's advice: Trust but verify. The second group of victims is the people who invested their 403(b), 457, and 401(k) savings in the master custodial plan. This group had little choice in the matter. For plans it administered, Flagship required that all mutual fund investments be purchased through its master custodial plan. This stunning turn of events must be especially tough on investors who thought that by investing through Flagship they had found a cost-effective alternative to high-fee annuity products. The last group is the business managers who contracted with my former employer. It will be easy for employees to blame this group for putting their money at risk. Ostensibly, by hiring Flagship, the business managers prevented their employees from investing directly with individual mutual fund companies. Instead, participants were forced to purchase mutual funds through the master custodial account, and thus through Flagship. However, let me add this in the business managers' defense: They believed such an arrangement to be the only way to protect the plan against tax code violations. Harold "Hal" Hopkins was very persuasive in selling the need for his master custodial plan services. Amazingly Hopkins is a member of the American Society of Pension Actuaries Tax Exempt and Government Entities Plan Committee, a group that works with the IRS to set policy for non-profit retirement plans. Business Manager Performed Two of Three Due Diligence Requirements In my view the business managers performed two acts of due diligence but missed the critical third. The three acts, or three pillars of due diligence are: |
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| 1. | Tax and ERISA Compliance — The main question being, will the service
provider administer the plan in compliance with the applicable tax and labor laws? |
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| 2. | Investment Merit — Are there enough investment options?
Are the fees reasonable? Is past performance satisfactory? |
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| 3. | Financial Control — Are sufficient financial controls in place to
prevent theft? Have sufficient controls been implemented to prevent arbitrary unilateral changes to the plan? Does
any party act as a common remitter, either for the plan as a whole, or for their specific clients? If so, the safest advice
is to avoid common remitters. However, if the school wants to reduce their administrative burden by using one, they
should perform very thorough due diligence, monitor the firm, require annual audits and make sure the company is
insured. Keep in mind that insurance may offer a false sense of security. Very often, the policies exclude the acts
of owners. |
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| The business managers hit the first two pillars of due diligence, but did not seriously examine
the third. I would venture to guess that the vast majority of 403(b) plans, and small-to-midsize 401(k) plans have insufficient
financial controls. Not only do these entities miss this critical analytical point, but many well-crafted Request for Proposals
(RFPs) also miss this point. What Business Managers Should Do in the Future My recommendation to business managers and 401(k) fiduciaries is to employ the services of a consultant who understand all three pillars of due diligence. In addition, find a consultant who has experience in the administration of these plans. This experience is critical to understanding the weaknesses of proposed administrators. To close, I want to stress that I do not attribute blame to the business managers that chose to use my former employer's services. The business managers' intentions were to have a first-class, compliant plan. They simply failed to foresee what was very difficult to see. Hopefully as this case brings these matters to light, business managers everywhere will pay closer attention to all three pillars of due diligence. |
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