Pay Now and Later: High Plan Fees Pose an Increasing Risk of Fiduciary Exposure
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Chip, chip, chip. No, that’s not the sound of the polar ice caps shedding ice, although I suppose it could well be. It’s the sound of the Fortress Europa that some of the more optimistic lawyers for 401(k) plans thought was being enacted against excessive fee claims - in the wake of cases such as Hecker - slowly being whittled away. Cases such as this, in which the fiduciaries were found to have fallen down on the job by accepting retail class fees, are going to open the door to more of these cases, and to more settlements to resolve them, than seemed possible when the first wave of excessive fee type cases were being ruled on; indeed, as this client advisory points out, it is no longer possible for plan fiduciaries to simply ignore the question of the propriety of retail fees in their plans. I have long believed that it will take only a couple of district courts who are willing to allow excessive fee cases to proceed into discovery and to adjudication on their merits to turn excessive fee cases into a potentially significant risk for fiduciaries, and I feel comfortable predicting that this is the start of that trend. To add a Civil War metaphor to my earlier climate change and World War II metaphors, these types of cases are going to bear out my prior prediction that Hecker was likely to be the high water mark in the defense of excessive fee cases.
Breach of Fiduciary Duty Litigation: When the Best Defense is a Good Offense
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Anyone who writes anything for a long time, as I have this blog, cannot help but end up with certain recurring themes. When it comes to the management of 401(k) and similar plans, one of those themes has been the importance of compliance and a careful decision making process by fiduciaries, an idea borne out of this litigator’s belief that, in the courtroom, the best defense is a good offense. In the context of breach of fiduciary duty litigation, this old chestnut should be understood as meaning that the best way to defend fiduciaries against such claims is to present a long history of active oversight of investment and other decisions by the defendant fiduciaries. Not only is that good for plan returns themselves in the long run in most instances, but it goes far towards insulating the fiduciaries themselves against being liable on claims for excessive fees, too much stock, or other alleged problems. Many claims of this nature will never even reach the point of really examining the specific conduct of particular fiduciaries, and are instead often decided at an earlier stage, such as motions to dismiss, on the basis of broader defense theories, such as the existence of presumptions in favor of the retention of employer stock in a plan, or “law and economics” type theories, such as in Hecker, that the marketplace shows that the decision making was fine, or on the application of ERISA safe harbors. But one cannot be sure that this will always be the case, and some breach of fiduciary duty litigation against fiduciaries will always get past these types of early suit Maginot lines, and in those instances the next best line of defense is to be able to demonstrate specific conduct by the defendant fiduciary that shows strong efforts being made to get the challenged issues - whether the expenses or fees of a plan, or something else - correct. If the plaintiff or class gets to that point of the case, being able to show that will more often than not determine who wins.
I write of this today, and it is on my mind, because of a press release that crossed my desk this week concerning the decision of a major defined contribution plan to use an index BrightScope created from its data to benchmark the performance of its target date retirement funds. The release notes that:
The BrightScope On Target Index will help [the plan sponsor] measure the performance and risk attributes of their target date portfolios while giving participants the ability to see how accurately their target date portfolio lives up to its stated goals.
At the end of the day, anything and everything plan sponsors can do to put accurate, transparent information in front of fiduciaries as part of their decision making process makes it harder for liability for breach of fiduciary duty to be imposed on those fiduciaries, and this is a perfect example of a plan sponsor doing so.
Could the Deepwater Horizon Alter the Trajectory of ERISA Stock Drop Litigation?
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BP has a giant employee savings plan, making it a prime target for stock drop type ERISA breach of fiduciary duty claims in light of the Deepwater Horizon leak, as I mentioned here in this post, and the lawsuits and the investigations that will eventually result in lawsuits are coming out of the woodwork as fast as vampires in one of the Twilight movies. As I noted in this earlier post, I am beyond skeptical of any such claims that are premised on the simple thesis that the fiduciaries breached their duties by not anticipating and accounting for the risk of this type of a loss when deciding to include or emphasize company stock in the plan. However, less flippantly and more exactingly, the same is not necessarily true for the alternative thesis, which I assume to be what many of these claims will play out as, that the fiduciary breach doesn’t relate to this specific environmental loss and its impact on the stock holding, but rather is that, in light of the regulatory and environmental universe in which BP operates, it was imprudent to hold or allow employees to hold a disproportionate amount of company stock; in other words, that the risk profile of the accounts as a whole was too high because too much of the investment was in company stock in an industry subject to unique and potentially catastrophic risks. Just a quick, non-analytical glance at BrightScope indicates a large company stock exposure in the BP employee savings plan, incidentally. In this sense, these claims, and the BP fiduciaries’ exposure, is no different than other instances of companies whose stock fell at a time that employee retirement accounts held a disproportionately high share of that one stock. What makes the claim here a little different, however, is the argument that there is something unique to the industry that calls for less company stock being offered to employees and instead a greater fiduciary emphasis on diversification than would be the case in other industries. For instance, if a Gillette or a Grace is sued after a stock drop, the argument is essentially that prudent investing practice as a whole calls for greater diversification, and the claims against the fiduciaries, to dress them up, may also include the argument that the fiduciaries should have anticipated stock market risks based on their knowledge of the company and its industry that should have caused them to prevent the excessive accumulation of company stock. With the BP claims, though, what you would have, I suspect, is less the argument that greater diversification was needed as a general principle, in favor instead of the argument that the oil industry itself is so subject to unique, stock value demolishing risks - from tanker crashes, to oil well blow outs, to nationalization, to wars - that it was simply imprudent to allow an excess exposure to the industry and certainly to any one particular company in that industry. (Incidentally, there is no better overview of these topics and the peculiar risks of the oil industry than Daniel Yergin’s The Prize, which may perhaps be necessary background reading for the law clerk of any judge assigned one of these cases).
Its an alluring theory, but one that raises the question of whether it plays out against the backdrop of past case law and the development of fiduciary standards when it comes to employer stock holdings, which would suggest that the claims on their merits have weaknesses, or whether instead they play out against the political backdrop of the Deepwater Horizon event and the economic losses it is strewing across a range of actors, including but not limited to the employee shareholders. If it plays out against that later backdrop - as a, perhaps, unseen or unspoken influence - the question becomes whether this fact pattern could shift the nature of these types of claims in a direction that could give them far more traction than the past history of claims of this nature suggests would otherwise be the case.
Can the Deepwater Horizon Spill Sink the Fiduciaries of BP's 401(k) Plan as Well?
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Well, someone thinks so. You can count me, though, as monstrously skeptical that you could tag the fiduciaries of the BP 401(k) plan with breach of fiduciary duty for overexposure to company stock because they failed to expect the Deepwater Horizon explosion and account for it by greater diversification. On the other hand are two notes: (1) perhaps there is a circuit, somewhere out there, with fiduciary liability standards for company stock investment that are so loose that including BP stock ahead of such an event could be deemed an actionable breach; and (2) the decline in the value of the plan’s assets may be so large that, if a class gets certified, even a minor settlement to avoid a potential ruling against the fiduciaries could easily run into the tens of millions.
On Named and Functional Fiduciaries
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I have been a fan of Scott Simon’s Morningstar articles on the various fiduciary relationships among those who run plans and those who advise them. This one here is a good, practical, business oriented view of the different forms of fiduciaries - named and functional (or deemed) - in 401(k) and other plans. It is written more from the business perspective, of who are the different players and what fiduciary niches do they occupy, in the structuring and operation of a plan. This is somewhat different than how we lawyers, particularly litigators, tend to look at these issues, because it is forward facing and addresses the deliberate structuring of the plan and of these roles. We litigators in particular tend to look at things from a different vantage, more in hindsight, and say did this person or that entity, looking at what they actually did, acquire the status of a fiduciary for purposes of liability exposure, whether they were intended to be put in that position or not at the outset of the plan’s establishment. And from that perspective, one of the most useful comments in his most current article is his explanation of one type of functional fiduciary, namely the party that assumed control over plan assets to some extent unintentionally, but that nonetheless then became a fiduciary with fiduciary responsibility for any acts taken in that regard. As he points out, that party assumes fiduciary liability in that situation, even if it did not knowingly cross the line into that role. As Simon Says:
A more serious scenario is where a person unilaterally exercises discretionary control or authority over a plan without express authorization. Such a person can become a "functional" 3(21) limited scope/non-named fiduciary--without a written contract--through its mere conduct of providing unauthorized advice or exercising unauthorized control or discretion. Given that no contract is present in this situation, the entity obviously doesn't intend to become a 3(21) limited scope/non-named fiduciary but becomes so anyway through its inadvertent conduct.
From a litigation perspective, this is a far more common circumstance than one might assume, and is a central point in much breach of fiduciary litigation, where a key question is often whether a particular defendant became a fiduciary by its actions concerning the plan and its assets, where it was not intended by the plan’s authors and founders to be a fiduciary.
Harris, Hecker, Excessive Fees and Marketplace Discipline
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Yesterday, the Supreme Court effectively rejected the idea that mutual fund fees, in the non-ERISA context, are not actionable if consistent with the market as a whole, in response to a Seventh Circuit decision finding that a fund did not pay excessive fees to its investment advisor in light of marketplace discipline (I am oversimplifying the Supreme Court ruling a little bit, as this is not actually a blog on the Investment Company Act of 1940). Shrewd observers of ERISA excessive fee case law, or even most casual ones, will likely quickly note that, in the ERISA context, the Seventh Circuit essentially applied the exact same thesis to an ERISA excessive fee claim in its highly influential decision in Hecker, finding, in part, that fees were not excessive if consistent with the market as a whole. In the new Supreme Court decision, the court instead applied a different test - albeit in a different context than ERISA excessive fee claims - to determine whether the fees were excessive, asking instead whether a fee is being charged “that is so disproportionately large that it bears no reasonable relationship to the services rendered and could not have been the product of arm’s-length bargaining.”
Is this a what is good for the goose is good for the gander situation? Is the same market based approach to testing fees that the Supreme Court has now rejected in the investment advisor scenario also, by implication, unwarranted in the context of a fiduciary’s obligations to protect participants against excessive fees in ERISA governed plans? Isn’t the test that the Supreme Court references for the investment advisor context equally a good fit for ERISA excessive fee cases, by asking not whether the fees were consistent with the market as a whole but instead whether the fees are disproportionate to the services provided and whether the evidence reflects them to be the product of an arms length negotiation? In many ways, this is what critics of the Hecker test - at least in my case - have complained about: not that the fees being paid by the defendant company in that case were necessarily too high, but rather that the court didn’t adequately test and vet them before deciding that the excessive fee claim had no merit. The Supreme Court’s new (well, actually a restatement of an old) test for fees in a different context would fit the situation very well, much better than the Hecker approach. The standard would still give a great deal of deference to plan administrators, sponsors and fiduciaries, allowing a wide range of fees to pass muster. The standard, though, would require that there be a reasonable linkage between the fees being charged and the value received by the plan, and that the evidence support the conclusion that the fees came about as a result of arm’s length, business like negotiating by the fiduciaries. In essence, this would bring the test back to the prudence required of the fiduciary, by asking not whether the fees were per se too high, but rather whether the evidence reflects that the fiduciary engaged in the basic business activity of seeking appropriate fees.
Here is the new decision from the Supreme Court, in Jones v. Harris Associates, and here, pat on the back to me, is a post I did last November suggesting that the opinion in Jones may well impact the Hecker line of thinking on ERISA excessive fee cases.
Attorneys as Fiduciaries
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Are you, or have you ever been, a fiduciary? Sometimes I am tempted to open a deposition with exactly that question, phrased as a derivation of the famous McCarthy era line. While I doubt I ever would do it, it’s the million dollar question in most breach of fiduciary duty litigation under ERISA. It is so often outcome determinative, that many cases go away after a ruling on that threshold issue (whether by dismissal if the answer is no, or settlement if the answer is yes), without anyone ever tackling the question of whether imprudent conduct that fell below the fiduciary standard of care ever actually occurred.
That’s a long lead in to this interesting article published by BNA, in which I am interviewed, on the role of attorneys and whether they can become fiduciaries to the benefit plans with which they work. Lawyers who are in essence working in the traditional role of outside advisors to plans and their sponsors really shouldn’t be deemed fiduciaries, but one can envision, at least in theory, an attorney crossing the line and taking on decision making authority that rightly belongs to plan fiduciaries in a manner that could give traction to a claim that the attorney was, in fact, a fiduciary.
On a side note, I know creating content isn’t cheap, so thanks are due to BNA for freely allowing me to republish the article here.
The Fiduciary Status of Investment Advisors
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I often explain to people that as a litigator, I am typically presented with a knotty, tied up problem, consisting of all the decisions and plan choices that have been made in the past that eventually resulted in litigation, and that I then have to unravel the knot into its constituent pieces, which can then be used to defend the decisions that led to the knotty problem (if I am defending the case) or to attack the decisions that created the knot (if I am instead representing a plaintiff, whether a plan participant or a plan sponsor or other fiduciary). This is a much different perspective on plans and their design and development than that of those who assemble plans, who look at things in a more prospective manner, from the vantage point of the one developing the world from scratch. In essence, their view is the mirror image of mine, as they look at all the independent strands of a plan and assemble them into what, eventually, will become the knot that I get charged with unraveling in litigation.
That more prospective view comes through in Adam Pozek’s excellent post yesterday on the difference between different types of fiduciary advisors to plans, and how to select them, as well as in the excellent source article on section 3(38) and section 3(21) advisors he references. Adam presents a typical scenario of a plan sponsor trying to work through the issues of how to use such advisors, when to use each kind, and the factors to be considered in making such a decision. To someone like me who normally only sees those types of transactions in the rear view mirror, as they are recounted for purposes of litigation (such as in a deposition), it is very interesting to read a presentation of the decision making and the transaction back at the start of the whole process.
In re Lehman
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I have been wanting to post about the decision early last month in In re Lehman Brothers ERISA Litigation, in which the Southern District of New York dismissed ERISA stock drop claims against a number of officers and a named fiduciary, but, as it turns out, I have been too busy using the decision for my own purposes in my own practice to find time to post about it. Well, all that changes today, driven in part by this client advisory memorandum from Shearman & Sterling on the decision, which provides an excellent overview of the decision. The interesting thing to me about the memo, and its interaction with the decision itself, is the memo’s focus on the named fiduciary being exonerated on the basis of the famous - or infamous, depending on which side of the bar you sit on - Moench presumption. There is much to be said about the Moench presumption, and when it is appropriate to apply it or not apply it, including both the question of whether this single Third Circuit decision should have been allowed to morph into the de facto standard applied across the board in many circuits and district courts to an often somewhat disparate series of factual scenarios, and the issue of whether its sweeping acceptance should be understood as reflecting a judicial predisposition against allowing ERISA to be turned into an easier to plead version of securities class action litigation. I am not going to talk about all of that today, and neither did the Shearman & Sterling memo. What I am going to talk about is a particular point in the Lehman Brothers decision that is less the focus of the Shearman & Sterling memo, but, in many ways, of more significance to the day in, day out practice of handling disputes over ERISA plans, which is the status of company officers and directors. If there has been one consistent bone of contention between defense lawyers and lawyers who represent participants - whether individually or as a class - it has been the question of whether lumping in the directors and officers of the company sponsoring a plan as defendants, based solely on that capacity (or, more often, that capacity with just a little window dressing added on top) is appropriate. Lehman Brothers answers that in an authoritative voice, pointing out that such directors and officers do not become fiduciaries solely by means of that status, and further cannot be sued as fiduciaries based on the additional allegation that they had some authority to select those who made plan decisions unless they are being sued for mistakes stemming directly from taking action in that regard. Too often, lawsuits treat the directors and officers as additional deep pockets who should be named as defendants, but as Lehman Brothers points out, such individuals do not belong in the case unless they actually exercised operative control over an aspect of the plan that allegedly went awry and are being sued for that exact aspect of the plan’s operations.
A Parable About the Cable Man
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For reasons too obscure and uninteresting to mention, I have had almost nothing to do with the cable tv industry since, well, it was invented. What’s a DVR, anyway, and why would I want one? But yesterday, I had to obtain digital cable from my local cable company, and called them, braced to be gouged. Instead, I was offered a special deal for a year, much less than I was expecting to pay, with stuff I would never pay for thrown in. A few hours later, of course, the reason occurred to me. The cable monopoly I recall from my youth is not what I was dealing with, and I was instead talking to a cable company that had competition from dishes - Dish.com, I guess? - and the local telephone/internet/cable company, so instead of gouging me, they had to offer me a deal they figured would keep me as a customer. Classic economic, legal and antitrust theory holds that there are really just two ways to police pricing - competition or, in its absence, regulation. Competition, of course, is why I got my sweet deal on cable yesterday.
So what does this have to do with the topics of this blog? Seems like plenty, in that it is the absence of above board open competition that is at the root of much of the problems discussed in these pages concerning ERISA governed plans. I have discussed in many posts that the problem with health insurance coverage through employers has much less to do with the question of whether employers want to provide it than it has to do with the ever escalating cost of health insurance and the fact that providing health insurance is a punishing cost. Employers, in my view, are unfairly demonized as trying to avoid providing health insurance, but it is the cost that is driving their increasing balkiness about being, as I have described it in other posts, unofficially deputized as the providers of health insurance in this country. From where I sit, one of the fundamental problems with acts mandating health insurance provision or payments by employers is that they don’t account for this, either by reducing health insurance costs or by recognizing the business costs imposed by these types of statutes. Does anybody really think that the restaurants targeted by the San Francisco statute are swimming in profits? This article here, profiled on the Workplace Prof blog, describes this exact concern about costs as the driving force behind employer, and particularly small employer, health insurance decisions.
And perhaps one solution to the problem of the cost of providing health insurance - perhaps the most important one - is that what is good for the cable industry should also be sauce for the gander, i.e., much greater competition among, and significantly less market control by, health insurers, as pointed out in this op-ed piece here by Robert Reich (when even the archetype liberals are arguing that market competition is the answer to all evils, you know the world has turned upside down).
And the same thought continues across to 401(k) plans, and the ongoing issue of fees and costs in investment options, and how they are disclosed. What if, instead of arguing after the fact about whether the fees in a particular plan were too high, prudent fiduciary practices were deemed to require a competitive process for selecting investment options, in a manner forcing putative vendors to put their lowest cost options forward to win the business? Isn’t that what all the complaining about large asset plans that don’t use their size to win better pricing is about, after all? Instead of just complaining in the abstract that plan sponsors should have acted that way, or engaging in after the fact litigation to try to police how much should have been charged in fees, wouldn’t it make more sense to just require a fully competitive process among vendors for selecting investment options, conducted by fiduciaries - or their delegates - who have the knowledge base to understand the pricing structure of the proposed options?
In that version of the world, it would be a fiduciary obligation to impose a fully competitive, open call for investment options, and to select the best - including on fees, costs, disclosure and performance - from among them, with it being a fiduciary breach for failing to pursue this process (rather than it being a fiduciary breach for ending up with fees that are too high). The focus would return in this way to fiduciary practice, both in terms of judging conduct as meeting or failing to meet the standards of a fiduciary and in terms of whether to impose liability, rather than on an after the fact, necessarily subjective evaluation of the amount of fees, costs, or disclosure in a particular plan that resulted from the fiduciary’s decisions.
Open competition would certainly drive down the fees and costs in plans, while simultaneously giving fiduciaries a clear standard - namely their obligation to decide on the basis of such competition - against which to work. I can’t help but think that, like the cable customer, plan participants will end up with better and cheaper products to pick from, while plans - and their insurers - will spend substantially less on litigation costs.
On Attorneys Fees and Hecker
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Honestly, I have spent a week scratching my head, off and on, over the Supreme Court granting cert to consider the standards governing when attorneys fees can be awarded in an ERISA case, particularly when they denied cert shortly thereafter in Hecker, which presented the opportunity to address the much more substantive issue of the scope of fiduciary responsibility for the amount - and corresponding degree of disclosure - of 401(k) fees. In my mind, there is already a conflict among the circuits over that issue, with the Seventh Circuit finding outright that there was no viable theory against fiduciaries of large plans with market standard fees, and the Eighth finding this same theory worthy of factual inquiry. However, as I thought more on it, the denial of cert for Hecker makes some jurisprudential sense. Hecker itself was decided on a motion to dismiss, leaving essentially no factual record for evaluating these types of claims (critics will say, of course, that this didn’t stop the Seventh Circuit from deciding the theory had no merit) and forcing any Supreme Court ruling to turn solely on the allegations in the pleadings. This is a complicated issue, one I have said before would have been more properly evaluated by the Seventh Circuit after factual development, and I suppose it is likewise fair to say that a Supreme Court review of the issues posed by Hecker by means of reviewing Hecker itself would have suffered from the same flaw; Supreme Court review of the fee issues raised by the Hecker line of cases is probably better suited to a case that has played out sufficiently to allow all of the factual and legal fault lines to develop prior to Supreme Court review.
But the attorneys fee case itself still doesn’t make a whole lot of sense to me, as a practicing litigator who spends plenty of time with cases pending in the federal courts that are governed by that fee statute. The reality is that such attorney fee awards are either subsumed within settlements, or the courts award them under current standards only, typically, where there is significant merit to a party’s position and the party obtains significant relief; the district court judges, in my experience, do a good job of utilizing the current standards and understanding of the fee shifting provision of the statute to bring about that result, such as in this case here. And at the end of the day, no matter certain peculiarities that exist in the wording of the statute, this is really the only standard for awarding or not awarding fees that makes practical sense in the real world. After all, do we really want attorneys fees awarded for less than obtaining at least a significant portion of the relief sought by a plan participant?
I understand that the Fourth Circuit, in the case under review, applied a somewhat more stringent test than what I am discussing here, but, from a courtroom level view, courts get this issue right often enough that it doesn’t seem to warrant Supreme Court intervention. But the Court seems to have a thing for ERISA cases these days, for whatever reason.
A Nice Explanation of the DOL Advisory Opinion on Target-Date Funds
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I like this (relatively) new blog here, the Benefits and Employment Observer, by the lawyers at the small - only in numbers - Washington D.C. shop of Bailey & Ehrenberg. This is the cleanest, most easily understood presentation of the findings of the DOL’s recent advisory opinion “addressing the issue of whether the assets of ‘target-date’ or ‘lifecycle’ mutual funds constitute ‘plan assets’ of employee benefit plans which invest in the funds” that I have come across over the couple of weeks since the opinion’s issuance.
Marx on 401(k) Litigation
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I have a stack of substantive ERISA matters that I have been trying to post on for the last week or two, and I am going to try to work through them over the next few weeks. The thing about a blog, though, is the world keeps on spinning, and each day you find something new you want to post on, which keeps shunting those older items further into the background. That’s happened again today.
Regular readers know I am fond of the saying that Marx was wrong about a lot of things, but he was right that everything is economics. It is economic reality that is driving the increase in ERISA litigation, both at the big ticket class action level and at the micro level of individual participant claims; as I often say, the same compliance errors or high plan fees that participants ignored while their account balances were just going up, up, up, are being sued over, now that account balances have spent a year or more going down, down, down (yes, I know, I am not accounting for recent upticks, but you get my drift). Along this line, fiduciary liability insurance expert and fellow blogger, Joe Curley of U.S. Reinsurance, and I were discussing a couple days ago the ticking time bomb posed by the impending retirement - for the first time - of a generation of employees devoid of pensions and forced to rely instead on their 401(k) plans. It is conventional wisdom and common knowledge that these retirees are not, as a class, financially prepared for retirement by the assets in those accounts, particularly after the recent market downturn. Those people are not going to go quietly into decades of financial struggle in retirement, if there is a target for complaints about the operation, returns, or anything else concerning their 401(k) plans who can be sued; they make for a nice big pool of potential class action representatives, a huge pool of potential class members, and gazillions of potential individual claimants, for the latter of whom even a relatively small recovery will be significant relative to the values of their accounts. On a practical, day in and day out level, this means two things for plan sponsors, named fiduciaries or functional (who are often simply accidental) fiduciaries. One is to make sure there is sufficient fiduciary liability insurance in place; as Joe noted when we spoke, some service providers and others who may become functional fiduciaries by their roles in company 401(k) plans are not aware of that risk, and are not necessarily prepared for it. The second is an old hobby horse of this blog - compliance, compliance, compliance. ERISA litigation, particularly breach of fiduciary duty litigation, is an area of the law where a good defense is always the best offense - watch the fees, watch the operational compliance, document a sound practice for selecting investment options, etc. A fiduciary who does that severely decreases the likelihood of being sued, and strongly increases the likelihood of not being found liable if suit is filed.
This is on my mind today particularly because of this article from the Wall Street Journal about unemployed workers in the age 55 to 64 bracket who cannot find work and are, for all intents and purposes, being forced to retire, long before they intended to and long before they are financially prepared to do so. These people - or at least the lawyers they go to - are not going to overlook problems in their retirement accounts, even if they are just arguable or comparably minor or, as is often the case, were things that no one paid attention to years ago, like fees and costs. And this is where we loop back around to the Marx quote - there may be nothing different about the operational aspects of these 401(k) plans then there ever were, but the economic forces that are driving these people into retirement are going to likewise drive them to pursue any opportunity to bolster the returns on their accounts, even if that is by suing those who ran the plans.
Three for Thursday
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I am going to catch up on a number of items I have meant to blog on this week, all in one fell swoop. So here goes:
• I posted before about my appearance in an article in the Boston Business Journal, but one that was only available on-line to subscribers. Here it is in another forum, openly available.
• I, and a cast of thousands, have been saying for some time now that the plaintiffs’ class action bar has wisely latched onto ERISA breach of fiduciary duty theories as an excellent replacement for bringing pure securities actions. As I have discussed in other posts, there are a variety of reasons for this, including easier discovery and possibly easier avenues to recovery. In addition, securities law in the area of what we in ERISA would call “stock drop” type litigation is much more well developed than it is under ERISA, leaving more room for tactical and theoretical maneuvering. Beyond that, the sort of backlash in public opinion, in Congress and in court decisions that existed - at least prior to the most recent market meltdown - with regard to securities class action litigation was non-existent with regard to framing the same types of cases under ERISA. Here’s a dog bites man story out of Business Insurance reporting on this phenomenon. Anyone who has been reading this blog or similar sources over the past few years already knows what the article is reporting, but it is still a nicely done introduction to the topic.
•And speaking of using ERISA for class action litigation, one of the central questions with regard to the increasing use of that statute to press stock drop litigation and its cousin, excessive fee litigation, has long been whether it is a successful tactic. The successful defense of the excessive fee claims in Hecker v. John Deere, in the Seventh Circuit, at an early procedural stage and prior to detailed discovery into the facts of the plans and the fees at issue, strongly suggested that ERISA claims of this nature may be no more likely to get past the procedural stage and into expensive litigation of the merits than a pure securities theory would be. The Supreme Court’s subsequent pronouncements in Iqbal seemed to confirm the approach taken by the Seventh Circuit in Hecker, of testing the legal viability of the underlying ERISA based theories before allowing the plaintiffs to conduct discovery that might more strongly establish the legitimacy of their claims (or lack thereof, for that matter). As many have been reporting, the Eighth Circuit has just essentially taken the opposite tack, in a putative class action case against Wal-Mart, Braden v. Wal-Mart Stores. Braden can be understood, in part, as rejecting the approach taken by the Hecker court and finding that discovery is necessary before the merits of a complex excessive fees type claim can be decided. For more detail on Braden, here is Paul Secunda’s take on the matter over at the Workplace Prof (including a link to the case itself) and Roy Harmon’s take on the matter (which focuses nicely on the Rule 8 pleading requirements) at his always illuminating Health Plan Law blog. I have said before that with the increased focus on fees, the increased focus on the lack of retirement savings of most Americans, and the economic impact of high fees on returns in 401(k) plans, Hecker may turn out, in hindsight a few years down the road, to have been the high water mark for the corporate bar in defending against such claims. I am not sure whether that’s a good or a bad thing (I suspect, actually, that it’s a mix of both, but addressing that in depth here would make for an awfully long post), but it may well be the case either way.
On Fiduciary Liability Insurance
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I have written before that one of the things that makes insurance coverage law interesting is the fact that almost every trend in liability or litigation eventually shows back up in insurance disputes, in a sort of fun house mirror sort of way. Whether it is corporate exposure for asbestos liabilities, or the sudden invention of Superfund liability, those liability risks eventually end up in insurance coverage litigation over the question of whether insurers have to cover them. I cannot think of one major doctrinal development in tort liability or one trend in liability exposure in the last 20 to 30 years that has not, eventually, resulted in litigation to determine whether insurance policies cover the new exposures flowing from those developments and trends.
Anyone who reads this blog knows that ERISA governed plans, and in particular pension and 401(k) plans, have become a huge target for large dollar claims over the past several years. Just a click through the posts on this blog detail many of the claims, such as stock drop and excessive fee litigation, that are working their way through the legal system. And with this, hand in hand, has come a new focus on whether plan fiduciaries have appropriate insurance coverage in place for those risks. Some do, some don’t, and others - consistent with insurance coverage litigation trends in the past when relatively new theories of liability have had to be analyzed under policies written before the theories themselves were developed in depth - won’t know unless and until courts pass on the meaning and scope of their policies. But here, though, is a good initial primer on the question and here, likewise, is a webinar that looks likely to provide much greater detail on the subject. One thing that is for sure is that this is an area of the law that anyone involved with the representation of plan fiduciaries needs to have more than a passing familiarity with at this point.
Hecker, Fees and A Broad Public Market
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To me, intellectually, all roads lead to Hecker right now, as the sort of touchstone around which all thinking about fiduciary obligations and the amounts of fees charged in 401(k) plans must revolve. Hecker, of course, found not only that a broad range of offering meant that marketplace discipline guaranteed appropriate fees, but also that this could be determined at the motion to dismiss stage. This whole question of whether a broad marketplace for mutual fund offerings can be counted on to guarantee appropriate fees is at issue before the Supreme Court in a different context in an upcoming case, as commented on here: once again, you see that the question is the propriety of the assumption that market discipline is all that is needed to protect against overcharging of this type, and thus whether there is a legitimate basis for the assertion that the existence of a broad market is all that is needed to ascertain that fees were not so high that a fiduciary breach has occurred. It would take many more pages, and an analysis much more suited to a different forum, such as a law review article, to break down the potential flaws in the base premise of that assumption, but for this venue, at least one comment is warranted, and that has to do with the Supreme Court’s relatively recent conclusion that the same thesis - that marketplace discipline would prevent the problem from actually coming into existence - was not an acceptable answer to the problems potentially posed by structural conflicts of interest with regard to ERISA benefit claims. There, the Court rejected the view of many circuits that the risk of the marketplace punishing companies that misbehave did not represent a legitimate basis for assuming that administrators who both decided and funded benefit decisions could not be acting out of a conflict. There is independent evidence for the argument that fees are, in fact, too high with regard to 401(k) plans, as discussed in this report here (and thanks are due to the ever vigilant eyes of the folks at BrightScope for passing that along) and other places too numerous too detail in a few minutes this morning, causing one to ask whether, much like the Court decided with regard to structural conflict claims related to benefit decisions, it is a realistic economic assumption to believe that a large public market alone is a guarantor of appropriate fees, as the Seventh Circuit assumed in Hecker.
Harmon on Delegation of Fiduciary Duties in the First Circuit
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Just briefly, as I have been traveling and haven’t reviewed the case myself, Roy Harmon on his excellent Health Plan Law blog, analyzes a decision out of the First Circuit on the manner in which a fiduciary can properly delegate its authority; the decision found that excessive formality wasn’t mandated. You can find Roy’s analysis, trenchant as always, here.
You Say Securities, I Say ERISA
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I have to admit I have found the Workplace Prof blog tough sledding since the site’s founding blogger, Paul Secunda, took retirement from the site, apparently to spend more time in the snow in Wisconsin. Without Paul, the blog has trended heavily towards labor law and lacks the type of frequent, insightful commentary about ERISA that was a hallmark of the Secunda regime.
I mention this today because the blog has a guest/drop in post from Paul, commenting on a Wall Street Journal law blog story about the decline in securities class action litigation. Paul comments that one reason for this that was overlooked in the story may well be the discovery of the class action plaintiffs’ bar over the past few years of ERISA as a better tool for prosecuting such claims and as an excellent stand-in in many cases for securities suits. This is something I have discussed frequently over the years on this blog, but I have to admit, until Paul, the law professor formerly known as the Workplace Prof, mentioned it in his post, it had not jumped out at me as something relevant to the Wall Street Journal piece. But there you have it - more anecdotal evidence for the idea that ERISA is displacing securities actions in many circumstances.
Excessive Fee Litigation and the Small Plan
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It has become a given in any talk on 401(k) plans and fiduciary liability that I give these days - my comment that, when the market was always going up, up, up, no one cared that they might have made 15% instead of 14% but for some unresolved problem with a plan’s structure, but with the market going down, down, down, anything and everything even allegedly wrong with a plan is going to get sued over. The point is always the same: it is doubly important now to always dot all the eyes and cross all the tees, which translates into watch your investment selection mix, watch your fees, watch your level of disclosure, watch the process by which you select your vendors, and so on. It all adds up to the idea that in this market, someone is going to come after you if you are a fiduciary or a plan vendor, so be prepared to defend everything you do.
That is why I liked this post here, from the folks at the Float, about excessive fee litigation trickling down to the level where suits based on fees are being filed against plans with as little as $2 million is assets, and their advisors. There’s nowhere to hide anymore, folks. Get it right in the first place, and then defend yourself; being the small fish isn’t going to keep you out of the churn.
More ERISA Blogging for Those of You Who Can't Get Enough
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Kevin O’Keefe, the lawyer turned blogging evangelist behind the company that hosts this blog, told me when I was picking a topic for my blog that I should choose a subject where there was plentiful source material to work from on a day in, day out basis. They were oddly prophetic words, in that not too long after launching the blog, fiduciary litigation and concerns exploded, generating a seemingly endless stream of cases and business developments to blog about. Excessive fees, company stock declines, subprime meltdowns, the rise of ERISA as the new securities class actions - all of these issues that I have covered extensively here really exploded after the launch of this blog.
There is so much information and activity going on out there now in this area that it is always good to have other bloggers, the more knowledgeable the better, likewise chiming in on developments in this area, and few are more knowledgeable than long time ERISA blogger B. Janell Grenier, who has just launched a separate blog dedicated to developments concerning the law governing fiduciary status titled the ERISA Fiduciary Guidebook (A Work in Progress). Her new blog captured, for instance, a recent Massachusetts federal court decision that I didn’t cover, involving some of the issues raised by an employer who becomes delinquent in making plan contributions.
Hecker, InsideCounsel and Defensive Plan Building
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Hecker is the gift that keeps on giving, for either an academic or a blogger (or perhaps a blogger with an academic frame of mind). It presents a wealth of issues warranting further consideration, running from those commented on in my prior posts on the Seventh Circuit’s decision, to one I haven’t even passed on yet, namely the propriety from a jurisprudential perspective of using every trick in the trade, as the Seventh Circuit did, to go outside the complaint for extensive evidence that would allow the case to be decided on a motion to dismiss. It is fair to say that the circuit’s heavy reliance on those maneuvers (and I don’t criticize those tactics in general, as they are a litigator’s stock in trade in presenting motions to dismiss and I am one of those who thinks that, used properly, they provide an opportunity to focus a court on issues that should be decided in a lawsuit at the earliest stage possible) renders the opinion more akin to a law review article that now has the force of law - at least in the Seventh Circuit - than the type of factually based analysis that we normally think of with regard to a binding judicial opinion.
But that’s a topic for another day. What I wanted to pass along today was this excellent article - quoting yours truly extensively, although that’s not what makes it excellent - in InsideCounsel magazine this month on the Hecker decision. It is a well written, interesting report on the case, but I wanted to focus on what I am quoted on at the closing of the article, in which the author writes:
"Hecker is almost a quintessential law and economics opinion. It assumes the 401(k) plan included funds that charged the same [fees] as the market as a whole, and that’s all we need to know," Rosenberg says. "I would be surprised if many other courts are willing to just stop their analysis at that point."
Although Hecker provides a lot of protection for companies, he advises general counsel to assume the decision is just a baseline for ERISA compliance.
"Hecker didn’t impose a very high standard," he says. "Far and below Hecker is going to get you in a lot of trouble in a lot of different jurisdictions."
The defense bar, of which 80% of the time I am one, is very pleased with the decision and thinks it protects and/or validates much of what plans have done when it comes to fees in 401(k) plans. I am not so sure, and I think that prospectively at least it warrants more vigilance from plan sponsors, not less. To my mind, everything follows economics, whether its fashion, car design, house sizes (think McMansions), the social propriety of using company jets and, yes indeed, legal regimes. I have little doubt that with the baby boomer generation looking at becoming the first cohort to both lack pensions and have battered 401(k)s, the economic impact will eventually increase the level of performance and fiduciary expertise demanded of plan sponsors and those they select to run their 401(k) plans. It might take one year, it might take ten years, and I don’t know if it will come about by new regulation, statutory enaction or the development of case law, but it will happen.
Prospectively, as a result, plan sponsors and other fiduciaries can and should assume that, down the road, there will be much tougher looks taken at their 401(k) plans on issues such as fees than the very deferential approach taken by the Seventh Circuit in Hecker; when that comes to pass, they will have been much better off having understood Hecker as presenting only the base minimum standard for the plans they operated, and having targeted a much higher level of participant protection in building their plans than Hecker seemed to them, today, to have required. After all, if you think about it, what really is so hard about looking closely at fees as part of putting together a 401(k) plan’s investment options from here forward, and documenting that this was undertaken, as an additional step in defensive lawyering and plan building, rather than just stopping at the Hecker level of analysis and conduct? It doesn’t take all that much - there are independent fiduciaries out there right now who will try to do it for you - but the legal protection in the long run, and the participant goodwill in the short run, that it will buy far outweighs the costs.
Looking at Fiduciary Performance from the Vantage Point of a Plan Participant
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I had dinner recently with the brothers Alfred, Mike and Ryan, two of the co-founders of BrightScope, and much of the conversation centered around the question of transitioning the management and analysis of 401(k) plans from a practice oriented perspective to a plan participant oriented one. Translated into practical terms, this encompasses the idea that fiduciary standards for plan sponsors currently take the approach of considering whether the fiduciary’s practices in operating the plan, for instance with regard to deciding which vendors to use or funds to offer, were prudent and reasonable; this is particularly evident in the case law that is developing concerning the current bete noir in this area of the law, the amount of fees and costs in a 401(k) plan and their impact on plan participants. In the context of fiduciary liability, this plays out in cases like Kanawi and Hecker as courts finding that fiduciaries did not breach their obligations because the evidence showed that the means and methods by which those plans were built was reasonable, rather than by looking at whether the fiduciaries built a strong plan in terms of the fees and costs and performance of the investment options; in Kanawi, the court was swayed by the fact that the sponsors had followed a reasonable course in selecting the plan options, and in Hecker the court was persuaded by the simple fact that the plan sponsors included funds that were publicly available at the same cost structure.
Case law routinely takes the approach that fiduciary obligations when it comes to fees charged in a plan or other aspects of the operation of a plan relate to the nature and manner in which the plan is built or operated, rather than the actual returns or costs structures of the plan itself. As a result, the focus of plan sponsors who are trying to be proactive in protecting themselves and of lawyers counseling them on how to do so has long been on pursuing a “best practices” approach: solicit multiple bids, have them compare themselves against benchmarks they use, bring in outside advice if needed to evaluate them, and then pick the best one. The end result of this process isn’t necessarily going to be a plan with the best ultimate outcome (something driven heavily in a 401(k) plan for instance by the plan’s fee and cost structure) for plan participants, but will instead be a plan that looks best from among the range of options considered. This is an approach that most ERISA lawyers recognize is defensible if the plan sponsor is sued, because it allows for the argument that, regardless of what problems there might have been in the plan, the approach used to put the plan together - and to run it - was prudent and reasonable. To a large extent, courts have accepted this idea, that the manner in which the plan was built and, for instance, fees settled on is the central issue to be tested, with the fiduciaries having lived up to their obligations if the approach to building the plan and selecting the funds (and accompanying potential fee structure) was reasonable.
This approach to the issue by courts is understandable, in that it is almost the only approach that practical reality leaves open to them on many difficult issues, such as the amount of fees and costs in a 401(k) plan. There is no uniform, consistent, hard data driven, accepted benchmark for what such fees and costs should be, or how one particular plan’s fees and costs compare to those across the industry. Courts are, quite understandably, therefore devoid of an appetite for allowing disputes over the cost and fee structure in a plan to devolve into a simple battle of experts, with each side putting up an expert saying the objective amount of fees and costs in a plan are, according to one expert, too high, and according to the other, just right. It would quickly turn into the Goldilocks school of ERISA litigation - these fees are too high, these costs are too low, these are just right. Beyond that, there would be tremendous practical barriers to such an approach due to the general absence of uniform, broadly accessible industry wide data on many of these points, which results in serious questions as to whether, and if so with what credibility, experts could even testify to an opinion as to whether fees in a particular plan are too high or too low; the difficulty of accessing industry wide data that would allow for a detailed and defensible opinion in this regard would undercut both admissibility and credibility of any such expert testimony. Courts, to a certain extent, have thus to date been better served by a practice oriented analysis of fiduciary conduct in areas such as 401(k) fees because of the difficulty of effectively testing fiduciary conduct against any other standard.
But what if you could test fiduciary obligations against a more definitive standard, particularly with regard, for instance, to the fees and costs built into a 401(k) plan? You could then rightfully have a standard for determining whether fiduciary breaches have occurred that is based on the outcome to the plan participants, such as whether the fees were too high and drove down returns. If you could do that, because a true benchmark for testing the performance and management of a plan existed, there would be no reason to base a decision about the propriety of fiduciary conduct in running a plan on an analysis of how the plan was run, but instead one could base the analysis on how the operation of the plan impacted outcomes for the plan participants. Such an approach to fiduciary liability would be entirely different than the one currently employed, and would instead ask whether the fees, costs or other challenged operational aspects of the plan negatively impacted - and if so to what extent - the plan participants. You would then be focusing the question of whether fiduciaries have lived up to their obligations on whether the optimal results were achieved for the plan participants, rather than simply on the question of whether the fiduciaries followed industry wide practices in operating the plan, practices which may or may not create the optimal results for plan participants. The latter approach always threatens to be a race to the bottom, moderated only to whatever extent some sponsors are driven to provide good returns to motivate their own workforces, which can keep the bottom from falling too low. In contrast, the former is a race to the top, or at least near enough to the top that fiduciaries can be said to have lived up to their obligations to the participants by shooting for the best results possible; it goes without saying that everyone cannot be at the top unless everyone simply buys the same products from the same vendors, which basic economics tells you is antithetical to driving down fees and thereby increasing returns, so something short of the very pinnacle of performance as against a legitimate independent benchmark would have to be sufficient to satisfy a fiduciary’s obligations. Isn’t that approach far more consistent with fiduciary obligations than the current practice oriented focus, given the oft used cliche about ERISA, that the fiduciary obligations are the highest known to the law?
And that is the idea behind BrightScope: to collect independently verifiable data on fees, costs and performance variables behind the 401(k) statements given to participants, and use that data to create a defensible, industry wide benchmark allowing fees, costs and performance to be compared across plans. When you reach that goal, done to a level of mathematical sophistication and defensible data sufficient to allow its use as evidence in a courtroom or as a foundational piece for expert testimony on how a particular plan’s fees, costs or performance compare to the broader universe, you have the linchpin on which you can turn analysis and the standards for fiduciary conduct in this area from the practices by which a 401(k) plan was run to the outcomes for the participants. And that, in a nutshell (though an admittedly long one) is what I meant in the first paragraph in this post when I referred to the question of transforming fiduciary obligations from a practice oriented perspective to a participant outcome oriented perspective.
Hecker and the Development of the Law on the 404(c) Defense
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One of the Seventh Circuit’s most interesting tricks in its recent decision in Hecker was the extraordinary breadth it gave to the 404(c) defense. This was an aspect of the decision that raised a lot of hackles, and I noted in my own post on the case that I doubted this was the last word on the subject and that it would be interesting to see how the case law developed as other courts tackled this question. Well, here’s a decision from a week or so ago out of the United States District Court for the District of New Hampshire taking a much narrower approach in interpreting the amount of protection granted to fiduciaries by section 404(c), finding that the defense does not apply to “a fiduciary's designation of the investment options that are available to plan participants.” The court reached this conclusion because:
First, section 404(c) is unclear as to whether it can be used to bar a claim based on a fiduciary's designation of investment options. Second, section 404(c) requires the DOL to adopt regulations explaining when a participant or beneficiary has sufficient control over his assets to be subject to a section 404(c)defense. 29 U.S.C. § 1104(c)(1)(A). Third, the DOL's implementing regulations are themselves unclear as to whether section 404(c) applies to a fiduciary's decision to designate investment options. Fourth, the DOL reasonably determined in the preamble to its regulations that losses which result from a fiduciary's designation decision are neither a "direct" nor a "necessary" result of a participant's exercise of control over plan assets. Finally, both the Supreme Court and the First Circuit have recognized in similar circumstances that an agency's reasonable interpretation of its own regulations in a regulatory preamble is entitled to deference.
Frankly, I am inclined to think that a close review of the actual statutory text and regulations suggest that this judge is closer on the mark on this issue than was the Seventh Circuit in Hecker, leading to what I think is the real takeaway from the continued development of the case law on this issue: namely, that plan sponsors should not overly rely on Hecker in evaluating their potential exposure and their obligations. Rather, as I have said in other forums, Hecker should be understood by plan sponsors and their vendors as setting forth the base minimum in terms of how a plan should be structured with regard to investment option fees, and should not be seen as a get out of jail free card by a sponsor who does no more than build a plan consistent with the reasoning in that case.
Pension Fiduciaries in the Hot Seat - What to Avoid and How to React if Sued
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I and a cast of thousands will be speaking at a webinar on April 14th on “Pension Fiduciaries in the Hot Seat - What to Avoid and How to React if Sued,” put on by Pension Governance, Inc. Well, its not really a cast of thousands, just me and four very experienced worthies, who know so much about the subject that they seem like a cast of thousands.
I have to say that, long before ever being invited to participate in one of Pension Governance’s webinars, I attended as a member of the audience, and not only found them informative but enjoyable as well.
How Much Information Is Enough to Decide A Breach of Fiduciary Duty Lawsuit?
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Is a motion to dismiss a good tool for disposing of major breach of fiduciary duty lawsuits? In essence, should it be treated as a mini-summary judgment proceeding, that tests the sufficiency of the case’s theories against, not the detailed facts of a specific case, but instead against the world as a whole as understood by the court? Or are these cases instead ones that are better decided by - and both litigants and the development of the case law better served by - a decision on the actual factual merits of a case, after drilling down into the conduct in question?
The former scenario is, in essence, the route taken by the court in Hecker, and Kevin LaCroix provides another example in his post yesterday, on the dismissal of the breach of fiduciary duty lawsuit in the Huntington Bancshares ERISA litigation. What happened in both cases is, in a nutshell, the court comparing the allegations of fiduciary errors to the market as a whole, finding that what took place was not inconsistent with what was occurring in the broader market (in the case of Hecker, that being the pricing on mutual funds in a plan, and in the case of Huntington, that being the stock losses in the plan), and that therefore, essentially by definition, the plan fiduciaries could not have fallen below the standard of care imposed on them. I can understood the arguments on both sides, and particularly those in support of this approach. A fiduciary is charged with acting with the skill and care of a prudent person in that position, and one can argue that this standard was not breached if the plan losses were consistent with what occurred across the market and with regard to others similarly situated; after all, if all the other investment managers took the same beating, then the plan’s fiduciaries, by definition, were acting like all others with expertise in the area when they likewise took the same pummeling. Plus, of course, conducting extensive class action litigation to further analyze what the market itself seems to be telling us - that the fiduciaries were acting like all other prudent investors since all got clobbered to the same extent - is a tremendous drain on the defendant’s resources. Then you add on top of that the realpolitik of the situations, which is that we know that most cases of these types settle after expensive litigation if they survive the motion to dismiss stage and possibly the summary judgment stage, so in many ways these procedural stages dictate the outcome, and there will never actually be a trial to allow a full drilling down into the actual facts of fiduciary conduct which can serve as the basis for a decision; delaying the day of reckoning from the motion to dismiss stage to the summary judgment stage, in this way of thinking, doesn’t really change that, as there will undoubtedly be factual disputes at the summary judgment stage that will preclude a fact based decision and instead any decision at that stage will, like the motion to dismiss rulings, likewise be based on the types of broader legal theories addressed by the courts in the motions to dismiss in these types of cases.
But on the other hand, is it really safe or fair to just assume that fiduciaries have lived up to their obligations, simply from the existence of broader market indicia? I am thinking in particular of two sets of data that crossed my desk recently, the first courtesy of 401(k) blogger Josh Itzoe and the second courtesy of the guys at BrightScope, who slice and dice the data on this field for fun and profit. In this post, Josh points out survey results showing that a large number of plan sponsors don’t really have a structure in place for operating 401(k) plans at a high level, while this chart here, passed along by BrightScope and based on its data, shows the wide range of fees that plans assume in their 401(k)s. This information reflects the tremendous diversity one can find in operating talent, execution, fees and other aspects of a plan that can seriously impact performance. Under those circumstances, is it really appropriate to stop the analysis of fiduciary conduct at the motion to dismiss stage, before investigating the aspects of a particular plan, just because the market as a whole lines up in a reasonably consistent manner with the performance of or fees in a particular plan? Market performance may be down, or fees across the market may line up with those in a plan, but this doesn’t by definition mean that a plan sponsor is living up to its obligations without further analysis. Behind those market numbers and the relationship of a particular plan’s performance to those numbers, may very well be a fiduciary whose operational structures and/or charges to plan participants fall below what other fiduciaries are doing; I am not sure it is fair to allow the muck of a bad market to provide cover for that.
Asking the Seventh Circuit to Revisit Hecker
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I was going to post on something else today - namely the scope of contractual obligation clauses in insurance policies - but my Google Alert pulled in something else that I wanted to pass along first instead, namely, this post by Paul Secunda at Marquette on an amicus brief filed by several law professors asking the Seventh Circuit to reconsider Hecker v. Deere en banc. The brief asks the Seventh Circuit to consider the exact issues that I noted in my post on Hecker as being the debatable parts of the decision, namely the panel’s decision to link a very narrow interpretation of fiduciary obligations with a very broad interpretation of the 404(c) safe harbor. I am very curious to watch how the panel’s analysis of those issues gets played out as the case law develops on excessive fee issues, 401(k) plans, and the application to them of the safe harbor and of breach of fiduciary duty claims, whether that takes place in the courts of other circuits who are confronted by the Hecker decision, or in an en banc revisiting of the issues by the Seventh Circuit.
Fun stuff, either way.
Notes on Hecker v Deere
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The Seventh Circuit’s opinion in Hecker v Deere is interesting in a number of ways, and on a number of levels. I won’t detail the facts of the case in depth here, but the case turns on the question of the plan sponsor’s and service providers’ potential fiduciary liability for allegedly high fees in the mutual funds offered in a 401(k) plan and the limited degree of disclosure provided to participants about the fees. You can find the case itself here, and for those of you who don’t have an interest - or possibly the time - in reading the entire 33 page opinion, a readers digest overview of the case itself right here. It is, though, a well-written, fluid, almost elegant opinion, an easy read if you care to take the time.
Perhaps most notable, from an overview perspective, is the fact that the Seventh Circuit simultaneously gave the scope of protection granted to fiduciaries by Section 404(c) pretty much as broad an interpretation as possible, and the scope of fiduciary obligations with regard to investment selection and fee disclosure as narrow a one as possible. Its an interesting double whammy. I am not saying its right or wrong (although Ryan Alfred at BrightScope has made a detailed argument that the court is off base in reading the protections of section 404(c) so broadly), but it is certainly a very interesting framework. If you think of it as a Ven diagram, with one circle the world of problems that can arise with mutual funds and 401(k) plans, and the other the extent of fiduciary obligations in the view of the Seventh Circuit, the overlap is smaller than one would have anticipated.
Then there is the question of the court’s view of the fiduciaries’ obligations of disclosure with regard to fees in the plan, finding that the statute and the regulations did not require more disclosure than was made, and thus there was no breach in failing to disclose more information about the fee structure. Paul Secunda in his piece on the intersection of preemption and the statute’s limited remedies (in which he emphasizes how those two aspects of ERISA can result in harms that cannot be remedied) discusses what he views as two competing ideological camps with regard to the interpretation of ERISA, literalists and remedialists. I don’t fully agree with this particular bicameral division of the world, but it offers a handy frame of reference for understanding the Seventh Circuit’s ruling: the panel took a truly literalist approach to the question of disclosure, finding that what the statute and regulations don’t expressly require, is not required. This seems, I have to say, hard to square with the idea that a fiduciary’s obligations run to a high level of care, which would seem to raise the question of whether a fiduciary has more obligations than simply those that are required by express mandates, but the panel does not squarely address that question.
This leads into a central point that animates the case, in my opinion, and which can be summed up in two famous words: caveat emptor, at least if you are the plan participant. The court finds that the mutual funds in the plan are numerous and also sold to the public as a whole, and therefore the fees are, in some broad sense, fair and appropriate, as they are what the public marketplace as a whole is willing to bear. But is the public pricing as a whole a fair determination of whether fees charged within a 401(k) plan are excessive or not? Isn’t this just using the lowest common denominator to make this call? After all, a public buyer does not have the leverage or the expertise - at least in theory - that a plan sponsor brings to negotiating investment options and their fees. Part of the problem in analyzing this question is that the district court, and now the appeals court, resolved the case on a motion to dismiss, where argument and supposition play too much of a role and factual development of these types of questions have not occurred. Deciding whether the fees are excessive on an actual factual record may suggest an entirely different answer than just the assumption that the market as a whole has acquiesced in the pricing, so therefore it was not excessive when a plan sponsor signed off on it. But for a plan participant, the ruling clearly means one thing: it is your responsibility to engage in the same full due diligence that you would have to pursue if you just purchased the mutual fund from a 1-800 number, and you are not entitled to rely on the plan’s fiduciaries to have done that for you.
Shining a BrightScope on Heckler v. John Deere
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Still parceling out items of interest that have stacked up on my desk in the last week or so. Among the things I still haven’t gotten to, I have to admit, is a careful reading of the Seventh Circuit’s recent decision in Heckler v John Deere, but I will, shortly. In the meantime, though, the bright guys over at BrightScope have, and their’s is a very interesting take. You can find it right here. Its clear, when you read the post, that they don’t just have the analytics down when it comes to 401(k) plans, but also their structure and the manner in which they operate.
Do People Who Are Told the Truth Sue?
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I love this story. A couple of weeks ago I blogged about BrightScope’s launch, and pointed out my view that more information generally means less litigation. I learned thereafter that some think that is a counter-intuitive thought; presumably, people who believe that think that if you cover up problems and don’t let people know what’s going on, they may not find out and thus may not sue you. The oldest saying in the book, of course, is that the cover up is worse than the crime. Rather, people who are legitimately wronged will sue no matter what, as they should; but people on the margins are more likely to sue if they feel they were not told the truth, than they would be if they feel they were given a fair shake, even if it worked out badly for them. More technically as well, many breach of fiduciary duty claims are based on allegations of non-disclosure - that the sponsors did not disclose problems with the company stock, or backdating, or cdos. etc., that would have changed the participants’ investment strategies had they known. Obviously, something that is disclosed, rather than kept under wraps, cannot be the basis for a breach of fiduciary duty claim based on the failure to disclose.
This thesis, which I maintain is hardly counter-intuitive, but just plan common sense, is borne out beautifully by this story about a long time Merrill Lynch broker who has lost millions of dollars in company stock held in an ESOP. He points out that had he been told the truth and given the opportunity, he would have divested and diversified along the way, but did not, and that he was regularly told things by management that were not true. Now, in the close of the article, he points out that what he needs now are “the services of a sharp labor and ERISA attorney." Had he been told the truth and given the opportunity to move his retirement savings out of company stock in light of information given to him at that time, he may be worse off today than he was before the Wall Street meltdown, but he is likely well enough off still that he isn’t looking for a lawyer to file suit for him.
Bunch v. W.R. Grace: What a Breach of Fiduciary Duty Doesn't Look Like
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I cannot do better by anybody interested in fiduciary obligations under ERISA than to recommend to you the First Circuit’s decision the other day in Bunch v. W.R. Grace & Co.. For those of you not familiar with the lower court proceedings in that case, what was at issue is whether it was a breach of fiduciary duty to sell company stock, rather than maintain it as an investment option, after retaining outside advisors to investigate the stock’s value, potential and appropriateness as an investment option. At the District Court level, and again now on appeal, the courts have found the fiduciaries’ conduct to be almost literally above reproach with regard to the handling of this issue. The First Circuit’s brief is notable for two points. The first is its synopsis of the duties of a fiduciary with regard to investment options, including company stock, and the court’s emphasis on the fact that it is the appropriateness of the fiduciaries’ conduct in the face of uncertainty that must be judged, not the dollar value outcome of any particular investment decision in isolation. As the First Circuit opinion noted:
what ERISA calls for from a fiduciary is that it use the "care, skill, prudence, and diligence under the circumstances then prevailing that a prudent man acting in a like capacity and familiar with such matters would use in the conduct of an enterprise of a like character and with like aims." 29 U.S.C. § 1104(a)(1)(B). As the district court aptly stated, "in common parlance, [what] ERISA fiduciaries owe participants [are] duties of prudence and loyalty," Bunch, 532 F. Supp. 2d at 288 (citing Moench v. Robertson, 62 F.3d 553, 561 (3d Cir. 1995)). The district court noted that other courts faced with allegations similar to those of appellants in this case had looked at the totality of the circumstances involved in the particular transaction. Id. Among the key decisions relied upon by the district court for reaching this conclusion was DiFelice v. U.S. Airways, Inc., in which that court stated: [W]e examine the totality of the circumstances, including, but not limited to: the plan structure and aims, the disclosures made to participants regarding the general and specific risks associated with investment in company stock, and the nature and extent of challenges facing the company that would have an effect on stock price and viability.
And second, if you want to read an outline of what a thorough and, once in court, easily defensible, course of conduct by a fiduciary looks like when it comes to investment options, it’s the underlying course of action by the fiduciaries that is described in the First Circuit’s opinion.
Talkin' ERISA Litigation Trends
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I will be presenting a seminar next week, on Wednesday January 14th, to the ASPPA Benefits Council of New England, entitled “ERISA Litigation: An Update from the Front Lines.” After three full days of outlining my talk, I now actually have a pretty good idea of what I am going to say; the talk will blend the latest developments nationally and at the Supreme Court in ERISA law with ERISA litigation trends and realities in the First Circuit. If you are interested in attending, its not too late to register. The brochure and registration form for the talk is here.
More Evidence that Including Company Stock in a Retirement Plan May Not Be Worth the Litigation Risk
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A few months back, I discussed the broad conception of damages in stock drop type cases articulated in the case of Bendaoud, which essentially found that damages exist if the participant could have done better in an alternative investment option. This concept makes it fairly easy to construct a damages theory in 401(k) and ESOP cases that will survive the scrutiny of a motion to dismiss, and that can support a significant award of damages. A prerequisite to getting to the damages analysis, however, is a basis for attributing an actionable error in the plan to the fiduciaries; the fact that a participant could do better in a different investment is irrelevant if there was no mistake in offering the original investment option in the first place.
That, however, is not too hard to show either. The bar, for instance, is low when showing that offering company stock as an option is an actionable error. For instance, "a stock can be imprudently risky for an employee savings plan even in the absence of fraud or imminent collapse,” according to a federal judge sustaining an ERISA case against Ford alleging that the offering of company stock as an investment option was a breach of fiduciary duty, given the extensive problems in the industry at the time and the lack of broad disclosure of how those problems may affect the investment.
With numerous major industries heavily roiled, and a stock market that has tanked, I can’t say that it should really tax the imagination of any good lawyer to come up with both damages to participants and errors by plan fiduciaries in any case involving the inclusion of company stock in a retirement plan or ESOP.
On Fiduciary Bonds and Fiduciary Insurance
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Well, I suppose nothing could be located more squarely at the intersection of the two topics in this blog’s title than the difference between fiduciary liability insurance (which lets fiduciaries sleep at night) and fiduciary bonds (which protects a plan’s assets, rather than insuring the fiduciaries themselves). Scott Simmonds, who consults, writes and blogs on business insurance issues (and other things) provides this nice overview of this issue, distinguishing among the range of insurance products and bonds that come into play in running an ERISA governed benefit plan:
The Fiduciary Responsibility Liability Insurance Policy is the solution to the ERISA problem [of personal liability of fiduciaries]. Also called a FRIP, the policy provides protection for "wrongful acts" that result in a claim against the administrator of benefit plans. Premiums range from a few hundred dollars to thousands, depending on the size of the employer.
By the way, many people confuse ERISA fiduciary liability with the ERISA bond requirement. The law mandates that employee pension and retirement plans have a bond of 10% of the assets (up to $500,000) to cover loss of the funds through embezzlement. Some fiduciary policies include the fidelity coverage. Most do not.
Some businesses and insurance agents confuse employee benefit liability insurance with the FRIP. Bad call! The FRIP covers errors and omissions in the administration of benefit plans. The employee benefit liability policy covers mistakes but excludes ERISA liabilities.
I have written before (such as here, for instance) about the importance of properly structuring insurance programs to protect company officers, and making sure that gaps don't appear that may leave them exposed to personal liability. Scott's commentary targets this exact same point in structuring insurance programs for protecting fiduciaries of ERISA governed plans.
The Tribune Bankruptcy and Breach of Fiduciary Duty Litigation Over its ESOP
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I had a whole line of things I was planning to blog on, but events keep overtaking them. Today, that is the story of the Tribune bankruptcy, and its effect, detailed here, on the Tribune ESOP. We have all been watching the booming industry in filing ERISA breach of fiduciary duty cases based on the latest events in the market with, for the most part, some skepticism, as we try to deduce which ones are legitimate and whether some reflect just a piling on in the pursuit of settlements and accompanying legal fees. However, you will recall that, not too long ago and in a very prescient move, a number of participants in the Tribune’s ESOP filed a breach of fiduciary duty suit related to Sam Zell’s use of the ESOP stock in the transaction by which Zell or entities he controlled acquired the Tribune; we now are learning that this apparently deeply flawed transaction (time will tell, but all indications suggest it was deeply flawed right from the get go) placed the ESOP plan participants’ holdings at greater risk than the assets of others involved in funding the transaction, including Zell himself. Targeting the fiduciaries for possibly having allowed the ESOP assets to be used in a more risky way than others were willing to do with their own investments sure smells like a pretty credible theory to me.
On the Scope of the Attorney Client Privilege In ERISA Litigation
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This really isn’t an instance of logrolling (or blogrolling, as the case may be), I promise, even though Roy Harmon’s post that I am passing along here refers to me and my electronic discovery post a few times; the subject of Roy’s post got my attention and led me to read it long before I realized the peripheral role I played in it.
Roy provides a very erudite discussion of a particular quirk and issue of some real concern in litigating ERISA cases, which is the scope of the attorney client privilege that exists - or often doesn’t - between a plan’s fiduciaries and its legal counsel, when engaged in a dispute with a plan participant. As Roy details, there often is no privilege in that situation that would prevent disclosure to the plan participant of legal advice obtained by the plan fiduciary. Its an interesting problem, one that arises in everything from determining the contents of an administrative record to be produced in a benefits denial case (i.e., is legal advice received by the plan administrator in deciding to deny benefits privileged or not?) to the extent to which the privilege can be raised in defending a deposition in a breach of fiduciary duty case. Roy’s analogy to multi-level chess with regard to these issues is apt, and illustrative of exactly the type of complicated gamesmanship that keeps litigators interested in the otherwise often dull interstices between trials.
Back Again at the Crossroads of Securities Law and ERISA
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Here is a case from a week or so ago that I haven’t had time to post on yet, but which warranted a little more discussion than suited inclusion in Monday’s Thanksgiving Week potpourri post. In his latest ruling in In re Boston Scientific Corporation ERISA Litigation, Judge Tauro of the United States District Court for the District of Massachusetts delves in depth into the question of whether and when putative class representatives satisfy the requirements to represent a class in an ERISA breach of fiduciary duty case involving alleged securities law violations by the defendants. Building on the work of Judge Gertner, of the same bench, in her opinion in Bendaoud, issued two months ago, Judge Tauro analyzes the question of whether the requirements of both ERISA and constitutional standing, including injury in fact by the putative class representatives, are satisfied, finding that the requirements were not satisfied. The case provides a good tutorial on these issues. Beyond that, however, of perhaps even more interest, given the ongoing development of the law with regard to the intersection of securities violations and ERISA, is that the court’s analysis is heavily influenced by certain defenses to standing and injury in fact that are borrowed from securities law. Normally, in most instances, we are seeing ERISA used as a broader forum for attacking these types of violations, as compared to relying on the securities laws to do so, but in this case, doctrines developed as part of securities litigation serve to blunt a related ERISA case.
A Thanksgiving Week Feast
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Some of the more prolific bloggers manage to be prolific by posting short notes on various topics of interest written by others, which isn’t my usual style. But over the past week or so I have managed to back up a good stack of things that I have wanted to talk about in detail, but haven’t had the time to comment on. So in the spirit of a Thanksgiving host laying out a big spread, here’s a whole bunch of things at once:
First, here is a good follow up story providing more detail on Wal-Mart’s success in defending itself against excessive fee litigation, a topic I first discussed in this post here. This particular story, in PlanAdvisor, does a nice job of illustrating the point I made in my earlier post, which is that the court, in ruling in favor of Wal-Mart, did not focus on or analyze the propriety of the particular fees themselves, but rather focused on the method used by the fiduciary to select the investment options in question and whether that was prudent. Interestingly, the article describes the Wal-Mart investment menu, and it reads like one you would find in just about any 401(k) plan. Does this suggest that most plans are actually fine on this front? Or might it suggest that fiduciaries as a whole accept fees that are too high, and that perhaps comparing a particular plan’s investment choices, such as Wal-Mart’s, against industry benchmarks is not really the right focus for deciding whether the fees in a particular plan were too high? Just asking.
Second, here’s one court’s answer to an oft asked question: is a plan participant seeking benefits entitled to attorney’s fees for the administrative appeal portion of his claim?
Third, here’s an interesting webinar rounding up the Supreme Court’s treatment of ERISA issues during the 2008 term. The Court’s fascination with ERISA during the past year has been well documented and the biggest item of discussion in ERISA related media, and pretty much everything about those developments has been chronicled on this blog and a million other places. But if you haven’t seen it all enough by now, the webinar may be for you. Interestingly, one of the topics noted in the webinar is the Court’s involvement in a case, still pending and not yet decided, concerning waivers by divorcing spouses of plan benefits. This is the quickly becoming infamous Kennedy case, which to date has caught the eye for two reasons: first, many people have some question as to why the Court took on this case and whether it merited the Court’s involvement, and second, because of the Court’s decision to seek supplemental, post-argument briefing on the very basic issue of the extent to which plan administrators are bound - barring an effective QDRO - to the express written terms of a plan. As a very experienced benefits consultant recently commented to me, the Court is going to upturn an awful lot of apple carts if, intentionally or even (probably by accident) implicitly, they indicate that administrators are not strictly controlled by the actual written terms of the plan instrument. As a result, a case that started out as perhaps the least substantively significant of the ERISA cases taken up by the Court in the past year threatens to become one of the more disruptive to settled practices, in a manner similar to how the Court reopened much settled thinking on fiduciary duty issues by indicating in LaRue that rules long established in the defined benefit context may not hold true for all other situations.
Okay, that clears some of the backlog.
Excessive Fees in 401(k) Plans: Its What You Do, Not Who You Know, That Counts
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I am a real big fan of this article here, on two recent rulings in major excessive fee 401(k) lawsuits, one against Wal-Mart and the other against Bechtel. While I haven’t read the rulings in those cases themselves yet, what I like about the rulings, at least as depicted in the article, is that they apparently did not focus on the actual amount of the fees, but rather on the process used by the defendant companies in selecting them, to decide whether the amount of fees attached to the plan’s investment options violated fiduciary obligations. As the article sums up the rulings:
The details in the recent rulings in the Wal-Mart and Bechtel suits vary, but both cases offer a reassuring message to large corporate plan sponsors: In determining whether a corporation breached its fiduciary duties to 401(k) participants, the actual fees charged to workers are not nearly as important as the procedure a sponsor has in place supporting its decision to hire, and keep, any firm that provides 401(k) services to plan participants.
So, for instance, if plan sponsors offer actively managed mutual funds on their 401(k) platforms, sponsors are not acting negligently if these funds wind up underperforming—even if the funds are more costly to participants than passive investment options that could have generated better returns for a lower fee. As long as 401(k) sponsors can document that there was sound reasoning and process underlying its selection of the actively managed funds, then they are not breaching their fiduciary responsibilities.
I like this because it is a perfect match for something I have been preaching on this blog for some time, and which is exactly what I tell reporters who call up asking for suggestions as to how plan sponsors and administrators can best protect themselves against fiduciary liability: follow and document best practices that show that the company tried to locate the best funds at the best fees. Sponsors and fiduciaries can do this by such steps as: (1) bench marking selections against other options and the market as a whole; (2) bringing in outside experts who can provide that information; (3) choosing funds whose costs are consistent with the industry and not outliers; and (4) considering multiple vendors, options and choices before settling on the best overall option, just as the company would in picking vendors for any other service or product. What this really means in the real world as to follow, or mimic, an RFP type approach to selecting funds and vendors, and never, ever, just buy funds from someone a fiduciary knows from playing golf.
You Say Securities Law, I Say ERISA
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Stop me if I am beating a dead horse, but this press release/short story on a class action law firm’s investigation into a stock drop involving Hartford’s stock reads exactly like one that, a few years ago, would have been issued prior to pursuing a securities class action; now its written in advance of pursuing an ERISA breach of fiduciary duty claim, with the class consisting of the company’s 401(k) participants. There is no better or more succinct illustration of the movement away from using the securities laws to pursue these types of claims and towards instead using ERISA to pursue these types of claims than this brief story. The facts at issue haven’t changed; they just replaced the words “securities act” with the word “ERISA.”
More grist for the mill for those who believe that the merging of the two areas by plaintiffs’ firms needs to be met by integrating the obligations under both areas of law so that fiduciaries are not operating under two separate and sometimes contradictory legal regimes.
Revenue Sharing, Fees, Indemnity and Contribution: A Potpourri of Hot Button Issues Confronting Fiduciaries
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So you’re an amateur fiduciary, nominally in charge of a company’s pension plan or 401(k) plan but generally relying on your outside vendors and service providers for substantive advice and decision making, and you get sued for breach of fiduciary duty because of losses resulting from the investment advice you received from them. So what’s the first thing you do? File third party actions for contribution or indemnity against the outside vendors on the theory they were fiduciaries as well and must reimburse you for any loss you are held responsible for because of your role as a fiduciary? Well, not necessarily in Massachusetts, where at least one judge has now concluded, on an issue that has been treated differently in different courts, that ERISA did not expressly incorporate such rights as against other fiduciaries, and so therefore they do not exist. The case is Charters v. John Hancock, and here is a nice article on it, here is nice post elsewhere on it, and here is the decision itself.
The central issue of the case and of the court’s reasoning is presented well in the article, where the court’s reasoning is explained as follows:
Under the indemnification and contribution principle, when one person is subject to liability because of another person's action, the second person has to make good the loss, and contribution requires the loss to be distributed among several liable fiduciaries. In his ruling, Groton noted that federal appellate courts are divided on the issue of whether ERISA permits indemnification and contribution, but said Groton was siding with those courts that have found that courts should not imply statutory remedies, which are not allowed under ERISA.
"Here neither party disputes that ERISA does not explicitly provide for claims of contribution and indemnification among co-fiduciaries. Allowing fiduciaries who have breached their duty to resort to contribution and indemnification to recover from co-fiduciaries is not 'of central concern' to ERISA," Groton asserted.
There is a lot of room for argument on both sides of this issue, as to whether a fiduciary should have or does have such a claim against another fiduciary, and I can certainly see both sides of it, or argue either side of it. It is more of a policy issue as to how ERISA should be applied, than it is a jurisprudence question of understanding and interpreting the statute, and is one that the entire system would benefit from a simple declaration one way or the other, by Congress or the Supreme Court, as to what the rule shall be on this going forward.
In the Charters case itself, it is worth noting, and important to practitioners to recognize, that the court was confronted by this issue in a case where the defendant was using indemnification as a counterclaim to ward off a breach of fiduciary duty claim against it by a trustee by trying to pass the liability back to the trustee; it may well be that the court would have reached a different conclusion if presented with a more traditional contribution/indemnification scenario, where the defendant fiduciary was not trying to use the doctrines offensively, but instead simply to spread the liability owed to the plaintiff as a result of fiduciary breaches among all fiduciaries who may have participated in the breach.
Finally, although it seems to be the court’s rejection of the contribution and indemnity doctrines as applicable under ERISA that has caught the attention of observers, of at least equal interest is the court’s further discussion of a particularly timely issue, which is the defendant’s status as a fiduciary and possible breach of fiduciary duty based on failure to disclose fees fully and on receiving “revenue sharing payments in the form of 12b-1 and sub-transfer agency fees from
the funds in which it invested on the Plan’s behalf.” The court provides a nice analysis of these issues, making the case a good starting point for analyzing them with regard to the ever growing number of such cases being filed.
The Amateur Fiduciary
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Geez, I hate to do this, but sometimes you have to play connect the dots. Reading this story about amateur (some would call it democratically run - small d, local government style) municipal pension plans and their investment strategies that got them caught up in the current collateralized debt obligation/securitization mess, I kept thinking to myself, where is the responsible, professional, knowledgeable fiduciary (or fiduciary retained vendor) in the investment decisions being chronicled. I don’t see them anywhere in the story. I see what appear to be the fiduciaries in over their heads and taking advice from what, in essence, are sales people. So what happens now in those cases (I mean besides the pension plans taking big losses)? Well, either the fiduciaries are liable for the mistakes they made, or they need to find - and sue - someone who is, as suggested in this piece here.
Many commentators often have a problem with fiduciary obligations and how they are interpreted, but to me, they play an essential role, and reflect a perfect fit between aspirations and legal obligations. The fiduciary alone stands in a position to protect plan assets, while simultaneously bearing the initial exposure for failing to do so, and thus has both an obligation and a deep rooted need to actually manage a pension plan well. It is not a job for amateurs, and is not simply a role in which it is enough to just do your best. Plan participants deserve, and legal obligations require, a level of expertise far beyond what is reflected in these types of stories.
Between a Rock and a Hard Place: Pity the Poor Fiduciary, Trapped Between the Securities Laws and ERISA
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One continuing theme in the posts on this blog is the replacement by plaintiffs’ class action firms of securities actions with ERISA breach of fiduciary duty actions in stock drop and similar type cases; the large class actions are brought on behalf of plan participants who hold company stock, often in an ESOP, against the plan fiduciaries. Such claims, for all intents and purposes, serve as independent securities type lawsuits against the company involved, through the guise of a breach of fiduciary duty lawsuit against the company’s designated fiduciaries, without having to meet all the rigmarole of a traditional class action securities fraud suit. I have posted often about this developing trend pretty much since launching this blog, and it has become a commonplace among other commentators as well.
Well, Georgetown law student Clovis Trevino Bravo has taken this line of thinking one step farther, authoring a detailed look at the advantages of prosecuting these types of cases under ERISA instead of under the securities laws, with a particular focus on the procedural and discovery advantages that accrue to the litigator who files such cases under ERISA rather than under the securities laws. Beyond that, she does an admirable job of synthesizing the often conflicting case law as to the intersection of the two legal regimes, providing an understanding of an evolving consensus - which is still a bit of a moving target, though, as she notes - as to the obligations of an ERISA fiduciary trapped between two separate lines of legal duty, that provided by the law of ERISA and that provided under the securities acts.
You can read her article in full right here, and you should - it will be worth your while.
TARP and ERISA Litigation
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Here’s an interesting looking and timely webinar from West next week on the stock market meltdown, the bank bailout, and their effect on ERISA governed plans. The short version of their pitch for the webinar, which ought to be in 20 point type spread across a banner headline, is “here come the breach of fiduciary duty lawsuits.” Overhyped? I doubt it. If the markets are down 40%, so are gazillions of dollars in 401(k) assets. If an individual financial company’s stocks are being battered, then so to are megamillions of dollars in that company’s stock likely held by its own employees in esops and other vehicles. Who are all of these plan participants going to be looking at? Who can they actually make out a claim against, and have standing to sue? To ask these questions is to answer them: the applicable plan’s fiduciaries.
Now the interesting question, more so than whether such lawsuits are coming (the answer to that question falls in the dog bites man category) is the structure of the defenses that will be raised by the fiduciaries. You can expect some consistencies across the positions raised by the defendants, not the least of which - and the best of which may well be - that prudent investment processes were followed, so no breach occurred, and proper levels of disclosure to the plan participants were maintained, so again no breach occurred, but the fiduciaries got blindsided, with the underlying theme of, one, so did everybody else (supposedly, anyway) and, two, no one could have anticipated and avoided these losses. What do I think of these likely defenses? Well, it would take a book length piece to address the ins and outs of these defenses, their holes, their strengths, and their weaknesses. But I do know this - any fiduciary relying on such defenses better have a squeaky clean documented trail of disclosures to participants, investigation into investment options and vendors, and informed decision making to back it up, or they are going to be writing very big checks when all is said and done.
To Be or Not to Be (a Fiduciary, That Is)
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I talked about a case last week that addressed the damages aspect of making out a breach of fiduciary duty claim related to stock drop type issues, and pointed out the broad, ambiguous and easy to manipulate nature of a damages claim in that scenario. Another case last week, also out of the United States District Court for the District of Massachusetts, points out that other aspects of making out a breach of fiduciary duty case on a class action basis based on the administration of 401(k) plans provide a real check on such cases. The issue in that case? Namely that not everyone involved in operating a 401(k) plan is a fiduciary, and that while deep pockets involved in allegedly inappropriate behavior with regard to such a plan may make tempting targets, they cannot be sued successfully for breach of fiduciary duty if the prerequisite of having acted as a fiduciary is not satisfied.
As Judge O’Toole’s opinion in Columbia Air Services v. Fidelity Management Trust Company illustrates, an administrator of a plan - and who is not a named fiduciary of the plan - is only a functional fiduciary with regard to those specific limited areas in which it exercised discretionary, decision making authority; alleged wrongdoing by it with regard to other areas of its work for the plan do not subject it to fiduciary liability because the administrator is not deemed to have been serving as a fiduciary in those other contexts, regardless of the fact that it served as a fiduciary for other purposes. Thus, in that case, claims that improper fees were paid to the administrator as part of the structure of the 401(k) plan it was administering could not be the basis for a breach of fiduciary duty class action, because that did not occur as part of the activity where the administrator was, in fact, a fiduciary. As a result, ERISA granted no avenue for redressing those allegations of improper fees being paid to the administrator as part of its work for the 401(k) plan in question.
Although, as I have discussed in the past and as is discussed as well in this interesting article here, ERISA is becoming a favored structure for bringing securities related class actions, as this case shows, there are hurdles to these types of claims as well, ones that should dissuade anyone who thinks that bringing a stock manipulation class action under ERISA rather than the securities laws themselves equates with shooting fish in a barrel.
On Backdating, ERISA, and the Possibly Unintended Consequences of the Diamond Hypothetical
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If you have an interest in both ERISA and in well written, logical judicial opinions, I can’t recommend highly enough this opinion, by Judge Gertner of the United States District Court for Massachusetts, in Bendaoud v. Hodgson, deciding a number of issues at the motion to dismiss stage. I have a trial starting on Monday, so, unfortunately, I can’t delve as deeply today into the range of issues the opinion discusses and that warrant comment as I would like, but a few issues are worth commenting on right off the bat, even in the limited time I have today.
First, I have discussed before the trend, which others are recognizing as well, of ERISA replacing securities law as a preferred structure for attacking stock drop and similar stock related manipulation type cases. Judge Gertner comes as close as anyone has to demonstrating in her opinion why this state of affairs has come to pass, in her analysis of standing and the question of whether the plaintiff, since he sold his stock holdings in the company plan before the stock manipulation in question came to light and drove down the stock price, could still show he suffered injury. The court found that the plaintiff could show injury by demonstrating that the alleged fiduciary breaches resulted in less profit than the plaintiff would have earned “had the funds been available for” other purposes than the investment made by the plaintiff. This is a pretty open damages theory, and not one as closely tied to the actual timing of disclosures and its impact on stock prices that the court recognizes would control the issue if it were more of a traditional stock manipulation securities action.
Second, the case raises questions about whether, after Justice Breyer’s famous diamond hypothetical in LaRue, a single plan participant can actually sue for losses to the plan anymore in defined contribution cases, if the diamond that was lost did not actually come from that participant’s account (or safe deposit box, in the terms of the hypothetical). The court suggests that such a plan participant may not seek recovery for the other plan members on his or her own, but that instead a class action structure may be required.
And finally, reading the court’s opinion and the analysis of the damages issue, I couldn’t help but think of the LA Times ESOP case that I discussed here and my thought that, regardless of the merits of that particular case, it certainly illustrated the risks of using ESOP held stock in corporate transactions, because the interests of those pursuing the transaction, while not by definition wrong in any way, may not line up perfectly with the best interests of the employees holding that stock in the ESOP, raising risks of breach of fiduciary duty. The damages analysis in Bendaoud goes right to this point; under that analysis, the issue is not whether the stock holding employees made out okay in the deal, but whether the ESOP assets would have been worth more had the stock been used in a different manner or different transaction. That analysis suggests a broad range of attacks on a complicated ESOP implicating transaction such as that in the LA Times case.
Fiduciary Duties: It Ain't Easy
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With regard to my post yesterday about fiduciaries having the power, authority and motivation to act to protect plan participants, of course, that’s a lot easier for a fiduciary to do if its vendors are giving it advance notice of losses before the rest of the market finds out, and a lot harder to do if a fiduciary is one of the vast majority who aren’t given that advantage. See this story right here. A little less flippantly, this story - of alleged advantageous information given to some customers in advance of disclosure to the market as a whole - goes right to why its easy to say (as class action complaints always do) that fiduciaries owe a high duty of care to protect plan assets and beneficiaries, but it isn’t all that easy for fiduciaries to actually do.
Joshua Itzoe on Fixing the 401(k)
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In an odd coincidence, at the same time Wall Street has been imploding, laying bare valuation and other problems with investments in retirement plans and elsewhere, I happen to have been reading independent fiduciary/401(k) advisor Joshua Itzoe’s book, Fixing the 401(k), which is premised on the idea that 401(k) plans are compromised by inherent, systemic problems, ranging from issues in plan design to the significant impact of fees charged against plan assets (Susan Mangiero, who knows as much as anyone around about valuation, fee, and other issues impacting pension investments, has a valuable review of Joshua’s book here). I hope to return to some specific chapters in the book and discuss them in detail and in the context of the types of cases that I see and that appear on the court dockets, but for now what struck me most was the extent to which the problem that Joshua identifies as needing to be fixed is really one of fiduciary talent and application; excessive fees that decrease performance, poor investment choice selection, and controlling plan costs - all items that he identifies as systemic problems at this point in the 401(k) regime - are all issues that are or should be right in the wheelhouse of plan sponsors and fiduciaries. They alone, either on their own or by exercise of their authority to bring in outside expertise, are in the position and have the authority to protect plan participants against essentially every one of these problems; further, by operation of the liability imposed on them for failing to do so, they are the one and only players in the system who both have the power to address these issues and the legal incentives to do so. Plan participants have neither the power, responsibility nor authority to do so, and outside vendors - particularly ones who do not rise to the level of a fiduciary or who will at least argue that they do not - likewise may lack, at a minimum, the incentives to address these problems. The Wall Street implosion just drives these points home further; fiduciaries alone are in a position to protect plan participants from the pressures and potentially explosive risks in retirement investing by means of company plans such as 401(k)s, and there really isn’t anyone else with the authority, power or interest in doing so. Indeed, at heart, isn’t this really what a breach of fiduciary duty lawsuit really is - a claim that the only party in a position to put the participants’ needs first, didn’t?
Does a Dying Industry Guarantee Pension Litigation?
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This is one of those days in which the possible blog topics come fast and furious, many of them driven by the once every hundred years or so events on Wall Street and what they tell us about both the obligations of fiduciaries of retirement plans and their concomitant ability to live up to those obligations. That may or may not be a story that can be covered adequately in the blog format, but at least some of the highlights of those issues may make for some posts along the way. For today though, I thought I would focus on something a little more concrete, namely the LA Times/ESOP/ERISA /breach of fiduciary duty case that I blogged about in my last post. Here is a nice article giving a little more context to the suit, and which is probably worth a read if you have an interest in ESOPs, ERISA, newspapers or all of the above. One thing in particular caught my eye in the article, which relates to its discussion of the underlying problems in the newspaper industry and how it relates to the lawsuit; one of the class plaintiffs comments that those problems are not with the product turned out by the reporters, but with the industry’s difficulties with “monetizing the product online.” As someone who used to read three newspapers a day in law school and now skims three or more a day on-line and on my blackberry without spending a dime for the content, I can only say amen to that. I am not sure, though, that this point really has anything to do with the validity or viability of the suit itself, other than to the extent of pointing out the underlying problems that gave rise to the transaction that allegedly harmed the ESOP participants and gave rise to the class action. Either way, the story illustrates an important point, which is that there is a need for caution in any transaction of this nature that is going to impact the dollar value of stock held in ESOP plans, in light of fiduciary obligations that run in tandem with such plans.
ERISA, ESOP and the LA Times
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What happens when journalists, Sam Zell, ERISA and employee stock ownership plans collide? Well, at a minimum, you get a really interesting and well written complaint alleging breach of fiduciary duty under ERISA. Here is the WSJ Law Blog post on this, and thanks to the post, here is the complaint itself. A couple of brief thoughts off the top of my head. First, this case fits in nicely with the trend that I have discussed in the past on this blog, which concerns the replacement of the securities laws with ERISA as the preferred means of attacking large scale corporate transactions. Second, like most such complaints filed as potential class actions, the complaint tells a wonderful story. As a litigator, I often wonder who is the target audience for these types of dramatically written pleadings, as a jury will never see them (not that any cases like this ever reach trial or, if they do, before a jury) and I am hard pressed to think that judges pay much attention to them when it comes time to consider the merits of a case. And third, if there is any fire behind the smoke that makes up the complaint’s allegations, then it will be an interesting case to follow as it proceeds along.
Systemic Losses and Fiduciary Liability
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We have all taken note of the run up in filings of very large breach of fiduciary duty cases against plan fiduciaries that are based on the tremendous losses incurred in investments held by plans as a result of the subprime lending mess. The filings themselves are noteworthy, and the numbers, losses and alleged misconduct depicted in them are eye-grabbing, in ways reminiscent of tabloid headlines that focus on the most sensational elements of a story for the purpose of separating readers from their three quarters. Most lawyers, myself included, and other observers have immediately delved into the ERISA defense lawyers playbook in thinking through these cases, looking towards the procedural, and if they fail, substantive defenses that the fiduciaries can present. But it may well be that the best defense is in the fact that fiduciary obligations may be high, but they do not require omniscience, and therefore in the argument that even a fiduciary who did everything at the level of competent industry professionals was still going to have the plan assets suffer these large losses, and thus cannot be liable here. I thought about this as I read this article here (the latest in what I have always thought of as Paul Krugman’s simplified economics seminars for the non-economists among us, including myself), which could almost serve as a trial lawyer’s closing argument that, whatever happened to the plan’s assets, it wasn’t the fiduciary’s fault, but a systemic problem giving rise to losses that could not have been avoided.
I am not entirely sure I believe that argument myself, at least in all cases, but in the case of a fiduciary who can document that standard, best investment practices were pursued, and the losses happened anyway, it’s a pretty persuasive argument. For the plaintiffs’ bar bringing these cases, and for the plan participants who have suffered large losses in their retirement holdings, what does this mean? It means that pragmatically, the case to be put in will probably have to combine the existence of the large systemic losses with compelling evidence that the fiduciaries in question in any particular case did not actually follow the industry’s best practices, but instead fell down on the job somewhere along the way, before those losses struck home. That second piece of the case is where the fun will be for the lawyers, in the nitty gritty of discovery battles seeking that evidence and in the fights to submit or exclude expert testimony as to whether the professionals did not pursue appropriate practices and whether that caused or increased the losses.
The First Circuit on ERISA Standing
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Very interesting case out of the First Circuit the other day on the question of whether former employees satisfy ERISA standing requirements with regard to defined contribution plans. Short answer is they do, but the Court’s analysis and discussion is an interesting open field run across a range of issues that are both explicit and implicit to any consideration of this question. One particular point, basically noted in a footnote, was of particular interest to me. I have discussed frequently in past posts my thesis that much of the evolution in ERISA law is and will continue to be driven by the economic effect on employees of the replacement of the pension system by 401(k) plans; this is partly because employees have become the persons at risk from investment mistakes, which they generally were not - barring complete failure of the employer and its pension plan - when employees were instead covered by pensions. In an interesting footnote, the Court addresses the distinction between the two types of benefits, and hints at the impact of that difference on employees:Under a defined benefit plan, participants are typically promised a fixed level of retirement income, computed on the basis of a formula contained in the plan documents. See 29 U.S.C. §1002(35). The formula generally accounts for an employee's years of service and compensation level at retirement. Graden, 496 F.3d at 297 n.10. In contrast with a defined contribution plan, where the amount of benefits is directly related to the investment income earned in an individual account, the investment performance of the portfolio held by a defined benefit plan has no effect on the level of benefits to which a participant is entitled, provided that the plan remains solvent. See LaRue,128 S. Ct. at 1025 ("Misconduct by the administrators of a defined benefit plan will not affect an individual's entitlement to a defined benefit unless it creates or enhances the risk of default by the entire plan.").
The case is Kerr et al. v. W.R. Grace, et al.
From Preemption to ERISA Standing, and Lots of Things In-Between
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Philadelphia, New York, court hearings - I have been everywhere the past week or so other than at my desk where I could put up blog posts. Here’s a run down of interesting things I came across along the way that you may want to read. First, for those of you who can’t get enough of this topic - I know I can’t, but then I am fascinated enough by this stuff to maintain an entire blog on the subject of ERISA - Workplace Prof passed along this student note on preemption and “pay or play” statutes: Leslie A. Harrelson, Recent Fourth Circuit Decisions: Retail Industry Leaders Ass'n v. Fielder: ERISA Preemption Trumps the "Play or Pay" Law, 67 Maryland L. Rev. 885 (2008). Second, SCOTUS passed along that the Supreme Court decided not to accept for hearing Amschwand v. Spherion Corp., which, I noted in a previous post, presented an opening for the Court to address when monetary awards for breaches of fiduciary duty can qualify as equitable relief that can be sought under ERISA. I have commented before that the Court has advanced the ball on equitable relief under ERISA into almost untenable terrain, and I am not sure whether the Court can bring any greater clarity to the issue without backtracking from its recent jurisprudence on the subject; given the unlikeliness of the Court doing so already with regard to such relatively recent decisions, it is probably just as well that the Court did not take on the issues presented by that case.
Third, you could learn everything you need to know about the standards of review for benefit denials and the impact of the Supreme Court’s decision in MetLife v. Glenn by clicking on the “Standard of Review” topic over on the left hand side of this blog; or you could spend an hour listening to this webinar on the topic.
Fourth, Pension Risk Matters passes along this Sixth Circuit decision enforcing the Supreme Court’s approach to individual claimants in LaRue, finding that two participants could sue for breach of fiduciary duty. There are two particularly interesting side notes about this. First, it illustrates a particular point I - and others - made in a number of media outlets after the Supreme Court issued its opinion in LaRue, namely that, while it may not result in an avalanche of litigation that otherwise would not have been filed, the ruling is certainly going to lead to an increase in the filing of smaller cases on behalf of a few participants in circumstances that, in the past, would not have generated suits unless a class wide action could be brought. Second, the case presages what may be the dying off, by a thousand cuts, of the long held use of standing to cut off ERISA breach of fiduciary duty suits at the earliest stages of procedural wrangling, long before any litigation over the merits of a case, something which occurred at the federal district court level in the original LaRue case itself. Roy Harmon, over at his Health Plan Law blog, has a detailed analysis of this question, one I have been thinking about since LaRue was decided but which Roy has thankfully saved me from addressing in detail at this point.
A Brief List of Things Worth Reading
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Even when trying cases, I have never had a week so busy since launching the blog that I haven’t been able to find time to post. David Rossmiller likes to say that work is the curse of the blogging class, but even when really busy, I have always found writing up a blog post to be a nice chance to recharge my batteries. So for those of you looking for something ERISA related to read on this upcoming summer weekend, I thought I would at least pass along some of the more interesting things I have been reading this week. These include: Kevin LaCroix’s latest post summing up the status of all of the subprime related lawsuits filed around the country’s courthouses, including two new cases brought under ERISA alleging breach of fiduciary duty as a result of subprime related exposures; the Workplace Prof’s series of posts on, in order, the Supreme Court’s request for the government’s view on a cash balance plan issue, the Ninth Circuit’s view that a disability benefit plan claim can be denied if the claimant does not cooperate with investigation of the claim to the extent required by the plan’s terms, and on recent appellate authority on the effectiveness - or ineffectiveness - of particular approaches to delegating discretionary authority to administrators; and the Florida Appellate Blog’s post on an Eleventh Circuit decision finding that an administrator did not have to provide a copy of an IME report to a claimant prior to conclusion of the internal appeal procedure.
Two More ERISA Cases for the Supreme Court?
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The good folks who write the SCOTUS blog are engaged in one of their periodic attempts to read the tea leaves and predict what cases the Supreme Court will choose to hear. This time, they think the Court will review two ERISA cases, Geddes v. United Staffing - which concerns the standard of review to be applied to benefit determinations when fiduciary duties are delegated to a non-fiduciary - and Amschwand v. Spherion Corp., which presents an opportunity to clarify when monetary awards for breaches of fiduciary duty can qualify as equitable relief actionable under ERISA. If the Court hears both cases, we will see a continuation of the trend of the Court focusing on and likely reframing the course of ERISA litigation. Geddes provides not just an opportunity to understand the impact of delegation to third party administrators, and to open up for further development some of the unsettled issues in that realm, but also an opportunity, on the heels of whatever the Court decides in the currently pending MetLife v. Glenn case, to alter the settled understandings of when and how to apply the differing standards of review that apply in benefit cases. Amschwand, in turn, presents the Court with an opportunity to address a very technical and specific question, but one that continues to bedevil courts and litigants, namely the question of what types of claims for monetary recovery can proceed, under current Supreme Court jurisprudence, as claims for equitable relief under ERISA. Of note, the Solicitor General’s office, in recommending that the Court accept review of that case, seems to emphasize a need to broaden the range of theories that can be brought as equitable relief claims under ERISA so as to ensure an acceptable range of remedies and recourse to aggrieved plan participants, a proposition that many who favor broader remedies might not have expected to be forwarded by the administration’s legal team.
Follow the Numbers: the Evolution in ERISA Law
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I have noted two things - well, many things, only two of which are relevant to this post - in the past, one the line that Marx was wrong about a lot of things, but he was right that everything is economics, and the second that we are beginning to see an incremental evolution in the law of ERISA to account for the reality that pensions - predominant at the time of many of the earlier, key court rulings on ERISA - have been supplanted by defined contribution plans. We saw the latter, for instance, in dramatic fashion in the Supreme Court’s ruling in LaRue, with the justices’ discussion of how rules applicable to pensions may not be equally applicable to 401(k) plans. The two ideas - that everything is at base driven by economic reality and the evolution of ERISA law - are linked, in a way driven home by this column in the Washington Post yesterday arguing for a new retirement structure based on the belief that the defined contribution approach simply is not going to work for most employees. The author noted “that when ERISA went on the books in 1974, employers were contributing 89 percent of the funds in pension plans, but by 2000, the employers' share of contributions had dropped to 49 percent.” With that change, as I have argued before, we are going to see a real shift in court rulings on ERISA as applied to defined contribution plans, with rulings providing more protection - or at least more recourse - to plan participants when the conduct of plan fiduciaries, particularly in the realm of investment choices, is challenged. When ERISA was only concerned with a world in which almost all retirement benefits were in the form of a pension, investment mistakes were, speaking generally and in sweepingly broad terms, the problem of the sponsor, as the employee was still promised his or her benefits; defined contribution plans invert this paradigm, making investment mistakes by fiduciaries the employees’ problem, and the law of ERISA will continue to shift to give those employees more redress than they have traditionally had in that situation under ERISA.
Millions for Defense, Billions for Damages: State Street's Exposure
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Backdating. It’s a scandal. No, not that backdating. I mean when bloggers can’t get to something when it first comes up, and then go back in time to talk about it. That’s what I mean by backdating, and that’s what I am going to do today. Last week, I read, but didn’t have a chance to discuss here, this article from Bloomberg on the State Street Bank subprime losses and potential ERISA related exposure. The article was particularly interesting because it takes a tack someone different than most articles that, like this one, rely on lawyers to evaluate the litigation against State Street arising out of those events; most such articles focus on liability issues, the procedural defenses available to State Street under ERISA, and the defensive position that the company can assert. This article, though, asks and attempts to answer the million dollar - or in this case, more like the billion dollar - question of how much losing these cases will cost State Street. The numbers bandied about by well informed lawyers are staggering, even to the jaded eye. The article rounds up the usual band of worthies to comment, including the Workplace Prof’s mild mannered alter ego, Paul Secunda, who tacks the eye popping number of “hundreds of millions to the billions” on State Street’s potential liability, and Boston ERISA lawyer Marcia Wagner, who noted that the plan administrators filing suit against State Street may have had no other options but to sue. To quote the article:
Wagner said fund managers hurt by the drop may have an obligation to sue as the existing plaintiffs have. “To the extent plans were misled into purchasing something they were not authorized to purchase, they may have a fiduciary obligation to sue,'' said the lawyer, who isn't representing the investment manager or plaintiffs. ``It's sue or be sued,'' she said. ``They allowed bad investments, so they should be attempting to make the plans whole.”
This echoes something I said in my last post on the State Street mess, in which I raised concerns about the fact that pension fund managers invested in the State Street products without properly understanding what they were buying. As I suggested in that post, administrators fall down on their own fiduciary obligations in such circumstances. As Wagner’s comment suggests, it may well be that the administrators’ fiduciary duties under those circumstances require them to then try to remedy their initial mistakes by suing to recover the losses, rather than compounding their own fiduciary breaches by simply absorbing the loss; that latter course of action would likely just make the administrators themselves targets for breach of fiduciary duty lawsuits based on their own mistakes in investing in the State Street funds.
Big Questions From A Small Story on a (Relatively) Small Loss
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Here’s a short newspaper story of a local municipal pension plan that suffered a $2.4 million loss to its pension fund, which is only about a $53 million fund, as a result of investments in subprime mortgage backed assets made either by State Street or in State Street funds (the article isn’t clear on the relationship between the pension plan and State Street, the current poster boy for breaching fiduciary duty by subprime investments). As the article points out, the pension plan has retained counsel to pursue State Street over the loss, on the theory that State Street did not adequately disclose the nature of the investments and the risk; this is pretty much par for the course for the various State Street subprime lawsuits being brought by pension and 401(k) plans, which essentially allege that volatile subprime related exposures were not disclosed but were instead contained within investment products sold as safe, conservative bond investments. Although dressed up to suit ERISA and breach of fiduciary duty issues, they can essentially be understand as highly gussied up bait and switch claims, in which retirement plan administrators and fiduciaries allege that they thought they were buying one thing from State Street - a conservative investment vehicle to balance out riskier investment allocations - but instead were sold something else, namely a highly volatile and risky exposure. State Street, of course, as the article reflects, views the cases otherwise, as instances in which the proper disclosure was made, but market downturns harmed the investments. This whole scenario raises an interesting question, aside from whether it is the plaintiff administrators or instead State Street that is right, because no matter which one is correct in their interpretation of the events at issue, you still end up in the same place, which is that the plans signing off on these investments just plain didn’t know what they were buying. This is certainly the case if, as the plaintiff fund fiduciaries claim, they weren’t told the truth, but it is likely also the case if, as State Street claims, plan sponsors were told the truth and are now simply complaining about market outcomes; if it’s the later case, one can only assume that the sponsors didn’t understand the risk being taken when they signed up for the investment.
And this goes right back to the most important question of all here, which is what were the plan sponsors and fiduciaries doing when they were offering these investment options or making these investments themselves? This scenario speaks of poor investigation and over reliance on the investment provider, namely State Street, and suggests the plans themselves did not have proper processes, including independent administrators with the sophistication to analyze the investment choices and risks, in place for choosing investment options, prior to offering them to plan participants or investing the plans' funds directly. In this day and age, I think we are moving past the point of debating whether those types of processes are part of the fiduciary obligations of those running retirement plans.
And by the way, for the record, I am not buying the article’s spin that the loss was not that damaging to the pension plan discussed in the article, because it was only about $2.4 million. Against total plan assets of approximately $53 million, and with the taxpayers on the hook to fund the pensions because it is a municipal plan, that’s an important hit, both financially and to the public pocketbook.
Excessive Fee Litigation: A Real Problem or An Imaginary One?
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Here's a piece passed along by the Workplace Prof, noting the rise in excessive fee litigation under ERISA. I have noted before that the combination of demographic and economic factors with the ruling in LaRue is going to create more of these types of actions over the years, not less, and thus I share the skepticism the Prof expresses over whether, as a defense lawyer quoted in the piece suggests, these cases don't pose a significant problem for plan administrators. Moreover, I don't necessarily buy the sentiment suggested by defense counsel quoted in the article, to the effect that these cases are about a battle of the experts over whether any particular plan's fees were too high relative to the market or not. I think of them more as due diligence and best practices cases, as really revolving around whether the administrator followed a proper process to pick providers and funds, and to make sure the fees involved remained appropriate as measured against appropriate benchmarks.
Pension Estimates: Not Worth The Computer They Are Printed On
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Here’s an interesting decision out of the First Circuit yesterday, concerning errors in providing estimates of pension amounts to participants and whether a participant can hold the sponsor to the erroneous estimate, rather than receive only the correct amount under the actual terms of the retirement plan in question. Short answer? A participant only gets what the plan, by its express terms, grants, and not the larger erroneously estimated amount. Although it is fair to say that the actual outcome of any such dispute will depend on the actual facts of a given circumstance and the particular theories under which a particular participant elects to proceed, this case reflects that enforcing the estimate, rather than simply receiving the lower actual amount due under the plan, is an uphill battle, at best. In this particular case, Livick v Gillette, the employee struck out both on attempts to obtain the higher amount by arguing that the erroneous estimate was an actionable breach of fiduciary duty, and on an estoppel theory. The court’s analysis of the estoppel theory is particularly noteworthy, as it provides great fodder for any sponsor or fiduciary defending against an estoppel claim related to an ERISA governed plan. If you are litigating a case in the First Circuit concerning an estoppel claim related to the benefits available under a particular ERISA governed plan, this case would be the place to start.
Does Employer Stock Even Belong In Retirement Plans?
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Should there even be employer securities in a 401(k) plan or other retirement vehicle? That’s the million dollar question (or more like the hundred million dollar question) that cases like those arising out of the Bear Stearns collapse raise. Moreover, it goes right to the underlying tension between ERISA and the securities laws that plays out in the concept of fiduciary duty: namely, the extent to which it is appropriate for a fiduciary to continue to allow employer stock holdings in a retirement vehicle when the company is simultaneously facing market pressure on its stock price and an obligation to comply with the securities laws in dealing with the marketplace as a whole. The legal and philosophical issues of this inquiry go on and on, spinning on like a fall into the rabbit hole; this is manifest in cases such as the Seventh Circuit’s ruling in Baxter, discussed here, in which these types of issues are merely raised, but not resolved. It’s a good topic for a law review article, but since blog posts traditionally don’t run to the hundreds of pages, I am not going to get very far into answering those issues here, but rather want only to raise the topic, which I think will be played out in a fundamental manner in the case law as the subprime mess lurches its way through the legal system. And on a practical level, what raised this thought this morning was this story here in the New York Times about pension funds moving out of equities, because, while there is a certain apples and oranges aspect to any comparison between that issue and employee holdings of employer stock in defined contribution plans (in that pension funds are moving in this direction because of future liabilities related to pension plan payouts and not necessarily for the same reasons that an employee might not want to be invested in his or her own employer’s equities), that fact does raise an interesting question. Simply put, if the professionals who run pension funds are moving out of the stock market for, in part, volatility reasons, should comparatively unsophisticated 401(k) investors be allowed to, even in some instances encouraged to, overload with one particular company’s equities?
Passing Along Some Reading on Excessive Fee Cases and Other Timely ERISA Topics
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What would this blog be if it was done as a newsletter instead? Well, probably something like this new ERISA newsletter out of Proskauer Rose, with its detailed but readable length discussions of current events in the field, such as the Supreme Court’s recent decision in LaRue and the Supreme Court’s consideration of whether to hear a case that will allow it to return again to the problem of defining the available scope of equitable relief under ERISA. For me personally, I particularly liked the discussion of the latest trends at the trial level in the federal court system with regard to lawsuits filed over allegedly excessive fees charged on mutual fund investment options, as it takes an approach that I like to pursue whenever possible in my own posts here on this blog: it discusses the early decisions on the issue at the motions stage in the trial courts, and looks ahead to what this may mean for the industry as a whole and service providers. Its worth a read, and if you enjoy this blog, you will almost certainly enjoy this newsletter as well.
What Happens When ERISA and the Law of Insurance Coverage Collide?
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Wow, I guess this is really Seventh Circuit week here, with, I guess, a particular focus on the jurisprudence of Judge Easterbrook, whose opinion in Baxter I discussed in my last post. This time, I turn to his decision from Wednesday in Federal Insurance Co. v. Arthur Andersen, which strikes right at the intersection of the two subject areas in the title of this blog, insurance and ERISA. The Arthur Andersen opinion concerns the extent of coverage, if any, for Arthur Andersen’s massive settlement of lawsuits related to its retirement liabilities upon its well publicized, post-Enron collapse, under a policy covering breaches of fiduciary duty. The court found that there was no coverage, for a number of reasons, the most salient of which being that, first, the losses in question were the actual pension amounts, which the policy does not cover (it instead covers only other losses related to a pension plan, separate from the actual amount of the pension benefits in question), and second, that although the claims in question related to pension plans, they were not actually for breaches of fiduciary duty related to such plans, which is all that the policy actually responds to. There are some interesting lessons for plan sponsors and plan administrators in these findings: first, that it is important to remember that, in buying fiduciary liability coverage, this is not the same thing as insuring the benefits owed to pensioners themselves, and, second, that the exact scope of the coverage is narrow and limited by its exact terms, which may not extend coverage to the specific allegations of any particular lawsuit arising from the pension plan. What’s the take away? A close look by an expert is needed when selecting insurance coverage for pension plans and the people who run them, if for no other reason than to have an accurate understanding of the extent to which potential problems with the plans may actually be covered. Beyond these lessons in the case for people on the ERISA side of this blog’s title, the decision provides a fascinating run through a number of complicated insurance coverage topics for those of you who are interested in the insurance coverage half of this blog’s title. The judge - or perhaps his clerk, I don’t know the practices in that particular court - writes fluidly on the law of estoppel, waiver, the duty to defend, and the respective rights of the insurer and the insured when it comes to control of the defense and settlement of a covered lawsuit.
What LaRue Wrought
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Suzanne Wynn has the story of the day when it comes to ERISA litigation, as she posts on the Seventh Circuit’s application of LaRue to exactly the type of case that, had the Supreme Court ruled otherwise, would have gone away without any potential liability on the part of the fiduciaries or, for that matter, recovery by the plan participant. The case, as Suzanne explains, concerns a single plan participant who charges plan fiduciaries with breaches of fiduciary duty related to the amount of company stock held in that particular participant’s account; the plaintiff’s theory holds that the fiduciaries breached their duties because they “allowed participants to invest in [company] stock despite knowing that the stock was overpriced and therefore was a ‘bad deal’.” The Seventh Circuit recognized that, after LaRue, a plan participant can move forward with such a claim, at least in terms of having standing to pursue relief that is not plan wide. The Seventh Circuit’s decision touches on a number of themes that are not fully addressed in the opinion, but which really rest at the crossroads that the law of ERISA finds itself at today. The first has to do with the extent to which LaRue will or will not increase litigation. I have previously discussed that, in my view, the real impact of LaRue is that the types of cases, such as stock drop cases of the kind considered by the Seventh Circuit in this case, that in the past would only be brought if the scale was sufficient to attract the interest of the organized plaintiffs’ class action bar, will now be brought in many instances even if the scale is insufficient to give rise to class or plan wide litigation. Rather, as this case illustrates perfectly, these types of theories will be pressed now if even only one participant has enough loss to warrant the action, as LaRue expressly authorizes and as occurred in this case. This is where you will see the impact of LaRue with regard to expanding litigation, not necessarily in terms of a massive increase in numbers of suits, but rather in an incremental increase in the types and natures of suits brought against fiduciaries. And don’t kid yourself - as the baby boomer generation moves towards retirement, there are going to be a huge number of plan participants in 401(k) and ESOP plans and the like who have large enough accounts and holdings (for instance of company stock) for it to be worth their while to bring these types of suits if their accounts take a significant hit.
The second that I wanted to mention relates to something that is certainly not going to be news to any long time reader of this blog, and its certainly not an idea unique to me, namely, the fact that, in the aftermath of judicial and political responses to the growth - and some would say overuse - of class action securities litigation, the plaintiffs’ bar has begun using ERISA to prosecute what are in essence securities fraud claims of the kind that, in the past, would have been simply litigated under the securities laws. The plaintiffs’ bar has found that, given the evolution of the securities laws and of ERISA, ERISA may well be the better theory to prosecute in stock drop type cases. The swarm of litigation already being filed over the collapse of the Bear Stearns stock is a perfect example of the type of event that we have long been conditioned to expect to be litigated under the securities laws, but which is instead generating putative class actions under ERISA related to the company’s ESOP and other retirement vehicles. Among the many issues that this evolution in securities related litigation raises is how to integrate the securities laws and ERISA under these types of scenarios, to prevent ERISA from being distorted from its original purpose and transformed instead into simply some type of alternative securities law regime; Judge Easterbrook, writing for the Seventh Circuit, raises exactly these points, but doesn’t resolve them, noting instead that they will have to be developed in the future.
The case is Rogers v. Baxter International, and thanks to Suzanne for bringing it to my attention.
The Meaning of Justice Roberts' Concurrence in LaRue
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There’s nothing really new in this piece for those who have already closely followed and studied the LaRue decision (how’s that for opening with a bang?), but this column on the decision in the April 2008 issue of Metropolitan Corporate Counsel magazine by two Proskauer attorneys is interesting. They focus on playing out the meaning of Justice Roberts’ concurrence concerning whether such claims need to be pursued as denial of benefits claims, rather than as breach of fiduciary duty claims, and just what that means practically if the lower courts take him up on that suggestion.
Back to the Well: Fiduciaries and Subprime Assets
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I guess this is the flip side of all the grief that is starting to come down on fiduciaries for excessive - or at least what seems to plaintiffs’ lawyers to be excessive in hindsight - exposure to the subprime mortgage mess in pension and 401(k) holdings: pension plan fiduciaries now adding such exposure to their funds in the hope of goosing returns by buying these beaten down assets at fire sale prices (kind of like they are playing at being Jamie Dimon). Here’s the story, and thanks to my colleague Eric Brodie for bringing this development to my attention.
Back From Trial, But the World Kept Spinning In the Interim
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My trial finally concluded late yesterday after two weeks, with the jury returning a verdict in favor of my client (pause here for self-congratulatory pat on the back). While I was able to get some posts up last week, during the first week of trial, events during trial this past week left me with no time to post. A lot went on during that week that would be of interest to readers of this blog, running from the almost certain ERISA litigation that will follow from the Bear Stearns collapse, to further Department of Labor attempts to mandate transparency, to the Commonwealth of Massachusetts’ continuing efforts to single handedly prove that state regulation of employer provided health insurance benefits should, in fact, be preempted. We’ll return to these themes, and other topics, next week, now that we have time to get the printing press rolling again here.
Want to Learn More About the Post-LaRue World?
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I am trying to kick the LaRue habit, but couldn’t resist going back to the well one more time (how’s that for mixing my metaphors?). I know from readers of this blog and from talking to other lawyers that people are very interested in LaRue and the Supreme Court’s current interest in ERISA cases - in fact, one lawyer told me that right after LaRue was decided he was at a meeting on an entirely different topic but LaRue is all anyone wanted to talk about that day- so I wanted to pass along this very interesting looking teleconference next month on individual 401(k) suits post-LaRue. The faculty includes Tom Gies, who represented the plan and its sponsor in LaRue, and Karen L. Handorf, an attorney currently in private practice who previously worked for the Office of the Solicitor of Labor, background that may make her ideally suited to comment on one of the biggest mysteries of all raised by LaRue and the Supreme Court’s selection for its docket of two more ERISA cases, namely what’s with the Supreme Court’s sudden fascination with ERISA litigation.
More on LaRue: Lawyers USA Weighs In
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Thought I would pass this along right now, while the article is still available to non-subscribers - I suspect if you read this post tomorrow, you will have to subscribe to get access to the article by then. Either way, here’s an interesting article available on Lawyers USA today on the LaRue decision, and on the broader topic of what impact it will have. I am quoted in it on the issue of whether it will spawn more litigation; to quote the article:Some see the ruling as spawning multiple lawsuits by individual 401(k) account holders.
"It will open the door to a lot more litigation. I don't think it will be an avalanche, but plan sponsors are definitely looking at death by a thousand cuts," said Stephen Rosenberg, an attorney with The McCormack Firm in Boston, who blogs on ERISA issues.
This is pretty consistent with what I said in my post last Friday, in which I discussed my views about how much litigation will result from this case. It is hard, as I said then, to quantify, but it is clear that the case paves the way for sponsors to face a steady stream of smaller cases, whereas in the past they really - or at least predominately - only had to worry about whether they were in a position to be targeted for a large dollar value, class wide type suit.
Fiduciary Obligations - and Common Sense - Support Hiring Outside Expertise for 401(k) Plans
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One of the common themes of many of my posts, as well as of many of the judicial opinions, concerning fiduciary obligations of companies sponsoring 401(k) plans is the need to bring in outside expertise to manage the plans, particularly for the purpose of insuring that investment selections are appropriate and priced right. As I have discussed both in numerous posts and in a range of articles in which I have been quoted, smaller and mid-sized companies generally lack the expertise to properly handle all of the aspects of 401(k) plans and can best discharge their fiduciary duties - and best protect themselves against litigation - by retaining outside experts to manage a plan. There is an entire industry that exists to service such companies and their plans. Here is a story out of New Hampshire that illustrates this point brilliantly; it concerns a small company that believed it could operate its own 401(k) plan without an outside vendor, and ended up, without any intention to defraud, being pursued by the Department of Labor for $33,000 in employee contributions that were never paid into the plan. By all accounts, the company was not engaged in anything underhanded; it just was wrong in thinking it could handle the logistics itself. And not to beat the LaRue drum too much, but obviously the establishment in that case of the right of plan participants to sue fiduciaries for mistakes affecting their 401(k) accounts (whatever may be the exact parameters of that right, an issue up for some debate in light of some of the vagaries of the three opinions from the Supreme Court), just drives home the importance of making sure that a 401(k) plan is run absolutely as well as possible.
A Couple of Other Perspectives on LaRue
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There’s a lot out there on the Supreme Court’s ruling in LaRue, and I thought I would pass along today a couple of articles and blog posts that approach the issues raised by the case from a slightly different perspective than simply the technical legal issues raised by the case. Employee benefits lawyer George Chimento discusses the LaRue decision in this client advisory here, with a focus on a particular question, namely, whether in light of the problems posed by LaRue type cases, it makes any sense to sponsor a 401(K) plan that allows participants to pick and choose among investments. He makes a compelling argument that it just may not make any sense to do this, given the liability risks, amply illustrated by the LaRue case, and the investment skills of the average participant. He sums that issue up in this paragraph from his article:With all this additional liability, is it wise to sponsor self-directed plans, with the extra expenses associated with open-end mutual funds and daily investment switching? Are participants really better off self-managing their retirement assets, doing something they were not educated to do? Perhaps it's safer, and better for all parties, just to have an "old fashioned" managed fund, without participant direction, and to employ properly certified investment managers who can be delegated fiduciary liability under ERISA. A dividend of LaRue is that it may cause employers to step back and reconsider the current, expensive, and dangerous fad of self-direction.
And Kevin LaCroix, a lawyer/expert insurance intermediary, tackles LaRue in this interesting blog post on his well-regarded D&O Diary blog, in which he focuses on the issues for fiduciary liability insurance raised by the case. One interesting point he makes is that the availability of coverage may be affected by exactly that split between the Justice Roberts’ concurrence and the other two opinions, related to whether or not claims of this nature should actually be prosecuted only as denial of benefits claims, or instead as breach of fiduciary duty claims. Anyone interested in the insurance implications of LaRue should find it a useful and informative post.
Interpreting LaRue
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Some follow up thoughts on the Supreme Court’s opinion in LaRue, after having some time to digest it. First, the court’s three opinions make for an interesting assortment of analyses of the issue, but what is most important on the front lines, down at the trial level where these issues play out in court, is the unanimous agreement that an individual 401(k) participant can sue for losses to just his or her account. This resolves a key dispute that, I know from my own practice, has become a key issue in the question of when and how participants can seek legal redress with regard to their 401(k) accounts. Second, the three opinions set forth almost radically different answers to the question of how and why such an individual participant can sue for losses just to his or her account in a 401(k) plan. The majority opinion posits that this is the appropriate reading of ERISA in the context of defined contribution plans, which may be different from what the rule should be with regard to defined benefit plans. The second opinion, by Justice Roberts, poses the extremely thorny argument that, while a plan participant can sue for such losses, he or she should do so under the denial of benefits portion of ERISA, rather than under the breach of fiduciary duty portion of ERISA. The third opinion, by Justice Thomas, finds that the plain language of the statute warrants individual participants being allowed to bring such claims, and holds no truck with the idea, relied on by the majority, that there is some underlying principle distinct to defined contribution plans that either justifies - or is necessary to justify - this conclusion.
The competing opinions present some interesting issues. First off, Justice Roberts’ suggestion that the law governing denied benefits, rather than the law of breach of fiduciary duty, should apply to the circumstances of the LaRue case appears unworkable in the context of that particular type of claim, for a variety of practical and legal reasons; there is a certain extent to which it seems to me that even suggesting that is to work mischief, particularly for the judges and litigants who, going forward, are going to have to work out the myriad issues that claims like that brought by the participant in LaRue raise, none of which were preemptively resolved by the Supreme Court. Second, there is something telling in the contrast between Justice Thomas’ approach and that of the majority, something that may well be a clash of philosophy, not just with regard to statutory construction for purposes of the instant case, but also perhaps as well with regard to the road that lays ahead for the law of ERISA. Justice Thomas is correct in his opinion that the issue can be resolved, in the participant’s favor, simply off of the plain language of the statute, without relying on any special considerations raised by the fact that the case involves a defined contribution account rather than a defined benefit plan, which is the issue animating the majority’s opinion. Does the majority’s heavy emphasis on the fact that LaRue concerned a defined contribution plan hint at a belief among the majority that, in fact, ERISA needs to be treated as an organic, evolving body of law that needs to shift from its past precedents to account for the rise of defined contribution plans? And if so, is the emphasis on this point in the majority’s opinion a subtle suggestion to lower courts to approach new issues brought before them concerning defined contribution plans - or even old issues never before resolved under defined contribution plans - with an eye to how ERISA should develop to fit those types of plans? At a minimum, it is hard not to see lawyers for participants arguing exactly that to district courts and circuit courts of appeal in the aftermath of the ruling in LaRue.
The Supreme Court Decides LaRue, In Probably Predictable Fashion
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As a practicing litigator, I often can’t delve too deeply into a particular issue right when it arises, and instead have to return to it that night to analyze it for further discussion the next day. With a trial set to start in one of my cases and a court appearance this afternoon, this is one of those instances, but I did want to pass along the Supreme Court’s opinion in LaRue, just issued today. I will give it a more in-depth read tonight and may post more on it tomorrow, but in the interim, here is the opinion itself, along with two initial, superficial thoughts. First, as I - and others - expected, the opinion goes in favor of the plan participant, and expands the right of individual plan participants to sue for breach of fiduciary duties. Second, on first glance, the opinion seems animated by the need to account for the particular risks of defined contribution plans such as 401(k)s, and to recognize the need for the law of ERISA to develop in a manner that accounts for the transition to those types of benefit plans. In a weird bit of precognition, that’s something I just talked about in my post earlier this morning, on the Supreme Court accepting cert on still another ERISA case.
I Want My (Pension Tension Blues) MTV
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For better or worse, I’m old enough to remember where I was when MTV debuted, back when it actually played music videos. I am sure there is something to be said about the fact that a quarter century later, I now watch music videos about fiduciary risks concerning pensions, but I am not sure exactly what. You should watch it too, right here.
The Benefits of Relying On Investment Managers
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We all know that in reality, most companies that sponsor retirement plans, including 401(k)s, for their employees bring in outside advisors to manage the plan. There are at least two primary reasons for this, the first being that most companies don’t have the expertise to select investments and otherwise run plans themselves, and hope to get better retirement plan performance by relying on outside expertise. The second is the hope that fiduciary exposures will be reduced by bringing in, and relying upon, an outside advisor who has superior expertise with regard to retirement investing. These two factors ideally work in conjunction to improve retirement accounts for plan participants; the fear of legal liability inspires a desire to bring in experts, who in turn can do a better job in selecting investments than the company could on its own. In this way, we see the operation of a perfectly selected legal rule, and we see the important role that fiduciary liability rules play in the ERISA scheme; the exposure does not simply exist to support litigation after the fact, but also as a motivating force that improves plan performance on a day in, day out basis, by driving plan sponsors towards reliance on expertise that will both protect them and improve performance. It is possible, to some extent, to view almost all breach of fiduciary duty litigation as examples of failures in this dynamic. For instance, what are claims that companies breached their fiduciary obligations by excessively including company stock in a plan but instances in which a company, insufficiently afraid of its potential liability for breach of fiduciary duties, failed to either diversify investments on its own or bring in sufficient outside expertise to allow it to do so? A good example of this dynamic at work can be seen in Judge Young’s just released ruling out of the United States District Court for the District of Massachusetts in Bunch v. W.R. Grace, in which the court found that the company was insulated from breach of fiduciary duty claims with regard to the retention and sale of company stock in one of its retirement funds by the company’s retention of and reliance on an outside investment manager to make those decisions. The court found that the investment manager had properly acquitted itself with regard to those issues, and therefore the company could not be liable on claims that it had breached its fiduciary duties by selecting and relying upon that advisor. The court explained that If the investment manager “did not commit a breach, then [the company] did not fail in the discharge of its duty to select and monitor” the manager.
But you can take that analysis one step further. The interesting aspect in this regard of the ruling in Bunch is that the company was absolved of liability by its reliance on an outside expert because the outside expert did not itself breach any fiduciary obligations by the actions it took and decisions it made in that role. But what if the advisor had violated fiduciary obligations in its handling of its delegated duties? What then of the company’s attempt to protect itself by retaining and relying upon an outside expert? The answer in general is that the company can probably still successfully defend itself against claims for breach of fiduciary duty, so long as it can show that its own steps in selecting and monitoring the outside advisor were prudent, even if the chosen advisor turned out, in hindsight, to be the wrong choice of advisor or investment manager. And in that lies the two real teachings of Bunch. First, that companies can protect themselves from fiduciary liability by selecting and delegating to an outside expert and, second, companies have to pursue that old cliche - best practices - in making that delegation if they really want to avail themselves of the protection that bringing in outside expertise can provide. By abiding by the second teaching, they should be protected even if the advisor they selected thereafter, unlike the advisors relied upon by W.R. Grace in the Bunch case, falls down on the job.
LaRue is Decided . . . Well, Sort of
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In an opinion it issued on Monday, the United States Court of Appeals for the Sixth Circuit confronted essentially the exact same facts and issues as are at play in the LaRue case currently pending before the Supreme Court, and effectively entered its own prediction as to how the Supreme Court will rule in LaRue. Tackling the same arguments that were presented to the Supreme Court in LaRue, the Sixth Circuit concluded that individual participants could recover on their own behalf for losses solely to their accounts in the plan, and that breach of fiduciary duty claims under ERISA are not limited to actions brought on behalf of the plan as a whole or for recovery benefiting the entire class of plan participants as a whole. This, of course, is the primary issue presented to the Supreme Court by the LaRue case. Interestingly, the Sixth Circuit even borrowed and relied upon Justice Breyer’s diamond hypothetical that he posed to the plan's counsel in LaRue in reaching its ruling in favor of the participants, a hypothetical that clearly caught many lawyers’ fancy after it was offered up by the justice during oral argument.
The decision is Tullis v. UMB Bank, N.A.
The Governance of Retirement Plans in the Aftermath of the Subprime Meltdown
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Fellow blogger Susan Mangiero and I are quoted extensively in a very interesting article, available here, in the January issue of the Institutional Real Estate Letter. The article, titled Investing in Good Governance, focuses on one of - if not the only - potential silver linings in the whole subprime mortgage mess, namely the possibility that it will help to focus pension plan fiduciaries on the fiduciary obligations, particularly as related to protecting plan assets from ill advised and ill informed investments, that they owe to the plan itself and to plan participants.
Researching Pension Related Litigation
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Dying is easy, comedy is hard? No, ERISA is hard. I tell people all the time that there is almost no such thing as a simple answer to an ERISA related question, or at least no such thing as a straightforward answer. There are entire chapters in ERISA treatises dedicated to the seemingly, but actually not, question of the proper manner in which to request plan documents so as to invoke the statutory obligations, upon financial penalty, imposed on administrators to produce them. Or take the question of equitable relief in a cause of action brought under ERISA; in almost every other area of the law, we all know what equitable relief is, but in ERISA, we have to engage in a historical inquiry into the development of the law of remedies to know if a particular claim is equitable or not. Now when you add in on top the fact that ERISA and its imposition of fiduciary obligations is beginning to supplant securities litigation theories as a method for suing corporations and investment banks for subprime, stock drop and other investment losses, as discussed here for instance, you can see just how complicated the topic becomes, as well as how potentially dangerous for fiduciaries and plan sponsors are the issues raised by ERISA. And of course, that’s what makes practicing in this area fun for those of us who handle these types of cases. But it also makes thorough and timely analysis of litigation risks and exposures crucially important, and what looks to be a promising new internet based research tool to help with this is now available. Pension Litigation Data is now up and running on line, and is meant to be a tool that will allow up to the minute research into the numerous pension related lawsuits pending in United States courts. The subscriber based site “debuts with over 1,500 retirement plan legal actions, each classified by nearly 100 fields, including court circuit, type of allegation, plaintiff, defendant and date [and provides a] continuously updated and searchable database” on the subject. A joint venture of a couple of companies, including fellow blogger Susan Mangiero of Pension Governance LLC, I think it looks promising, and you may want to take a look.
SmartMoney on the Practicalities of Complying With ERISA
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This is a law oriented blog, obviously, and one of the things that is always worth remembering is that the complicated legal issues played out in the cases discussed here have real world implications for plan participants and for businesses trying to provide benefits to their employees. A nice reminder of that is here, in this article on SmartMoney.com, in which I and others are quoted on the question of how business owners should operate 401(k) plans in light of the potential for fiduciary liability being imposed under ERISA.
On Regulation of Fiduciaries and Pension Plan Vendors
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I was interviewed by a reporter recently concerning the subprime mess and its implications for pension plan fiduciaries, and the issue came up as to whether further regulation was the answer, as she had heard from a number of others. To me, the ongoing problem we are seeing with fiduciary breaches - or at least allegations of them - arising from plan investments involve one type of flawed plan investment being replaced by another; first it was too much company stock in the plan, then when that problem worked its way out of the system, it was excessive fees being paid for investment options, with that quickly followed by the latest flaw du jour in investment selection, namely excessive exposure to subprime risk. Regulation can’t predict and thereby prevent whatever may turn out to be the next problematic interaction between the investment community and the obligations of pension plan fiduciaries to act prudently in selecting investments. Rather, regulation will inevitably target the last problem that popped up, not the next one that is coming down the pike. At best, one could improve things at the margins through further regulation by targeting not the fiduciaries themselves, but the vendors who provide investment products to them, and even then only by imposing more transparency, which may at least give pension fiduciaries a fighting chance at understanding the investments they are selecting and the risks or flaws inherent in them. This news yesterday out of the Department of Labor, that it is proposing a regulation requiring further disclosure to plans by vendors of their compensation, fits this to a tee. The proposed regulation will require that “all compensation, direct and indirect, to be received by the service provider be disclosed in writing.” Well, excessive fees charged by mutual fund companies and others for the investments held by pension plans and 401(k) plans is last year’s litigation problem for fiduciaries, and the world has already moved on to the next problem. Indeed, I would speculate that many fiduciaries have already accepted the need to engage in due diligence as to all aspects of their vendors’ compensation arrangements, both hidden and not, simply out of awareness of the past lawsuits that focused on the issue. It’s a perfect example that regulation can’t predict and protect fiduciaries and the plans they serve from the next particular investment problem, but can instead only identify and prevent a reoccurrence of a past investment problem for retirement plans. At the same time, though, the regulation is focused on the transparency problem, and on obliging vendors to provide information openly to fiduciaries and plans; that’s the best avenue for using regulation to aid fiduciaries pro-actively, by adding to the information they have access to in evaluating vendors and proposed investment choices.
Talkin' With Tom Gies, Counsel for the Respondents in LaRue
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I promised awhile back that I would run more interviews at some point on this blog, and we return today to our - granted, somewhat sporadic - series of interviews with movers and shakers in the worlds of ERISA and insurance. What provoked me to get back into the interviewing business, which I noted before are among the most difficult of posts to do well? The chance to provide more insight on the oral argument before the Supreme Court in LaRue v. DeWolff, Boberg, which was argued right after the Thanksgiving weekend. And with that lead in, here’s the blog’s interview with Tom Gies, a partner at Crowell & Moring in Washington, D.C., who was lead counsel for the respondents. Tom was gracious enough to provide some real thought provoking commentary on both the issues raised by the case and some aspects of the argument before the court:
Blog: How did you end up representing the respondents?
Tom Gies: We have represented the employer, and the plan, in a variety of employment, benefits, corporate and commercial litigation matters for years. They are longstanding valued clients of our firm. When this case was initially filed in the district court in South Carolina, we were retained to defend against the claim.
Blog: Many ERISA cases, particularly in the area of pensions and 401(k)s, never reach the merits, and instead are resolved by procedural motions addressed to whether there is even a cause of action or remedy available to the plaintiff. That’s what happened here. Would the law of ERISA be better developed, or the parties themselves better served, if courts were resolving questions such as those presented by LaRue after development of the facts of a particular case? On the merits, as it were, rather than on procedural issues?
Tom Gies: An interesting question. The case was pled and litigated in the district court solely as a Section 502(a)(3) claim. We moved for judgment on the pleadings because it was pretty obvious plaintiff sought compensatory damages that are not available under Section 502(a)(3), following the Supreme Court's "rather emphatic guidance" in Mertens, Great-West and Sereboff. Every court that has looked at this question so far agrees with us on this point. And, not to get too much into the prediction game, I think it is unlikely that the Supreme Court will use this case to reverse field on the question of what's appropriate equitable relief under Section 502(a)(3). Had plaintiff pled the 502(a)(2) claim in the district court, the litigation may well have proceeded differently. For instance, there may have been a more fully developed record after discovery, so that the case could be resolved on a motion for summary judgment. The Fourth Circuit was correct in observing that the 502(a)(2) claim was waived, having not been litigated in the district court. As with other types of litigation, the parties to ERISA actions are better served when the basic rules of engagement are followed and parties are not permitted to raise new issues for the first time on appeal. In our judgment, a more complete record in this case would have made it even easier for a reviewing court to understand that this is not a good vehicle for expanding the scope of Section 502(a)(2). A court looking at this fact pattern in response to a motion for summary judgment would readily conclude that this case does not present a triable claim for “losses to the plan” resulting from a fiduciary breach. More generally, I don’t think it’s wise to have some sort of special, more lenient, pleading rules in ERISA cases. The Supreme Court’s recent decision in Twombly recognizes the negative consequences, both to parties and the civil justice system, of the substantial costs imposed on defendants in having to go through discovery in complex litigation involving putative class claims. Those litigation costs are obvious in the 401k plan “stock drop” cases. The excessive fee claims present the same kinds of costs for employers and plan sponsors. The Court’s decision in Twombly wisely recognizes that bare allegations of a statutory violation, without more, should not subject a defendant to the tremendous cost of full-bore class action litigation. It shouldn’t make any difference whether such claims are brought by antitrust plaintiffs, Title VII claimants, or by lawyers representing ERISA participants.
Blog: Any particularly surprising questions or lines of inquiry at the oral argument directed at either you or LaRue’s counsel? What’s particularly interesting or surprising about it?
Tom Gies: Although the questioning of Mr. Stris regarding Section 502(a)(1)(B) was not a surprise (we mentioned it in our brief, and one of our amici devoted considerable time to the issue), I was intrigued with the implications in some of the questions asked by three of the Justices about the potential interplay between 502(a)(1)(B) and 502(a)(2). These questions suggest the Court will provide a careful analysis of the inter-relations of the various subdivisions of Section 502. The Court’s subsequent denial of certiorari in Eichorn v. AT&T may be another indication of the Court’s approach to this corner of ERISA law.
Blog: Any answers you’d like to have back? Any questions you’d like another shot at?
Tom Gies: I would have liked the opportunity to engage Justice Breyer more fully, perhaps in response to his second diamond theft hypothetical, on his question of "why" 502(a)(2) should not be read to extend to a situation like this. A decision to expand the remedies available under Section 502 has significant consequences because it is contrary to ERISA’s goal of encouraging plan formation. Permitting such lawsuits would inevitably require someone to make judgments as to a variety of issues, including: should there be a limit on damages, whether there should be jury trials for such claims, whether there should be an obligation on the part of the plaintiff to do some due diligence before bringing a damages action years after the alleged mistake, whether employers and plan sponsors can require arbitration of these kinds of claims, what should be done about the consequences of such litigation to the fiduciary insurance industry, and how would such claims be fit into the current rules for certification of class actions under Rule 23. There are surely others. These kinds of policy judgments seem best left to Congress.
Blog: Play it out for us. What’s the negatives for the industry if the Court reverses the Fourth Circuit and allows these types of claims to go forward?
Tom Gies: Imagine you have a new employee who joins your law firm, which, we assume, sponsors a 401k plan. Four years after you hire her, you get a lawsuit seeking compensatory damages for a violation of ERISA’s fiduciary duty rules. Her lawyer claims she was not given enrollment forms when she was hired, because of a mistake made by your HR director, and, as a result, employee contributions into the 401k plan were not made. The complaint goes on to assert that, had the contributions been made, she would have invested in Google the day after its IPO, and that the plan fiduciaries are personally liable for more than $500,000 in lost profits. When you look into it, your HR manager has a vague recollection that the employee took the paperwork and said she’d “think about” whether she wanted to join the plan. Should that case go to trial? Before a jury? Justice Scalia’s comment during oral argument in LaRue seemed to appreciate our point – there would be no end to the type of damages claims that plan participants could devise if these types of claims are permitted to go forward.
Imagine another situation. One of your employees who participates in your 401k plan had 75% of her account balance invested in mutual funds heavily concentrated in real estate. Now that those investments have lost considerable value, she seeks counsel. You get a complaint for compensatory damages that includes the allegation that someone in HR told the employee to “stay with” the real estate investments because that sector of the market would be sure to turn around soon.
The considerable costs of defending against such lawsuits will be born ultimately by employer plan sponsors. Fiduciary insurance will become even more expensive. Permitting these kinds of claims would undercut one of the fundamental assumptions made by employers in deciding to offer DC plans, rather than DB plans – the ability to shift investment risk to employees. All in all, a bad idea if you believe, as we do, that it’s critical not to take steps that would discourage employers, particularly small employers, from continuing to offer DC plan.
Blog: Paul Secunda, at the Workplace Prof blog, and I have been going around and around for a bit about whether ERISA is properly understood as having been intentionally enacted by Congress with only limited rights of recovery and remedy for plan participants. Clearly, that idea underlies DeWolff’s arguments to a substantial degree and, in fact, the lower courts’ rejection of LaRue’s claims can be understood as a recognition of this principle and of the fact that, as a result, LaRue simply has no recourse at this point. What’s your view on this? Are those of us who treat ERISA as specifically and intentionally limited in this way right about that?
Tom Gies: I start with Pilot Life and Mertens where the Court is clear in stating that ERISA represents a series of political compromises, not all of which were in favor of plan participants. ERISA is thus fundamentally different from other employee protection statutes. Encouraging plan formation, through the tax laws and otherwise, seems to me to be a cornerstone of the statute. And, of course, it’s not accurate to say that people like Mr. LaRue have “no recourse” in a situation like this. From what we know from the record, this is a case that could have been avoided by a telephone call. If you want to sell 100 shares of stock, you probably call your broker and place the trade. If you don’t get a confirmation order pretty quickly, you’ll call back, and if you don’t get a satisfactory answer, you’ll call her boss. If the boss won’t help you, you’ll escalate the situation until you get your trade executed. People like Mr. LaRue who want to trade securities in their 401k plan accounts have a variety of remedies available to them; they just don’t have a cause of action for compensatory damages based on a lost profits theory.
Blog: I shouldn’t put you on the spot, but I will - want to hazard a guess as to the outcome of the LaRue case?
Tom Gies: The Fourth Circuit will be affirmed 5-4, with the majority concluding that it is up to Congress to decide whether to extend the remedies currently set forth in Section 502.
Protecting Corporate Officers from Fiduciary Exposure
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Here’s an interesting article on one particular aspect of ERISA breach of fiduciary duty cases, namely the targeting as defendants of executive officers of the company sponsoring a pension or 401(k) plan; the gist of the article is that there are tactical and psychological benefits that accrue to counsel representing plan participants when they name officers of a company as defendants in such actions and allege that they are plan fiduciaries. Discretionary authority of any nature, of course, can render someone a fiduciary under a company’s pension or 401(k) plan, and those individuals can thereafter be rightfully targeted as defendants in a breach of fiduciary duty action related to that plan. As the article points out, allowing senior officers or directors of the company to engage in such activities can leave them open to suit, a bad idea because of the distraction and injury to company reputation of having senior management named as defendants in any major piece of litigation. The article’s suggestion to solve this problem? The old ounce of prevention is worth a pound of cure approach. The authors recommend that, well in advance of any litigation and even with none hovering off, threateningly, on the horizon, companies return to the plan documents and make sure they are structured to keep senior management out of the operation and decision making of the company’s pension plans. In essence, delegate that job downward in the company, as far away from senior management as day to day operational concerns - as opposed to concerns of preventive lawyering - allow. In a company retirement plan structured in that manner, the ability to credibly assert that any member of senior management exercised discretionary authority over the company’s retirement plan - and to therefore charge them as fiduciaries - is very limited and possibly non-existent.
More on that Grand Irony Theory
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Does the fact pattern below allow for a remedy under ERISA, particularly as the Sereboff/equitable relief line of cases has been interpreted in the First Circuit to date? The plaintiff employee says that she purchased a life insurance policy on her husband through her employer's group coverage. When her husband was dying, she resigned her employment to care for him. She asked her employer for the proper forms to convert the group life insurance coverage to individual coverage, as she was entitled to do. Her employer refused or failed to provide the forms despite several in-person and telephone requests. In the meantime, the time for conversion (31 days) expired, her husband died, and now the life insurance company has denied her any benefits.
The United States District Court for the District of Maine just found in the case of Mitchell v. Emeritus Management that the fact pattern does not support a cause of action under any of ERISA’s remedial rights - for breach of fiduciary duty, for denied benefits and for equitable relief - available to a plan participant, a situation the court found “very troubling.” The court found that: (1) the participant could not recover the insurance benefits by means of an action for equitable relief because it was truly a claim for payment of the benefits at issue, rather than for equitable relief; and (2) the participant could not recover the proceeds on a claim seeking benefits because, under the facts at issue, there was no right to life insurance proceeds under the actual plan terms since there was no timely conversion, and therefore the administrator did not act arbitrarily and capriciously in denying the claim.
I guess two things jump out at me. One, the court rightly acknowledged that this result flows from the fact that ERISA simply leaves some harms incapable of remediation, something that is understood to have simply been part of the balancing act engaged in by Congress in enacting the statute, in which a decision was made to grant only limited rights of recovery in exchange for enacting a statute that would encourage the creation of employee benefits. Second, however, and at the same time, I think this is more what the Workplace Prof had in mind last month when he complained about what he considers the “grand irony” of ERISA, that a statute intended to protect employees can end up depriving them of a remedy, than was the case of the Wal-Mart equitable lien, that I discussed here, in which the Prof proffered the “grand irony” thesis, one which I took issue with in the context of that particular case.
Roundup at the LaRue Corral
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More on LaRue in the wake of Monday’s oral argument, and the inevitable commentary from all sides - including this one - on Tuesday: • My last two posts on the LaRue case, here on the briefing and here on the oral argument, assumed a certain prior level of understanding on the part of the reader as to the issues and statutory provisions involved in the case. Workplace Prof has a more soup to nuts review of those, in the wake of the argument, here, which is also cross-posted here.
• Susan Mangiero was taken by the discussion in the oral argument of what powers may or may not have been identified in the summary plan description appended to LaRue’s complaint. I took this discussion by the Justices to be part of an inquiry into what are the constraining parameters of a claim such as the one brought by LaRue. As I have discussed before, I think the Court will allow this type of claim to be actionable, primarily because the law of ERISA is going to have to evolve to fit the brave new retirement world in which defined contribution plans, rather than defined benefit plans, rule, and establishing a right of remedy for the type of error alleged by LaRue is a necessary part of that evolution. However, I don’t expect, both for reasons related to the historically limited remedial reach of ERISA and the philosophy of various justices, that theory of liability and right of recovery to be unconstrained or left as simple as error by fiduciary plus loss to one account =s liability. Rather, although the Court may leave the parameters of the theory of liability to future cases for development, I expect the Court to at least indicate in dicta certain restraints and constraints on such claims. In this way, I think the eventual opinion will essentially walk the line between the concern of the respondent and its supporting amici that allowing claims of this nature will excessively increase the cost of providing plans to employees and the concern voiced by LaRue’s counsel that employees must be allowed a remedy for this kind of error.
• And here’s the New York Times’ highly readable account of the oral argument, by the excellent Linda Greenhouse.
• Finally for today, on a lighter and less substantive note, here’s the WSJ Law Blog’s post on the case, with a nice little profile of Tom Gies, who represented the respondent.
Thoughts on the Oral Argument in LaRue v. DeWolf, Boberg
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Just read the transcript of Monday’s oral argument in LaRue, which you too can read right here. Interesting argument, and interesting lines of questions from the court, although I am skeptical as to how much guidance as to the court’s thinking one can draw from the Justice’s questions themselves. In many ways, the lines of inquiry seemed to parallel my earlier post here on the arguments made by both sides. I had mentioned in my earlier post that the respondent focused heavily in its briefing on two points, the first being that prior jurisprudence of the Court concerning ERISA cases suggest that the narrow framework of ERISA remedies should not extend to encompass this type of claim, and the second that LaRue’s case itself was pled with holes that did not suggest it as a good vehicle for authorizing these types of claims. With regard to the first line of argument, questioning right off the bat of the respondent’s counsel targeted the fact that the prior jurisprudence relied upon by the respondent did not concern defined contribution or other retirement benefits and was based on a starkly different fact pattern; I mentioned in my earlier post on the parties’ briefing that I thought the earlier jurisprudence was too different in nature to provide much support for either side in the circumstances presented in the LaRue case, and after reading the argument, I think that remains the case. With regard to the second issue, LaRue’s counsel was peppered with questions concerning possible holes in the way he sought to recover for the alleged mistakes at issue, questioning that I thought was consistent with my earlier view that while the Court may well allow the type of claim at issue here to be actionable, the Court may well find that LaRue himself hasn’t placed himself in a position that he qualifies to go forward with such a claim. Perhaps the most interesting nugget to me in the transcript is that, with regard to the question of whether such a claim should be allowed at all - i.e., found to be authorized by the statute - the questioning seemed to consistently focus on one simple issue, namely that the only intelligible and consistently intellectually defensible position is that the plain language of the applicable statutory section would allow a loss to only one or a few plan participants’ accounts to be actionable, and would not require, as the respondent asserts, a loss to most or all of the plan’s participants before a claim for breach of fiduciary duty could exist. Interestingly as well, the issue of whether a claim could proceed in the LaRue case as an equitable claim for relief under the Sereboff line of cases was discussed in only the most cursory terms by all involved, including the Justices. For various reasons, not the least of which is that the Court’s prior treatment of this issue has painted the Court into a bit of a corner from which it cannot back out without either repudiating prior holdings or engaging in intellectual gymnastics, I don’t see the Court advancing the ball on this issue in its opinion in this case.
LaRue v DeWolff, Broberg and the Concept of Administration Risk in ERISA Plans
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Oral argument at the Supreme Court is scheduled for Monday in LaRue v DeWolff, Broberg & Associates, which presents the technical question of whether a loss to only one participant’s 401(k) plan is actionable as a breach of fiduciary duty causing a loss to the plan, but which on a broader level concerns the question of who should bear the administration risk (defined as the problems of mistakes or malfeasance in the operation of a benefit plan) inherent in the operation of a 401(k) plan. Is it the participant or instead the plan fiduciaries who should bear that risk? To LaRue, who focuses his arguments around this idea, mistakes attributable to the administrators that harm the account balances of a particular plan participant represent a risk that should be borne by the erring administrator, and should therefore be actionable under ERISA even if the only losses in the entire plan from the mistake were suffered by one particular plan participant. The respondents reply, quite correctly, that ERISA provides limited remedies and some losses are simply - and quite intentionally under the terms of the statute - not actionable; to the respondents, LaRue’s loss, which stemmed from the administrator not following his specific investment instructions related to his specific account, is exactly such a non-remediable event under ERISA. While the respondents are right that ERISA, presumably intentionally and certainly consistently with the general understanding of the statute and its history, provides only limited rights of recourse and leaves some losses to be borne by the affected plan participant, the statutory language itself at issue in the case - concerning whether an individual’s loss of the type described by LaRue qualifies as an actionable loss to the plan when only the individual was harmed - does not specifically leave in or leave out the circumstances of LaRue’s particular loss from the category of losses that are actionable under ERISA. And that is really where the Supreme Court’s involvement here comes into play, on the question of whether the type of administration risk described by LaRue belongs within or without the statute’s remedies; how the Court interprets the specific statutory language at issue will decide that question.
Personally, I’m of the view that the Court will find that the statutory language allows for the type of claim that LaRue is presenting. The language in question is capable, without any stretching of the language, of including the kind of claim at issue, and past jurisprudence doesn’t bar - or even present a significant impediment - to such an interpretation of the particular statutory language at issue. Moreover, and interestingly given the respondents’ - quite appropriate - tactical reliance on the general theme underlying past Court opinions on ERISA cases that suggest a claim such as LaRue’s is not actionable, the body of law that bears on this issue really was not created in response to one of the primary economic developments in American life over the last handful of years, namely the transition over to a regime of individual responsibility for retirement by means of defined contribution plans such as 401(k) plans and the accompanying transfer to individuals of the risks of retirement investing, and the corresponding disappearance of a defined benefit regime in which all such risks were borne not by individuals, but instead by their employers. Questions like the one presented by the petitioner in LaRue haven’t really been addressed at the high court level in the context of this new economic reality, and I am not convinced of the utility of past ERISA decisions concerning other contexts in resolving the statute’s application in the defined contribution context. I suspect that LaRue will present an early example of the Court accepting that the statutory language in ERISA that remains open to differing interpretations should be understood as transferring at least some of the administration risk inherent in the world of 401(k) plans from the individual saver and onto the party in the best position to avoid the risk, namely the administrator.
At the same time, I am not convinced that this is going to do much good for LaRue himself. The respondents take the tactical approach in their briefing of focusing on the particular flaws in LaRue’s presentation of himself as the poster boy for plan participants confronted by erring administrators, in an attempt to show that the particular claim he presented to the courts below does not justify interpreting the statutory language in a manner that would allow his claim to proceed. It’s a pretty good argument, and I wouldn’t be surprised to see a final opinion that opens up the type of claim he is arguing for, but puts him outside of its scope.
ERISA, Subprime Lending and Mortgage Meltdown
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One of the great things about writing this blog is that the technology of blogging - like links to other blogs and so-called trackbacks, showing who else on the internet is quoting a post - brings writers, topics and other bloggers onto my radar screen who I would otherwise miss out on. That cumbersome, semi-tech savvy sentence is an introduction to my real point, which is that my blog has introduced me over the past couple of weeks to some interesting blogs that I wanted to pass along, and to a particular website involving a unique and interesting insurance product. Barring being diverted by breaking news, I am going to try to discuss a few of those over the next handful of posts. The one I wanted to mention today is the terrific (and wonderfully named) Mortgage Meltdown blog out of Wisconsin, by a handful of lawyers at the firm of Reinhart Boerner Van Deuren. The blog provides a lot of detail about the subprime mortgage problem as a whole, but what really stands out to me are several excellent posts by Ellen Brostrom on ERISA litigation arising from this problem. In addition to a discussion of my recent post on the ERISA breach of fiduciary duty litigation against State Street arising from plan investments that were exposed to subprime lending risks, she has a pair of interesting posts on ERISA class actions against subprime lenders themselves based on the inclusion in those companies’ benefit plans of company stock that was propped up by subprime lending; you can find those posts here and here. Her posts mirror my comment in my post on the State Street putative class actions that there are a lot of different avenues to target subprime losses through the mechanism of ERISA’s fiduciary obligations.
A Primer on Fiduciary Status Under ERISA
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I liked the recent opinion in Bonilla v. Bella Vista Hospital, Inc., out of the United States District Court for the District of Puerto Rico (not available online from the court, but here's a Lexis cite for it: 2007 U.S. Dist. LEXIS 79939) for really only one reason, namely this terrific overview of the law of fiduciary status and duty:
ERISA reserves fiduciary liability for "named fiduciaries," defined either as those individuals listed as fiduciaries in the plan documents or those who are otherwise identified as fiduciaries pursuant to a plan-specified procedure. 29 U.S.C. § 1102(a)(2); see also Beddall v. State St. Bank & Trust Co., 137 F.3d 12, 18 (1st Cir. 1998). However, the statute also extends fiduciary liability to functional fiduciaries, who are persons that act as fiduciaries (though not explicitly denominated as such) by performing at least one of several enumerated functions with respect to a plan. Beddall, 137 F.3d at 18. Under 29 U.S.C.S. § 1002(21)(A), a person is a fiduciary with respect to a plan to the extent (i) he exercises any discretionary authority or discretionary control respecting management of such plan or exercises any authority or control respecting management or disposition of its assets, (ii) he renders investment advice for a fee or other compensation, direct or indirect, with respect to any moneys or other property of such plan, or has any authority or responsibility to do so, or (iii) he has any discretionary authority or discretionary responsibility in the administration of such plan.
The key determinant of whether a person qualifies as a functional fiduciary is whether that person exercises discretionary authority in respect to, or meaningful control over, an ERISA plan, its administration, or its assets (such as by rendering investment advice). See Beddall, 137 F.3d at 18; O'Toole v. Arlington Trust Co., 681 F.2d 94, 96 (1st Cir. 1982); see also 29 C.F.R. § 2509.75-8, at 571 (1986). The exercise of physical control or the performance of mechanical administrative tasks generally is insufficient to confer fiduciary status, a person is a plan fiduciary only "to the extent" that he possesses or exercises the requisite discretion and control. 29 U.S.C. § 1002(21)(A); see also Beddall, 137 F.3d at 18.
An ERISA fiduciary, properly identified, must employ within the defined domain "the care, skill, prudence, and diligence under the circumstances then prevailing that a prudent man acting in a like capacity and familiar with such matters would use." Id. (quoting 29 U.S.C. § 1104(a)(1)(B)). The fiduciary should act "solely in the interest of the participants and beneficiaries," and his overarching purpose should be to "provide benefits to the participants and their beneficiaries" and to "defray reasonable expenses of administering the plan." Id. (quoting 29 U.S.C. § 1104(a)(1)). A fiduciary who fails to fulfill these responsibilities is "personally liable to make good to [the] plan any losses to the plan resulting from... such breach." Id. (quoting 29 U.S.C. § 1109(a)).
Reads like a beautiful nutshell summation of the law of fiduciary duty under ERISA, doesn’t it?
Nutshells, by the way, for you non-lawyer readers, are relatively brief condensations of particular areas of the law that multiple generations of law students have read instead of law textbooks themselves, which not only often run the length of “War and Peace” but are also often as comprehensible as that classic - in its original Russian.
Is Subprime the New Stock Drops?
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The consensus in the legal community, and I don’t think it is just because they are looking hopefully for a new flow of work, has for awhile now been that fund investment losses resulting from exposure to the subprime mortgage mess will eventually generate substantial ERISA related litigation. There are plenty of avenues for these cases, not the least of which is plans and their fiduciaries bringing suit against investment advisors or investment funds for losses suffered by the plans on the theory that the advisors and funds improperly exposed the plan to such losses. This article here, out of the Boston Globe, provides a good example of exactly this line of litigation, detailing extensive losses to pension plans from investing in what were supposed to be conservatively managed bond funds at State Street. Here’s the overview provided by the article: Institutional money manager State Street Corp. now faces three lawsuits over its management of bond funds that were touted for their conservative investment strategies, yet posted losses over the summer because of risky holdings tied to the subprime mortgage industry . . .The latest lawsuit was filed last week in federal court in Boston by Nashua Corp., a Nashua, N.H.-based maker of paper and imaging products, against State Street's investment arm, State Street Global Advisors. . . Nashua lost $5.6 million by investing company pension funds in State Street's Bond Market Fund, due to the fund's ’overexposure in mortgage-related securities,’ according to the lawsuit. Nashua's complaint seeks class-action certification, which could allow other companies that invested in certain State Street funds to join the case.
Perhaps of even more interest on this front is the complaint that was filed a few weeks ago in the Southern District of New York by Unisystems, Inc. Employees Profit Sharing Plan, an ERISA governed plan, alleging substantial breaches of fiduciary duties under ERISA by State Street related to the bond funds it managed that the Unisystems plan and other plans invested in. The complaint seeks to be certified as a class action, and was brought by the Keller Rohrback firm, which looks to be on its way to becoming the Milberg Weiss (sans the indictments) of ERISA class action litigation. The complaint itself in that case, which you can find right here, is a terrifically detailed, step by step overview of the subprime mortgage problem, how it impacts ERISA governed plans, and the fiduciary exposures which that credit crisis has created - at least in theory so far - for investment managers and other ERISA plan fiduciaries. If nothing else, it gives you the whole story of this line of potential liability for ERISA fiduciaries.
And the scope of this area of liability and potential litigation involving ERISA plans is as big as you would expect. State Street notes that:
Well, you know what? That’s still billions of dollars of investments at issue, and that’s only involving one potential defendant in these cases. As the old saying in politics goes, a billion here, a billion there, and pretty soon you are talking about real money.
ERISA, Investment Strategies and the Duty to Investigate
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ERISA litigation, particularly in the area of retirement benefits, is one of those areas of the law that can be particularly complicated because both the governing body of law and the underlying fact pattern to which it is applied can be tremendously complex. Take, for instance, the example of disputes over whether the fiduciaries of a retirement plan erred in selecting investments for the fund. This example, as you have probably guessed, is not chosen at random, but instead because Susan Mangiero has this interesting post here on a particular equity investment strategy involving short selling, and on the question of whether such an investment strategy by a retirement fund would be prudent or instead a breach of fiduciary obligations. The strategy itself is relatively complicated, at least to anyone approaching it from outside the investment world, and so too is the question of how it compares to other investment tools the fund could have selected. Fortunately for those of us who litigate such questions, the rules of evidence allow those questions to be answered in court by the use of experts who actually know these points inside and out and can comment on them in depth. These underlying factual details are ones that must be considered in passing on whether a fiduciary breach has occurred before even getting to the question of how a particular investment strategy fits within the fiduciary obligations imposed by ERISA. After mastering the details of the investment strategy at issue, one then still has to evaluate whether its use was a breach of fiduciary duty under the law of ERISA. I am quoted in Susan’s post on the fact that this in turn depends heavily not so much on whether the investment strategy itself was sound, but more on whether the approach taken by the fiduciaries to selecting that investment strategy was sound. As Susan discusses in her post, this in turn depends very much on whether the fiduciaries sought sufficient outside expertise on the particular type of investment strategy at issue to allow a third party looking in on the decision making after the fact - such as a judge or a jury - to say that the fiduciaries fully considered the merits of the particular type of investment in question before investing and thus did not breach their fiduciary obligations, even if the investment went south.
What struck me about this duty to investigate, for lack of a better phrasing, is that the obligations of the fiduciaries in this regard in many ways mimic the approach of the ERISA litigator handed a case after the fact involving the particular investment strategy and the question of whether its use was a breach of fiduciary duties: the ERISA litigator at that point brings in independent experts to advise on the appropriateness relative to the market of using that particular investment strategy, and bases a defense to a large extent on testimony from such experts that the investment strategy was sound. The fiduciaries themselves, however, could have effectively deflected claims of breach of fiduciary obligation in selecting the investment strategy in the first place by doing the same thing before ever making the investment; retaining outside experts to render this opinion prior to making the investment provides a strong defense against claims that the fiduciaries breached their obligations by making the investment. Indeed, contemporaneous reliance on outside, independent expertise to evaluate investment strategies is perhaps the best steps a retirement plan can make to head off potential claims of breach of fiduciary duty involving the selection of investments.
In this way, the question for fiduciaries and the plans they serve becomes as much as anything one of pay me now, or pay me later. They can avoid problems by paying for independent advice and investigation before making investments, or they can pay for the same advice later in defending themselves if they are sued. As a litigator, obviously, I am happy to retain experts and resolve the problem after the fact; as a counselor, though, I would always recommend the preemptive approach of obtaining such expertise before selecting a particular investment strategy.
Determining Fiduciary Status: And the Computer Says . . .
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Fiduciary status is the touchstone of the law of ERISA. From that status flows many of the obligations that ERISA can impose on a party, as well as extensive potential liability. For those of you wondering about who is a fiduciary and when for these purposes, Susan Mangiero has found a really fun (well, if you like this stuff, anyway) toy, the Department of Labor’s ERISA Fiduciary Advisor, an on-line tool for identifying whether or not someone has achieved fiduciary status for purposes of ERISA. Kind of like computer gaming for the ERISA set.
Number of Suits + Questionable Practices = X
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I have talked, certainly more than once, about the fact that the law governing fiduciary obligations in the realm of retirement plans is evolving, and most recently I commented on how it looks as though the Supreme Court is poised to weigh in on the direction of this evolution in the case law. Some of the evolution of the law in this area, it seems, is being driven simply by numbers. Susan Mangiero, author of the blog Pension Risk Matters, pointed out in a recent interview that we are seeing somewhere around 250 to 300 new lawsuits filed per quarter involving the liabilities of pension fiduciaries, mostly involving private company plans. As numbers of suits go up, simple experience tells us the courts will face new issues, or old issues under new fact patterns, and will issue rulings that advance the ball on what the shape of the law should look like in this area as a result. But the evolution is also driven, I think, by another issue I have commented on before, which is that, with pensions being replaced by 401(k) plans in which the employee bears all the risk, plan participants are motivated by that change to protect themselves against poor practices and oversights by those in charge of their retirement investments. And experts on the subject of pension governance suggest that they have good reason to concern themselves with these issues: Susan Mangiero points out in the same interview that pension governance practices quite simply leave a lot to be desired. If there has ever been a roadmap to the evolution of a particular body of law, its right here in this scenario: more suits plus questionable practices by the targets of the suits.
More on Whether Socially Conscious Investing Is a Breach of Fiduciary Duty
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I have raised before the question of whether so-called socially conscious investing would be a breach of fiduciary duty if undertaken by a pension plan or 401(k) fiduciary. The National Law Journal has a neat opinion piece by law professor Edward Zelinsky right now to the effect that it would be. Here’s a link, although you may have to be a subscriber to access it. Either way, I think I am going to exercise my fair use rights under copyright law, and quote the professor’s conclusion on this particular point:
Inconvenient truth no. 3: Social investment dilutes fiduciary standards. Divestment for worthy causes, like other forms of social investing, opens the door to less noble uses of public pension funds by diluting the fiduciary standards governing pension trustees' investment decisions. Suppose that a group seeks to use public retirement assets to support the Hamas-dominated regime in Gaza. There are, of course, persuasive distinctions between an anti-Sudan investment policy and a pro-Hamas policy. However, politicizing public pension investments for good causes will invariably turn such pensions into battlegrounds as others seek support for their causes, not all of which will be attractive.
Instructive in this context are the traditional standards of fiduciary conduct including, in Benjamin N. Cardozo's famous formulation, "the duty of undivided loyalty." The insight animating this formulation is convincing: It does not matter if a fiduciary (like a public pension trustee) dilutes his loyalty to beneficiaries' welfare for a commendable cause. Once fiduciaries weaken that loyalty by considering any objective other than the well-being of their beneficiaries, the door is opened to causes that may not be meritorious. Even if trustees only pursue estimable objectives, they pursue such objectives with others' money, i.e., retiree's retirement resources.
I discussed in an earlier post an academic paper by a different professor arguing to the contrary, and you can find that here. So now you have both sides of the coin, and can make your own call. For me, though, I will return to my own roots - and initial instincts - as a litigator, and repeat something I have said before: if representing a client sued for breach of fiduciary duty, I’d rather be in the position of defending an investment strategy that called for maximum possible returns than one calling for only the maximum possible returns available by investing in good doobie companies.
Reinsurance and LaRue, All in the Same Post
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Instead of posting twice in the same morning, I am going to try to address two distinct substantive issues, one involving reinsurance and the other ERISA, all in the same post, hopefully without turning this post into some sort of Frankenstein monster combination of topics that instead should have been kept entirely separate. On the first, ever wonder why so many reinsurance companies are domiciled in Bermuda? I thought so. The New York Times has an excellent article today explaining why, and as one might have guessed, it has to do with taxes. As the New York Times sums up the matter:
At issue are federal rules that allow insurance premiums to be shifted from the United States to offshore affiliates — which reduces taxes — and allow the proceeds to be invested tax free, increasing the profit to parent companies. . . .The core of the dispute is an unusual tax treaty with Bermuda. It allows insurance companies based on the island to deduct from their American taxes premiums that their subsidiaries in the United States collect from American customers and send back to the headquarters abroad. In Bermuda and other tax havens, the money is invested tax free. This money is moved, under the law, through the purchase of reinsurance by the affiliates from their parent companies.
Personally, I really like Bermuda and have long wanted to have reinsurance clients there that would justify my opening an office in Bermuda, which I suspect influences my views on this issue, and so I will therefore keep them to myself.
The second is an ERISA issue, involving the Supreme Court’s decision to hear LaRue v. DeWolfe, Boberg and Associates. This case, which I discussed here and here, involves whether a plan participant can sue under ERISA to recover losses suffered only in that participant’s account, and not across the plan as a whole. As I discussed here, it makes sense that a participant can do so and I expect the Supreme Court to rule to that effect. The defendants, in an attempt to avoid the Supreme Court ever reaching this issue, moved to dismiss the appeal as moot on the ground that the plaintiff had cashed out of the plan and therefore cannot proceed with a claim against the plan for losses incurred in the plaintiff’s now cashed out account; whether such cashed out participants can proceed with such cases is something of a hot topic that has been decided in differing ways by trial level judges in the federal system, including by judges sitting in the same federal district court, as I discussed here. Well, Workplace Prof and SCOTUSBLOG are reporting that the Supreme Court has denied the motion to dismiss on that ground and the Supreme Court will go ahead and hear the case.
There, I did it - two items on two different issues, all for the price of one admission.
Some Thoughts on Behavioral Economics, 401(k) Plan Architecture and the Potential Liabilities of Fiduciaries
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I have blogged before about behavioral economics, and the question of whether how we structure retirement investment choices will affect whether plan participants successfully save for retirement. Two recent articles really drive home this point. In the first one, “Choice Architecture and Retirement Savings Plans,” the authors posit that the design of 401(k) plans will in fact affect retirement savings and investment choices. Here is the abstract, which lays out their thinking: In this paper, we apply basic principles from the domain of design and architecture to choices made by employees saving for retirement. Three of the basic principles of design we apply are: (1) there is no neutral design, (2) design does matter, and (3) many of the seemingly minor design elements could matter as well. Applying these principles to the domain of retirement savings, we show that the design of retirement saving vehicles has a large effect on saving rates and investment elections, and that some of the minor details involved in the architecture of retirement plans could have dramatic effects on savings behavior. We conclude our paper by discussing how lessons learned from the design of objects could be applied to help people make better decisions, which we refer to as “choice architecture.”
In the second, "Individual Account Investment Options and Portfolio Choice:
Behavioral Lessons from 401(K) Plans," the authors present the honestly fascinating finding that as 401(k) plans disproportionately add higher cost actively managed funds to their menu selections, plan participants move disproportionately into those funds instead of into less expensive alternatives that are also present in the menu of investment choices available to them in their plans, with the result that plan costs increase and participants’ returns on investments decrease. Here is the abstract from their paper, more extensively describing the authors’ findings:
This paper examines how the menu of investment options made available to workers in defined contribution plans influences portfolio choice. Using unique panel data of 401(k) plans in the U.S., we present three principle findings. First, we show that the share of investment options in a particular asset class (i.e., company stock, equities, fixed income, and balanced funds) has a significant effect on aggregate participant portfolio allocations across these asset classes. Second, we document that the vast majority of the new funds added to 401(k) plans are high-cost actively managed equity funds, as opposed to lower-cost equity index funds. Third, because the average share of assets invested in low-cost equity index funds declines with an increase in the number of options, average portfolio expenses increase and average portfolio performance is thus depressed. All of these findings are obtained from a panel data set, enabling us to control for heterogeneity in the investment preferences of workers across firms and across time.
In other words, the architecture - or layout of investment choices - in a given 401(k) plan actively affects how participants invest, with the result that adding too much of the wrong kind of choices - in the view of these papers, actively managed high cost funds - negatively affects performance, even though the plans do not preclude participants from investing in better choices that are available to them in the plan and which would reduce expenses to them and increase the return in their portfolios.
The first question that jumps out at me from all of this concerns why such higher cost funds are added to menu choices more often than are lower cost, less actively managed choices. Is it because, given the fee structure, the fund companies have a greater incentive to sell those funds, and to convince the administrators and sponsors of 401(k) plans to include those funds in their roster of choices? And the second question that pops up is, if adding such funds is known to decrease returns even if the administrators also include less expensive choices in the investment menu, then is it a breach of fiduciary duty to overload the menu selections with higher cost choices? In essence, if the design of the plan itself will subtly affect the returns in this way, then don’t sponsors, advisors and administrators -at least those who rise to the level of a fiduciary, functional or otherwise, for purposes of ERISA - commit a breach of fiduciary duty if they don’t push back against fund companies’ pitches to include a disproportionate number of costly investment choices and don’t prevent the architecture of their plans from becoming distorted in this manner?
These questions raise a multitude of issues, including how far plan fiduciaries should really have to go to protect plan participants from themselves. For instance, if the plan gives the participants the choice to invest in lower cost funds, isn’t that enough? Should the plan’s fiduciaries really be responsible for decisions by participants to allocate their investments into other, higher cost options? But at the same time, one can certainly argue that it is proper for the fiduciaries to bear the responsibility of making sure that menu selections will not lead to reduced performance because they include a disproportionate amount of high cost options, when: (1) it is a given that most participants will not be sophisticated enough to effectively allocate across both low cost and high cost choices in the most effective manner possible; (2) it is known that inclusion of too many high cost investment choices in a menu will drive down returns; and (3) it is the fiduciary who is in the best position to avoid overloading menus with higher cost products, and who has the ability to bring in advisors to prevent this type of overloading of the investment selection menu to the detriment of participants and their return on investments.
More Education is Always Better than Less: American Conference Institute's Upcoming Seminar on 401(k) Risks
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I mentioned in yesterday’s post that my goal for the week was to move rapidly through several items that had caught my attention over the last week or so, and that I wanted to pass on to readers of this blog. I thought the next one I would mention is this conference in New York in December, sponsored by the American Conference Institute, on litigation and regulatory issues related to 401(k) plans. The subject matter of the conference ranges across the hottest topics in litigation and potential exposures for sponsors and fiduciaries of 401(k) plans, including stock drop litigation, excessive fee issues, and in a topic that hits both primary subjects of this blog, insurance coverage for fiduciary liability risks. Here’s the brochure for the conference.
401(k) Plans and Increasing Liability Risks for Fiduciaries
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Coming off the holiday weekend, I have a long list of items I want to pass on or talk about. I will try to put up as many as I can over the next few posts, to work through the backlog. I thought I would start with this one, because it ties two of the items together. Susan Mangiero of Pension Governance and the Pension Risk Matters blog, passed along this article on last week’s decision by Judge Tauro that I blogged about here, holding that cashed out participants in a 401(k) plan could sustain breach of fiduciary duty claims, a finding contrary to that of some courts - including at least one by another judge sitting in the same district as Judge Tauro - but supported by the holdings of some other courts. What I liked about the article, aside from the fact that it adds some further discussion about the case and the issues it presents to that contained in my earlier blog post on the case, is the article’s comment that the case is likely part of “a trend that will result in most courts following suit.” An animating theme of my posts and thinking on ERISA litigation concerning defined contribution plans such as 401(k) plans is that we are in the process of watching the case law evolve to hand more protections to plan participants, with a corresponding growth in the potential liability exposure of plan fiduciaries. As the world shifts from a defined benefit world - read pensions - to 401(k) plans, the law of ERISA is going to shift with it to better protect investors in those latter types of plans. For the first thirty years or so of the development of ERISA jurisprudence, defined contribution plans were simply not that important and the unique concerns of those plans - such as what becomes of the rights of cashed out plan participants, the issue addressed by Judge Tauro last week - played a relatively peripheral role in the development of ERISA jurisprudence. That is all changing and changing quick. Moreover, we can expect that evolution in the law to proceed with real force for some time, given the expected exponential growth in assets held in 401(k) plans. On this last point, three economist authors have done the heavy lifting, and document this point in this paper, as summarized in the abstract of their article:
Over the past two and a half decades there has been a fundamental change in saving for retirement in the United States, with a rapid shift from employer-managed defined benefit pensions to defined contribution saving plans that are largely controlled by employees. To understand how this change will affect the well-being of future retirees, we project the future growth of assets in self-directed personal retirement plans. We project the 401(k) assets at age 65 for cohorts attaining age 65 between 2000 and 2040. We also project the total value of assets in 401(k) accounts in each year through 2040 and we project the value of 401(k) assets as a percent of GDP over this period. We conclude that cohorts that attain age 65 in future decades will have accumulated much greater retirement saving (in real dollars) than the retirement saving of current retirees.
Follow the money is always a safe bet. As the majority of Americans’ individual savings move into 401(k) plans, the law governing those plans is going to shift with it.
Another View on Whether a Cashed Out 401(k) Participant Has Standing to Sue for Losses Under ERISA
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Judge Tauro, of the United States District Court for the District of Massachusetts, has weighed in lately on some of the more cutting edge and currently unsettled issues in ERISA litigation, such as the impact of ERISA preemption on the powers of a state agency. This week, he ventured into the now hot topic of whether a plan participant who has cashed out of a 401(k) plan has standing to sue for breach of fiduciary duty, in this instance for imprudently investing in allegedly inflated company stock. In the decision, involving a putative class action against Boston Scientific, the judge surveyed case law from other jurisdictions on the issue and broke from the opinion of another judge of the circuit, who had found that such a participant, once cashed out, lacked standing to bring a claim for benefits. Judge Tauro reviewed case law from other circuits to the contrary, and elected to follow those rulings. The cases relied upon by the judge are an instructive lot, and almost a road map for briefing this issue when arguing in favor of standing for such a cashed out participant:
More persuasive is the reasoning of the Seventh Circuit, which recently reached an opposite outcome and found that a plan participant did have standing, despite having cashed out of the plan. [The Seventh Circuit found that] "[b]enefits are benefits; in a defined-contribution plan they are the value of the retirement account when the employee retires, and a breach of fiduciary duty that diminishes that value gives rise to a claim for benefits measured by the difference between what the retirement account was worth when the employee retired and cashed it out and what it would have been worth then had it not been for the breach of fiduciary duty." The Third and Sixth Circuits have adopted this line of reasoning as well. Also instructive is the analysis by Judge Hall in the District of Connecticut: “[T]he court is puzzled by the . . . assertion that a claim for benefits lost due to imprudent fiduciary investment becomes a claim for damages once the plaintiff accepts a lump sum payment constituting the balance of her account with the relevant plan. . . . Regardless of whether [the participant] accepted or refused the balance of her account, her underlying claim would still be for the money lost by the Plan as a result of the defendants' imprudent investments. The court sees no logical reason why such a claim seeks an ascertainable benefit when the plaintiff refuses a lump sum, but the very same claim seeks an unascertainable damage award once the plaintiff accepts a lump sum.”
I Got Them Low Down No Good Pension Blues
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On the first Monday morning in August I expect things to lighten up with lots of people on vacation and the like, so I scheduled a breakfast meeting this morning right in the middle of one of Massachusetts’ most congested highways (well, not really in the middle of the highway, more like at a restaurant off an exit off of one of the most congested highways), on the theory traffic would be lighter than usual. It wasn’t. But I still think August should be a lighter month, so today’s blog posting is musical. Here is a link to the song “Pension Tension Blues,” courtesy of Pension Governance. What is “Pension Tension Blues”? Pension Governance describes it thusly: Inspired by those who bring attention to serious issues through humor, Dr. Susan M. Mangiero, [Pension Governance] president and founder, and Mr. Steve Zelin, the Singing CPA have co-created a (hopefully) memorable ballad about the state of affairs in pension land. Mangiero adds "Pension Governance, LLC is committed to helping fiduciaries do a better job of identifying, measuring and managing financial risk. We hope the song is a friendly reminder of the hard work ahead."
Functional Fiduciaries in the First Circuit
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I am kind of fond of this recent disability benefits case out of the United States District Court for the District of Maine for one particular reason, namely its discussion of functional fiduciaries, and thought I would pass it along as a result. Confronted with the question of whether Metropolitan Life, the administrator, was a fiduciary or possessed fiduciary authority with regard to benefit determinations, the court explained that although Metropolitan Life was not the Plan Administrator or a "named fiduciary" within the meaning of ERISA, the plan language clearly gave it authority that would render it a fiduciary. While there is nothing particularly out of the usual or fascinating about that finding, I liked the court’s further citation of the First Circuit’s recognition of the doctrine of functional fiduciaries as further support for its finding. The court noted that: The First Circuit has recognized that ERISA's fiduciary duty provisions extend to "functional fiduciaries--persons who act as fiduciaries (though not explicitly denominated as such) by performing at least one of the several enumerated functions with respect to a plan." Beddall v. State Street Bank and Trust Co., 137 F.3d 12, 18 (1st Cir. 1998). "The key determinant of whether a person qualifies as a functional fiduciary is whether that person exercises discretionary authority in respect to, or meaningful control over, an ERISA plan, its administration, or its assets." Id.
In the disability benefits field, where many of the insurers and administrators are highly experienced, plan documents are usually clear as to who is playing what fiduciary role and who has discretionary authority, but in other cases, such as smaller self-managed plans or involving smaller third party administrators, the controlling plan documents often do not address the role of every person or service provider involved in the operation of the plan. In those cases, the functional fiduciary analysis can be quite handy in understanding the role of the players involved in the administration of the plan, and the possible liabilities of each as well.
The Interrelationship of Suits for Benefits and for Breach of Fiduciary Duty Under ERISA
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If it seems like I have been digressing a lot these past couple of weeks off of the primary topics of this blog and into other areas that interest me - such as the billable hour system - or that I practice in, like intellectual property litigation, it is because the courts of the First Circuit have been fairly quiet with regard to ERISA issues since the First Circuit issued its opinion in this case a few weeks back in which I represented the prevailing parties. Things change quickly in the forest, though, and the courts in this circuit have begun speaking again on ERISA issues. The United States District Court for the District of Puerto Rico has now provided this nice, handy summary of why an individual plan participant whose benefits have been terminated must bring solely a claim for benefits, and cannot press forward with an alternative theory for breach of fiduciary duty. In the words of the court: ERISA recognizes two avenues through which a plan participant may maintain a breach of fiduciary duty claim: (1) a Section 502(a)(2) claim to obtain plan-wide relief, see 29 U.S.C. § 1132(a)(2); and (2) an individual suit under Section 502(a)(3) to obtain equitable relief, see 29 U.S.C. § 1132(a)(3). Cintron [the plaintiff] does not seek plan-wide relief. Consequently, ERISA authorizes her breach of fiduciary duty claim only if she seeks "appropriate equitable relief." 29 U.S.C. § 1132(a)(3); Varity Corp. v. Howe, 516 U.S. 489, 512, 116 S. Ct. 1065, 134 L. Ed. 2d 130 (1996); Watson v. Deaconess Waltham Hosp., 298 F.3d 102, 109-10 (1st Cir. 2002); Larocca v. Borden, Inc., 276 F.3d 22, 27-28 (1st Cir. 2002). The Supreme Court of the United States has described Section 502(a)(3) as a "safety net" that provides appropriate equitable relief for injuries that Section 502 does not elsewhere adequately remedy. Varity, 516 U.S. at 512. Section 502(a)(3), therefore, does not authorize an individualized claim where the plaintiff's injury finds adequate relief in another part of ERISA's statutory scheme. Id. at 512, 515; see also Watson, 298 F.3d at 112-13; Larocca, 276 F.3d at 27-28; Turner v. Fallon Cmty. Health Plan, 127 F.3d 196, 200 (1st Cir. 1997). Following Varity, "federal courts have uniformly concluded that, if a plaintiff can pursue benefits under the plan pursuant to Section [502(a)(1)(B)], there is an adequate remedy under the plan which bars any further remedy under Section [502(a)(3)]." Larocca, 276 F.3d at 28.
Section 502(a)(1)(B) provides Cintron the opportunity to obtain redress for the injury she alleges to have suffered--a wrongful termination of her benefits. If the defendants wrongfully stopped paying her benefits, Section 502(a)(1)(B) provides an avenue through which she may recover benefits due. She may not seek relief for the same injury under Section 502(a)(3). . . .Thus, she may not maintain a claim for breach of fiduciary duty under Section 502(a)(3).
As some of you know from other posts, I like to collect handy summaries like this to insert into future briefs in appropriate spots, and I pass this one along to anyone who may want to do likewise. The case is Cintron-Serrano v. Bristol-Myers Squibb P.R., Inc.
High Cost Investments, Payments to Sponsors, and the National Education Association
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Been away from the desk for a few days, but not away from my reading, and there’s been a whole series of things in the media that may be of interest to those who read this blog that I have meant to pass along and comment on. I am going to try to post frequent but shorter notes for the next day or three until I cover them all, starting with one that most clearly and directly falls within the jurisdiction of this blog, concerning the payment of fees to a quasi-retirement plan sponsor. Many of you may have already seen the story, from the New York Times, which concerns payments received by the National Education Association from financial firms whose investment products it recommended to members. As the article explains:
A lawsuit filed last week in federal court in Washington State contends that the National Education Association breached its duty to members by accepting millions of dollars in payments from two financial firms whose high-cost investments it recommended to members in an association-sponsored retirement plan. The case was filed on behalf of two N.E.A. members who had invested in annuities sold by Nationwide Life Insurance Company and the Security Benefit Group. It contends that by actively endorsing these products, which carry high fees, the N.E.A., through its N.E.A. Member Benefits subsidiary, took on the role of a retirement plan sponsor, which must put its members’ interests ahead of its own. By taking fees from the two companies whose annuities N.E.A. Member Benefits recommended to its members, the N.E.A. breached its duty to them, the suit contends.
The article goes on to explain some tricks and twists that the plaintiffs face in trying to press their suit against the N.E.A. related to the payments and the high cost products, namely that the plaintiffs need to shoehorn the case into ERISA by arguing that “because the N.E.A. actively promoted the annuity products to its members, it essentially stepped in as a plan sponsor [thereby making] it subject to Erisa’s fiduciary duty requirements.”
With regard to this problem, concerning the plaintiffs’ need to figure out the best manner to structure their lawsuit, what you are really seeing is the problem of forcing a square peg into a round hole. I have argued in other posts that, as we move decisively from a defined benefit plan world to a defined contribution world, and thereby make plan participants the bearers of all the risks of their retirement investments, we need to simultaneously provide those plan participants with the legal protections and tools to manage those risks, including the types of risks alleged in this case, of misleading investment recommendations, undisclosed payments, and excessive costs.
I hope to keep an eye on this case going forward, as it may provide an excellent window on the question of whether, and if so how, the law can evolve to deal with these changes in the real world environment in which people now must prepare for retirement.
Why You Can Never Generalize When Considering Whether Brokers Are Plan Fiduciaries
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A couple of loyal blog readers have commented that I have veered off a good bit on digressions this past couple weeks, and I can’t deny it - maybe it’s a lawyer’s version of a summer fling. Anyway, today I return to a central focus of this blog, ERISA and, in particular today, investment advisors and their potential liability as fiduciaries. This law firm newsletter, passed on by the Workplace Prof, has a nice discussion of the question of when a broker or other investment advisor to a defined contribution plan (and I suppose a defined benefit plan as well) crosses the line, by rendering professional services to the plan, into the dangerous realm of being deemed a fiduciary. The Prof highlights the following discussion from the newsletter: This is a nice summary of the point addressed in the newsletter, but as one of my law school professors liked to say whenever someone stopped after the first part of a holding, you need to read on. When you go the newsletter itself, you find that the summary really reflects simply the holding under a particular, and detailed, set of facts from one particular case. And that is exactly as it should be. The determination of whether a particular broker or other financial advisor to a plan became a fiduciary as a result of investment advice rendered to the plan is highly fact specific, and should turn on exactly what events occurred in any one particular case. As a result, one neither can nor should jump to any particular conclusion about the fiduciary status - and accompanying potential exposure - of any particular broker or advisor (or of brokers or advisors as a class) from the newsletter, the case discussed in the newsletter, or the Prof’s post. Instead, it is important to analyze the status of a particular broker on the basis of the exact role played by that particular broker or advisor with regard to a particular plan.
Me and LaRue, and Business Insurance Too
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There is an article in Business Insurance magazine this week, the June 25th issue, on the Supreme Court accepting review of the LaRue decision, in which I am quoted. The article is here - subscription required - and if you read it, you will note that it ends on my comment that I expect the Supreme Court to overturn the Fourth Circuit. A short article intended really just as a little news blurb on the subject for the benefit of the magazine’s business management oriented readership, the reporter did not have the space to go into why I think the Court will overturn the lower court decision, but I, obviously, have the space to do so here. So to the extent anyone is interested in the question, here’s my thinking. First, I don’t really expect the Court to do much, if anything, with the question of the scope of equitable remedies issue. If anything, given the language of the statute, despite the fact that many people want the Court to expand individual remedies and available damages under ERISA - including, I have found in my litigation practice, many District Court judges who are displeased with the limitations of the statute but nonetheless consider themselves duty bound to enforce its restrictions on recovery - the Court has probably read the range of equitable relief that can be pursued in as broad and pro-plaintiff a manner as the language allows, with its test of whether the relief sought would be equitable or not way back in the days of the divided bench. There simply isn’t much more you can do with the statute’s restriction of recovery in certain circumstances to equitable relief unless you are simply going to ignore the actual language of the statute and rewrite it by judicial fiat, which this Court certainly isn’t going to do and arguably, the thinking of Ronald Dworkin and his heirs aside, no court should do.
In a way, this issue is a perfect parallel to a long running and common problem in the insurance coverage field, in which there was an oft litigated dispute over whether insurance policies, because they only cover claims for damages, cover lawsuits seeking equitable relief, the issue being that the policies only cover damages and equitable relief is something different than damages. In both insurance coverage and ERISA cases - such as LaRue - the simple fact of the matter is that equitable relief does mean something particular, something that is different than a claim for damages, and the question is what is the impact of that difference.
Second, with regard to the more fundamental question of whether the individual plan participant could recover just for losses to his account in the plan, yes, I do think the Court will overrule the Fourth Circuit and find that such an individual plan participant can bring such an action. I can never recall whether the saying is that the Court follows the election returns, or is that the Court doesn’t follow the election returns, so I looked it up, and in fact the saying is that they follow the returns, although every author who writes this then adds qualifiers to the comment, such as in this piece here. Either way, the kind of relief sought by the plaintiff in the LaRue case, to be able to enforce his investment instructions in his own retirement savings account, clearly fits with the current Zeitgeist and, more interestingly, is of a piece - and a natural fit with - the changes to retirement savings plans put into place by the Pension Protection Act. Beyond that, the statutory language that is at issue in this part of the case is completely open to either the interpretation selected by the Fourth Circuit, or that sought by the plaintiff, and thus the Court can realign this part of ERISA without doing any violence to the statutory language. Combine these things, and I get a reversal.
Common Misperceptions and The Obligations of Plan Sponsors
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I wrote, it seems to me, an awful lot over the last couple of weeks on the question of the fiduciary obligations of plan sponsors and others with regard to the investment selections made by pension funds and the investment choices offered in 401(k) plans. Susan Mangiero has a lot more to say about this in her series of posts - here, here, here and (most recently) here - on the due diligence obligations of fiduciaries when investing plan assets. One particular issue that constantly comes up in this area is the belief of many employers and plan sponsors that they have satisfied any obligations they may have and have immunized themselves, for all intents and purposes, from liability for breach of fiduciary duty, by hiring an outside company to administer the plan and make investment decisions. Whenever I speak to people who offer investment and other assistance to plan fiduciaries, their need to disabuse fiduciaries, and particularly plan sponsors, of this belief is a constant topic of discussion. Quoting Rick Slavin, an attorney and former regulator, Susan nails down in three sentences why this is not the case:
You know, the simple fact of the matter is that, in all the areas I have litigated cases in over the years, plan sponsors have the easiest ability to preemptively and pro-actively position themselves to defeat an action against them - due diligence, due diligence and more due diligence throughout the life of the pension fund or defined contribution plan will come as close to serving as a silver bullet to protect plan sponsors as exists anywhere in the world of litigation. But plan sponsors who forget that they still have to engage in due diligence in the form of oversight and instead elect to rely simply on the fact that they retained an outside manager effectively forfeit this safe harbor.
An Evolution in Fiduciary Standards Means an Increase in Litigation Risk
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My email inbox is often inundated with seminar pitches, book offers, and informational material, much of which, even if it looks valuable, I could never get to unless I decide to give up the practice of law and just read all this stuff full time. Fortunately, though, I can cut through the junk pretty quick and spot the diamond in it within minutes of sitting down at my desk in the morning (or, more often than not, while remotely surfing my inbox in the middle of the night). And here is one such diamond, a really terrific paper on the rapidly evolving nature of the fiduciary standards affecting plan sponsors of defined contribution - most commonly 401(k) - plans and the steps they should be taking as a result. The paper, authored by Laurence Cranch and Daniel Notto of AllianceBernstein, is Evolving Fiduciary Standards for Defined Contribution Plan Sponsors - The Impact of New Thinking About Employee Participation and Investment Selection, and you can find it here.
In short, the authors argue, correctly I believe, that we are not only in an era of rapid change in the standards of care expected of fiduciaries, driven to a large extent by advances in knowledge in the area of retirement investing and the transition from pensions to defined contribution plans, but also in a time of vastly increased litigation threats to such fiduciaries. Perhaps the most interesting part of the paper concerns using the tools provided by the Pension Protection Act, in conjunction with the investment selection thinking that underlies the statute and its enabling regulations, to simultaneously demonstrate prudence on the part of the fiduciary and decrease the likelihood of litigation.
Just a terrific paper, and well worth the time to read it.
Divestment and Fiduciary Duties
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Apparently there is something in the air these days about socially responsible investing and the fiduciary obligations of pension fiduciaries. I discussed here, just the other day, the argument that it is not a fiduciary breach to utilize a particular social agenda in investing and the litigation implications of that approach. Susan Mangiero has more to say on the same subject at her blog, Pension Risk Matters, here. I don't know about this one, frankly. I know, as I discussed in my last post on this issue, that the more defensible position, if sued as a fiduciary, is to have stayed out of socially responsible investment in preference for a focus on maximum return investing. But geez, who wants to be the one who says fiduciary obligations preclude avoiding, in the scenario Susan discusses, investments in so-called terrorist countries?
Criminals and terrorists in my last two posts. I don't know, maybe I better get off the ERISA beat and over to the digressions section of this blog, to write about intellectual property for a bit, a subject where, I don't think, I can find any reason to write about such things.
Socially Responsible Investing and Fiduciary Duties
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Here’s a little twist on an issue we have often discussed on this blog, namely the fiduciary obligations of plan sponsors and other fiduciaries. To what extent does the fiduciary obligation to properly manage and invest fund assets leave room to consider social, environmental or political agendas in selecting investments? This article, by Benjamin Richardson of York University in Canada, concludes that there is room, within fiduciary obligations, to engage in socially conscious investing. Here is the abstract with his conclusions:
In recent years, pension funds and other institutional investors have begun to give more attention to the environmental and social behaviour of the companies in which they invest. A recent movement for socially responsible investment (SRI) seeks to exclude companies that pollute or ignore human rights, for example, and to champion those that behave ethically and responsibly. However, some confusion among investment decisionmakers persists about the extent to which their fiduciary duties to beneficiaries allow policies that may sacrifice financial returns for environmental or other philanthropic causes. This is compounded by the belief that they cannot secure the best returns in respect of their fiduciary obligations with current socially responsible companies. With reference to the main common law jurisdictions, this article critically examines whether the fiduciary duties of pension fund investors hinder SRI. Contrary to some commonly held beliefs, SRI can often sit comfortably with fiduciary duties to invest prudently. However, legal reforms to improve the climate for SRI would help, as evident by some recent initiatives in several jurisdictions.
Interesting points. But I will tell you, that as a litigator, its always an easier case to make that returns were as high as possible if plan members sue, than to argue that they were as high as possible while still consistent with a reasonably appropriate social agenda. On the other hand, disinvestment movements, of which socially responsible investing can be seen as an heir, have a respected and valued social history, one that, whether or not it can be easily reconciled with fiduciary obligations, should not be disregarded.
Further Thoughts on Beck v Pace
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There are a number of reasons I don’t, as I mentioned yesterday, play the game of first to post, in which bloggers race to be first on the scene with a post about a particular subject, not the least of which is that I just plain can’t type as fast as the Workplace Prof, whose detailed and intelligent analysis of yesterday’s ruling by the Supreme Court in Beck v Pace can be found here. Also of interest is this detailed description of the ruling at SCOTUSBLOG by a guest blogger, a summer associate at the firm that sponsors that blog.
Beck presented the question of the extent to which the fiduciaries of a pension plan, that rapidly vanishing dinosaur of the employee benefits world, were obligated to consider merging the pension into a different pension plan instead of terminating the pension by the option of purchasing annuities that would provide the benefits to the participants. The two writers both focus on the fact that the Supreme Court handled the dispute by finding that the fiduciaries actually could not have considered merger, rather than termination, and that the Court, in essence, concluded that this finding resolves the issue presented by the case. As SCOTUSBLOG puts it:
For me, what I take away in particular about the ruling is a particular underlying fact, one that didn’t play a central role in the Court’s reasoning but that the author focused on late in the opinion as additional support for the conclusion that the fiduciary acted within its rights in terminating the plan, and was not subject to the additional merger related obligations that the union sought to impose on it; this was the fact that the employer had diligently and fully funded its pension plans, and its method of termination, although it had the side benefit of freeing up an extra $5,000,000 that would revert to the company and could be used to pay creditors, guaranteed the participants’ retirement benefits. In this day and age, where every day we see companies cutting back on pensions and we regularly see underfunded plans dropped in the lap of the Pension Benefit Guaranty Corporation, I am hard pressed to see how the company in this case could rightfully be faulted for terminating a properly funded pension plan in a manner that would protect plan participants. Too often, the law of ERISA is about cases in which participants are not fully protected, and the question is what remedy they do, do not, or should have - see, for example, the LaRue case. Here we have the reverse - fiduciaries who have fully acted to protect the plan’s participants, even if, by means of the surplus funds being taken out of the plan afterwards, some incidental benefit to doing so flowed to the sponsoring company. The underlying purpose of ERISA - to encourage and protect employee benefits - has been satisfied, so imposing possible exposure on the fiduciaries for not considering still some other approach to the ending of the pension strikes me as fundamentally inconsistent with the statute’s purposes.
The Supreme Court's opinion itself is here.
Supreme Court Rules on Beck v Pace
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I don’t generally like to play first to post, and would rather wait to see what I can add to the discussion of any particular issue before posting on a breaking story. But as I have been watching and waiting for the Supreme Court’s opinion in the ERISA fiduciary duty case of Beck v. Pace International to be issued, I was quick to read it today when it hit my in box and thought I would pass it along. Hopefully, I will return to it in the next few days - after a hearing tomorrow and a deposition on Wednesday - and talk more about it, because there are some interesting aspects to the Supreme Court’s opinion. In the meantime, here is a quick summary of the opinion from SCOTUSBLOG: Continuing the pattern of unanimity, the Court ruled in Beck v. PACE International Union (05-1448) that a company that sponsors its own pension plan for workers has no duty to consider merging it with another plan as a method of ending the plan while carrying on the benefits. In this case, the bankruptcy trustee opted to buy an annuity rather than consider merging with an ongoing plan. Justice Antonin Scalia authored the opinion.
You can find the opinion itself here, and some news coverage summing up what the case was about here. My prior posts on the case are here and here.
More on Amaranth and Fiduciaries' Due Diligence Obligations
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In a post on Friday, I discussed how a large pension fund’s large losses from a hedge fund investment had given rise to litigation between the pension and the hedge fund, as discussed in this post in the WSJ Law Blog, and how it further raised the question of whether the pension plan’s fiduciaries might be liable to plan participants for their failure to properly vet and monitor that investment prior to the large loss. In essence, the question raised by the loss is whether the pension plan simply blindly - or at least half-blindly - invested the plan’s assets in the hedge fund without really understanding why or what they were doing, and was instead simply seeking to goose the pension plan’s returns without sufficient analysis of the risks, in much the same way individual mutual fund investors are often said to simply follow the latest investing trend without really knowing much about it or whether it is right for them. Interestingly, I am clearly not the only one concerned whether pension fund fiduciaries and others charged with the management of pension assets are sufficiently knowledgeable about hedge fund investing and the ins and outs of any particular hedge fund, as the good folks at Pension Governance have now rolled out a series of webinars intended to educate retirement plan decision makers about hedge fund investing. Information about the series, called the Hedge Fund toolbox, can be found here.
A Thought About Litigation Against Fiduciaries For Hedge Fund Losses
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We’ve talked a lot on this blog about the due diligence obligations of fiduciaries and other advisors to pensions, 401(k) plans and the like when it comes to investment choices. A story yesterday offers the opportunity for a little thought experiment demonstrating why it matters, and why anything less than stringent oversight and investigation of investment choices will put fiduciary advisors front and center as potential targets of lawsuits. The WSJ Blog yesterday had this description of litigation by a public employee pension fund against a hedge fund in which it had invested that managed to lose literally billions of dollars, in spectacular and newsworthy fashion:
Amaranth, the hedge fund that lost $6.4 billion in a few days last fall in the worst debacle in the industry’s history, responded today to a lawsuit filed against it in March by the San Diego County Employees Retirement Association, or SDCERA. SDCERA is the only investor to have filed suit against the hedge fund. . . At the time it filed the lawsuit, SDCERA said Amaranth’s collapse resulted from “excessive and unbridled speculation in natural gas futures that was directly contrary to statements made to SDCERA that Amaranth would be diversified and risk controlled.”
Amaranth says SDCERA knew exactly what it was getting into. In its motion, it quotes the funds private-placement memorandum, which read in big bold letters: THE FUND IS A SPECULATIVE INVESTMENT THAT INVOLVES RISK, INCLUDING THE RISK OF LOSING ALL OR SUBSTANTIALLY ALL OF THE AMOUNT INVESTED.
[A lawyer for Amaranth] said in a statement that he hopes “SDCERA will now withdraw its suit and stop wasting the resources of its 33,000 county employees and pensioners on this misguided and ill-fated litigation.”
So here’s the thought experiment to play out, the line of dots to connect. We know we are currently watching the rise of a pension/401(k) investment plaintiffs bar, clearly modeled after the securities litigation class action bar, ready and waiting to sue pension advisors and anyone else in the line of fire for excessive fees, poor investment choices, and anything else that affects returns in the plans. We see here as well in this blog post from the WSJ Blog that Amaranth’s defense to litigation by a pension plan is that the plan and its advisors knew exactly what they were getting into and should take responsibility themselves for the risks they took. Now here is where we connect the dots - if the hedge fund’s lawyers are right, then aren’t the plan’s fiduciaries and other advisors potentially liable for breaching their own obligations to the plan and its participants to properly select and monitor plan investments? And if so, then their best defense should the newly forming class action bar come after them for this mess would be that, contrary to what the hedge fund’s lawyers say, they actually did full and complete due diligence, and therefore lived up to their obligations and cannot themselves be liable for the fact that the investment went south.
And at the risk of sounding like a scold, that, I suppose, is what I would like fiduciaries to take away from the story of the Amaranth collapse, that hedge fund issues can come back on them, and they need to take steps in advance to insulate themselves. Just something to muse over on an early summer weekend at the beach, right?
Excessive Fee Litigation, 401(k) Plans and LaRue
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The current issue of the National Law Journal has an article providing an excellent overview of litigation over allegedly excessive fees charged on investments in 401(k) plans. The article notes the variations in the theories, and discusses what are likely to be large, class wide actions in the near future. There are those who think these types of claims are going away but, as this article suggests, that doesn’t actually look to be the case. Now connect the dots between that story and the LaRue case, which I discussed here and about which more can be learned here, in which the Supreme Court is being asked to determine whether a single participant in a 401(k) plan can bring a breach of fiduciary duty claim for breaches that harmed only his account. Right now, with regard to the excessive fee issue, we are seeing, as the National Law Journal article reflects, the development of essentially plan wide suits. But if developments in the LaRue case establish that any individual plan participant can sue for breaches of fiduciary duty affecting that participant’s account, that will change. We will instead have a universe of individual participants, all with the capacity to sue over their own account balance and over any complaints they have that excessive fees drove down the balance of their own accounts over the course of years, and I suspect we will see plenty of lawyers appear who are ready and willing to represent individual account holders in such lawsuits. This will create a different litigation world for fiduciaries, plan sponsors, plan administrators and the like, then the current one in which the real risk is large plan wide actions by specialist plaintiff firms. In its place will be more of a death by a thousand cuts type of litigation regime that will confront plan fiduciaries and their allies.
I am not saying this is necessarily a bad thing, or a good thing. It is what it is. But in at least one way it may well be a good thing. We are all bombarded with the mantra that, in this defined contribution plan world we now inhabit, individuals are now responsible for their own retirement, as opposed to when companies provided it by means of guaranteed pensions. Well, I suppose if we are going to make individual plan participants the risk bearers and care takers of their own retirement funding, the least we can do is provide them with the legal tools to protect their investments.
LaRue v. DeWolff, Losses to the Plan and the Supreme Court
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SCOTUSBLOG is the NY Times, or maybe - given its focus on one particular field - the Wall Street Journal, of the legal blog world. With the backing of a major international law firm, it brings tremendous resources to its in-depth coverage of all things goings on at the Supreme Court. Cripes, the blog even has its own reporter, to supplement the work of the actual bloggers. And of course that’s also why I read it, because you know you are not going to miss anything of importance to your own practice area that happens at the Supreme Court. And here, of interest, is their post on the United States Solicitor General’s brief recommending that the Supreme Court hear an appeal from the Fourth Circuit’s decision in LaRue v. DeWolff, Boberg & Associates, which presents the question of whether an individual participant in a 401(k) plan can sue to recover losses from errors by fiduciaries that affected only his or her account in the plan, rather than the accounts of all or most participants in the plan. In dispute is the question of whether it qualifies, first, as a loss to the plan, such that the participant can sue for breach of fiduciary duty, and/or second as equitable relief as the Supreme Court has interpreted that phrase for purposes of ERISA, such that the participant can recover on a separate equitable relief theory.
One thing’s for sure. If the Supreme Court puts its imprimatur on this theory, and makes clear that individual plan participants can sue for their own individual losses in their defined contribution accounts, there will be a whole range of new potential plaintiffs out there, and I am sure plenty of lawyers ready and willing to represent them. At the same time, to be fair, in a world of Enrons and the like, maybe there should be.
The Workplace Prof reads SCOTUSBLOG too, and here’s the prof’s take on these events.
Pension Performance, 401(k) Plans and Breach of Fiduciary Duty Litigation
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This is an interesting paper, that comes to us via Workplace Prof, and which provokes further thought on the issue of the litigation boom involving 401(k) plans. The paper finds that pension plans outperform mutual funds, and attributes that differential to costs buried within mutual funds, as well as to the size of pension funds, which allows them to negotiate better deals on cost and related issues than would otherwise be the case. If you think about it, exactly that type of action is likewise what is expected of the fiduciaries of 401(k) plans, that they will assert themselves so as to avoid performance being affected by unreasonable fees or by other asset management decisions (such as overloading with company stock). One can think of lawsuits by participants against company 401(k) plans as being, at heart, driven by the failure of plans and their fiduciaries to live up to that high standard. Lawsuits involving excessive fees paid by 401(k) plans are in essence claims for failing to do what this article shows pension plans routinely doing: protecting participants against excessive costs impacting the plans’ returns.
401(k) Plans and Breach of Fiduciary Duty Lawsuits
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I have written before, and frequently (such as here and here), about the coming boom in litigation against plan sponsors and fiduciaries over alleged excessive fees and other alleged malfeasance in the administration of 401(k) plans. One point I have tried to drive home in my posts, including here and here, is that the best defense to this litigation boomlet, possibly soon to be a boom, is a good offense, in the form of careful, regularly scheduled due diligence with regard to the funds offered in a plan and the fees charged for those funds. This article, making the same points, by the lawyers at Littler Mendelson, crossed my inbox today. It provides a nice easy to digest overview of the issue, and recommends the same preemptive course of conduct, in the form of these recommendations for due diligence:
Sound advice in my book, and one I - and others - have been recommending for awhile.What to Do? We believe that there are some actions that employers and plan fiduciaries can take to protect themselves:
•Continually monitor all plan and fund expenses and assure that they have negotiated the best deal for participants, but keeping in mind that fees are only one piece of the fiduciary puzzle; the others include risk, rate of return, and historical performance.
•Periodically review all aspects of the fund selection and monitoring, and document these efforts.
•Be sure that all plan expenses can be determined from documentation provided or made available to participants, and consider providing participants with a separate summary of those expenses.
•Review your service provider agreements, make sure you get legal counsel involved in negotiating those agreements. It is recommended that all 401(k) plan service provider agreements prohibit any undisclosed revenue sharing.
•Ask your plan service providers to provide you with a detailed written description of all plan fees – hard dollar and soft dollar.
•If you believe you may be vulnerable, consider having a legal audit performed on your 401(k) plan.
Beck v Pace International Union
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Well, my trial’s still ongoing, and I find myself short of time to really comment in any detail on the latest details in the always percolating and never quiet world of ERISA and insurance law. However, I do still find time to continue my own reading on the subject, and so I am able to pass along for your review items that I find particularly interesting. Head and shoulders above anything else on that list right now is this excellent analysis by Workplace Prof blog of the Supreme Court hearing in Beck v. Pace International Union, which concerns the issue of fiduciary obligations with regard to the distribution of a terminated plan’s assets. The analysis is timely, interesting, and probably, in a nutshell, all you need to know about this case until the time the Court actually issues an opinion on the case.
Defined Benefit, Defined Contribution, and The Psychological Effect on Litigants
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Here is a very neat and interesting paper contrasting defined benefit plans - i.e. pensions - with defined contribution plans - i.e. 401(k) plans - and addressing, in particular: (1) the decline in the former in the workplace and replacement by the latter; and (2) the problems engendered by that change. In essence, the authors argue that the defined contribution plans, as they currently are regulated and operated, simply are not satisfactory replacements for the vanishing pension system, and cannot be counted on to provide an appropriate stream of retirement income for most retired workers. The authors provide suggested changes for both types of plans that, they hope, will make pensions more palatable to employers and 401(k) plans more beneficial to employees. I have spent a couple days musing on the paper, which was first brought to my attention in this post last week on Workplace Prof, and have a few thoughts to offer, mostly about how the facts and arguments in this paper fit in with the litigation climate involving, in particular, 401(k) plans. What jumps out at me is the central theme of the paper, that pensions are overly regulated and employee contribution plans like 401(k) plans insufficiently regulated, with the result that the latter plans are unlikely to meet the needs of the prototypical employee. And this leads to two thoughts about excessive fee, breach of fiduciary duty and other types of lawsuits against companies sponsoring 401(k) plans and the advisors they retain. First, are the suits driven, at core, by the defined contribution plans' absence of overarching regulation and government protection, placing the onus for policing them on employees and their lawyers, who can be seen to have been forced into serving almost in a “private attorney general” role with regard to such plans? And would this be the case if, like pensions, they were more heavily regulated and backstopped by the government, much like pensions are by the Pension Benefit Guaranty Corporation? And second, echoing a theme I have commented on in the past, to what extent is the litigation driven by the exact problem emphasized in the article, namely that workers cannot confidently assume an appropriate retirement income by relying on 401(k) plans and therefore may rightfully be afraid for their long term economic security? If they didn’t have that fear, and instead were confident in their retirement income, much as - sometimes wrongly - they generally are in pensions, would they be so quick to authorize lawyers to sue in their names?
The Supreme Court's Next Words on Fiduciary Duties and Pension Plans
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Here is a terrific and in-depth review of the underlying facts and issues in the pending Supreme Court case of Beck v. Pace International Union, which is scheduled to be argued later this month, and which involves the extent, if any, to which fiduciary obligations apply to a decision to terminate a pension plan by purchasing an annuity rather than by merging the plan into other existing plans. Thanks to Workplace Prof for the heads up about this on-line publication out of the Cornell Law School, a source that I don’t regularly follow (but of course, that is what I rely on the Prof to do, to follow academic sites like that in my stead). On a side note, one of the things that I simply really enjoy about ERISA is that whenever the Supreme Court weighs in on an ERISA issue, we can look forward to years of - usually conflicting - district court and circuit court decisions trying to apply the Supreme Court’s ruling, giving us great material for litigating cases and for blog discussions.
Merger and Anti-Cutback Provisions of ERISA, and a Handy Rule of Thumb
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This case, out of the United States District Court for the District of Massachusetts, provides a nice little rule of thumb for amending, merging or otherwise altering retirement benefit plans - namely, that it makes it hard to get sued and lose if you make the changes in a way that avoids altering the actual benefit amounts of any given participant. In this case, an employee complained about changes to the company’s retirement plan made as part of a corporate acquisition and about a later change intended to protect other participants’ participation in the plan. The court found that the changes did not violate ERISA’s merger or anti-cutback provisions, as the evidence showed the changes had no adverse impact on the plaintiff’s benefits. In an interesting discussion of the merger and anti-cutback provisions, the court explained that: Pursuant to ERISA § 208 and I.R.C. § 414(1), when benefit plans are merged, each plan participant must receive benefits immediately after the merger that are equal to the benefits he would have received had his plan terminated immediately prior to the merger. . . .At its core, this merger rule is a simple one, intended to prevent companies from eliminating an employee's previously accrued benefits when merging one benefit plan with another. . . . Much like the merger rule, the purpose of the anti-cutback provisions of § 204(g)(1) of ERISA is to prevent an employer from "pulling the rug out from under employees" by amending its benefit plan to eliminate or reduce a previously accrued early retirement subsidy. Specifically, the anti-cutback rule provides, with certain exceptions not relevant here, that "[t]he accrued benefit of a participant under a plan may not be decreased by an amendment of the plan." 29 U.S.C. § 1054(g)(1). . . .The Act requires that the merger or amendment of retirement plans does not result in a plan that has the effect of reducing an employee's previously accrued benefits.
The court ruled across the board in favor of the defendant, not just on the merger and anti-cutback counts but on all counts pled by the participant, with the decision driven in large part by the fact that the evidence demonstrated that the changes to the plan did not detrimentally alter the benefits available under the plan to the complaining participant.
The case is Gillis v. SPX Corp. Individual Retirement Plan.
Insurance Coverage for Pension Plan Fiduciaries
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There is an interesting interrelationship between the two primary subjects of this blog, ERISA litigation and insurance coverage, and one that I had not really thought much about until Rick Shoff, who works with Mike Pratico over at CapTrust Financial Advisors, raised it in a conversation recently. As I have mentioned in the past, Mike and his colleagues at CapTrust serve as fiduciary advisors to retirement plans and their sponsors, and he and Rick commented to me about the issue of errors and omissions insurance and the necessary amount of coverage for fiduciary advisors. Two points came out of our conversation that I thought I would pass along. First, what is the appropriate amount of coverage for a fiduciary advisor under its E&O insurance? What should the relationship be between the limits selected and the amount of assets in the plans that the advisor works with? Obviously, the limits can’t match the asset amounts, as any good advisor is likely advising on plans with assets far higher than the amount the advisor could purchase in E&O insurance, at least not without paying every penny the advisor earns over to the insurance company as premiums (and even then, I doubt limits that high could be obtained). It also would not be necessary, since an advisor’s potential exposure to a lawsuit undoubtedly would never equal the total amount of the assets in a particular plan, but instead would equal only some portion of it that was supposedly affected by an error by the advisor. My own take is that the proper policy limit is somewhere around the amount that would make a plaintiff in a hypothetical claim consider settlement within the policy limits, without trying to obtain an excess verdict that the advisor itself would have to pay.
The second issue that popped up is the range of actors out there who are involved in providing advice to retirement plans, participants and the like. It may well be that not all such companies and consultants, even if they have professional liability or general liability insurance coverage, are actually covered for claims arising out of their role in providing such advice. Many policies, unless they are specifically underwritten to cover a professional engaged in ERISA related activities, contain exclusions for ERISA related claims that would preclude coverage of claims involving ERISA governed plans. As a result, a plan sponsor cannot assume that all advisors to a plan actually have coverage for claims arising out of their activities, and the sponsor must instead actually examine their advisors’ insurance coverage to know whether or not this is the case.
Equitable Relief Under ERISA in the First Circuit Post-Sereboff
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The district courts in the First Circuit have been so busy issuing ERISA related decisions recently that it has become difficult to find time to post on other things that I also want to talk about. That said, however, the District Court for the District of Maine just issued a remarkable opinion that I both wanted to comment on and to be sure to spotlight. The case is Curran v. Camden National Bank, and it involved the question of whether the defendant bank owed hundreds of thousands of dollars to a multi-employer health care trust upon its withdrawal from the group. There are a few things that are really note worthy about the ruling. First of all, the decision is a nicely crafted survey of the law in this circuit as it currently stands on a number of topics, in particular: the extent to which, after Sereboff, equitable relief is available under ERISA in this circuit; the proper analysis of preemption; and the determination of fiduciary status for purposes of a claim for breach of fiduciary duty. One could pick the court’s analysis of any of these three issues to focus on, and have plenty to write about, but today I will comment in particular on the court’s discussion of the viability of claims for equitable relief in this circuit after Sereboff, particularly since the court points out that the First Circuit itself has not yet found reason to interpret and apply Sereboff, other than to cite the case for the proposition that “what forms of relief are considered equitable is a matter in dispute.” On this issue, the district court began by providing a handy blueprint for analyzing claims for equitable relief in this circuit, and whether they can proceed without running afoul of Supreme Court precedent. Addressing “29 U.S.C. § 1132(a)(3), which provides [that a] civil action may be brought by a participant, beneficiary, or fiduciary (A) to enjoin any act or practice which violates any provision of this subchapter or the terms of the plan, or (B) to obtain other appropriate equitable relief (I) to redress such violations or (ii) to enforce any provisions of this subchapter or the terms of the plan,” the court stated:
By its terms, however, section 1132(a)(3) authorizes only "those categories of relief that were typically available in equity." Sereboff v. Mid Atl. Med. Servs., U.S. , 126 S. Ct. 1869 (2006) (quoting Mertens v. Hewitt Associates, 508 U.S. 248, 256 (1993) (emphasis in original)). If the plaintiffs seek legal as opposed to equitable relief, "their suit is not authorized by § [1132(a)(3)]." Great-West Life & Annuity Ins. Co. v. Knudson, 534 U.S. 204, 218 (2002).
The First Circuit has set forth a two-step inquiry to evaluate a cause of action under § 1132(a)(3): "1) is the proposed relief equitable, and 2) if so, is it appropriate?" LaRocca v. Borden, Inc., 276 F.3d 22, 27-28 (1st Cir. 2002). With respect to the first prong, under ERISA, "'equitable relief' includes 'those categories of relief that were typically available in equity (such as injunction, mandamus, and restitution, but not compensatory damages).'" Id. at 28 (quoting Mertens, 508 U.S. at 256). Turning to the second step, the purpose of § 1132(a)(3) is to serve as a "safety net, offering appropriate equitable relief for injuries caused by violations that § [1132] does not elsewhere adequately remedy." Id. (quoting Varity Corp. v. Howe, 516 U.S. 489, 512 (1996)).
This is a very handy formulation that one can borrow to begin the section of any brief submitted in this circuit arguing over whether or not a particular claim can proceed under this section of ERISA. The court then went on, however, to provide far more analysis and guidance on this issue, explaining how a proper analysis of Sereboff and subsequent history from other circuits established that the plaintiffs were seeking a legal remedy dressed in the clothing of equitable relief, and that the claim therefore could not proceed under this statutory section.
Second of all, the bank’s lawyers did a terrific job here, drawing the court across a diverse range of ERISA issues and convincing the court that none of the plaintiffs’ claims were viable in light of the statute and case law interpreting it. I tip my hat to the bank’s lawyers for a terrific win.
Congressional Hearings on 401(k) Plan Fees and What They Mean for Plan Fiduciaries
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Wow. Don’t think the heat is on for company 401(k) sponsors and other fiduciaries of employee retirement benefit plans who may not have done enough benchmarking and due diligence to make sure that mutual fund and advisor fees are as low as possible? Then take a look at this article out of the Washington Post about congressional hearings into the issue. The gist of the testimony is to the effect that fees are too high, are not disclosed fully or understood by plan participants, and have a significant impact on returns in the plans. While the mutual fund industry disputes this characterization, anecdotal evidence certainly suggests that at least some significant portion of company sponsored plans suffer from these problems. It would certainly be nice if the sponsors of plans investigated right away whether or not their plans suffer from these defects and, if so, promptly remedied the problems. But for reasons I have discussed before in other posts, doing so would not only be good business and the right thing to do for company employees who participate in such plans, but is also necessary to protect the plan’s fiduciaries from legal exposure. It clearly appears at this point that conducting due diligence to root out these problems and then remedy them - or even better, to find out that the particular plan in question does not suffer from these problems and that there is nothing to remedy - is an essential element of satisfying a fiduciary’s obligations in the operation of these plans, and that the failure to do so is an open invitation for a breach of fiduciary duty lawsuit.
What Happens When Reimbursement of Overpaid Benefits Is Equitable for Purposes of ERISA, but Nonetheless Inequitable?
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Here is an interesting little twist on the common scenario of a plan overpaying retirement benefits and then seeking reimbursement, as allowed under the plan’s terms, of the overpayment from the plan beneficiary. Normally, these cases are focused on whether the reimbursement qualifies as equitable relief that the fiduciary is allowed to pursue. In this case out of the District Court for the District of New Hampshire, however, the court simply assumed the plan fiduciary could legally obtain that recovery as equitable relief under ERISA, even though the judge commented in the opinion that “the scope of this court’s equitable authority in an ERISA context is not well-defined.” However, the court then went on to let the beneficiary off the hook (or at least to find a question of fact that precluded an award of summary judgment to the plan), on the theory that the beneficiary could have reasonably believed that he was entitled to receive the overpayments, even though they amounted to many thousands of dollars a month for a number of months beyond the one time lump sum he had elected to receive as his pension benefit, and had changed his position, by spending those funds, in reliance on that belief. The court found that ordering reimbursement from the beneficiary, under those circumstances, could be inequitable, and that the plan could not recoup the overpayments if that were the case.
Of interest, there was one factual quirk that made the case somewhat different than the usual recoupment case where the overpaid beneficiary argues that he or she already spent the money and it would be inequitable to order repayment as a result. There was actually evidence showing that the beneficiary, prior to the time of the request for reimbursement, had performed rough calculations that showed him entitled to a sum significantly larger than he was actually entitled to receive. Although the math was grossly incorrect, the court found that even if his “calculations are inaccurate, the mere fact that he prepared the estimate suggests that he may have reasonably believed that he was entitled to the erroneous payments.” Most of the published decisions where beneficiaries claim they didn’t know they were receiving large payments in error and thus should not have to repay them involve fact patterns where that assertion is simply hard to believe; the court here, rightly or wrongly, was clearly swayed by evidence that placed this case outside of that mainstream.
The case is Laborer’s District Council Pension Fund for Baltimore v. Regan.
Fiduciary Advisors, Due Diligence, and Avoiding Fiduciary Liability
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Michael Pratico, a fiduciary advisor to retirement plans throughout New England for Captrust Financial Advisors, and one of my favorite touchstones for real world - i.e. non-lawyer - information about the actual operation of retirement benefit plans, pointed out an interesting conundrum to me the other day concerning the operations of retirement plans and the fiduciary obligations of those who operate them. As I have discussed in other posts, the fiduciary obligations of those who sponsor or administer such plans clearly require, at this point in time and in light of current developments in the law, a certain level of due diligence, requiring at a minimum a regular comparison of fees and other aspects of a 401(k) or other retirement plan to the broader market as a whole.
Michael points out an interesting side effect of this, however, which is that once a plan sponsor or other fiduciary undertakes such due diligence, the plan becomes obliged, for all intents and purposes, to act on any bad news uncovered by the due diligence. What this means is that, yes, the plan sponsor is obligated to do the due diligence, and it seems to me is a sitting duck for a stock drop or excessive fees type suit if it fails to do so based simply on that failure. But that is certainly not the end of it. Instead, it means as well that once the sponsor has done that, if the due diligence shows a disjunct between better results or costs in the market as a whole and what the particular plan is earning or paying in expenses, the plan sponsor or other fiduciary becomes obligated to act on that information and change the plan to address those problems, with the failure to take that step likewise then becoming a legitimate basis for a breach of fiduciary duty lawsuit.
This is what Michael and other fiduciary advisors of his ilk do, take the existing plan, see where it is off base relative to the mutual fund world as a whole, and then recommend how to fix it. Taking both steps, and not either playing ostrich and skipping the due diligence entirely or else doing the due diligence but skipping the action it points out is needed, is really the best way to avoid incurring liability from excessive fee and similar types of claims.
When Is a Plan Administrator a Fiduciary?
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Here is a fascinating decision out of the federal district court for Rhode Island arising out of a dispute over plan contributions required of a contractor under collective bargaining agreements in the construction context. What I most liked about the case is its discussion of the challenge to the plaintiffs’ standing to bring an ERISA action, on the ground that the plaintiffs were not participants, beneficiaries or fiduciaries of the plans in question. The central issue concerned whether the plaintiffs qualified as fiduciaries for these purposes, and the court’s primary analysis was directed at whether one of the plaintiffs, who was the plan administrator, qualified as a fiduciary. The district court concluded that it did, and in addressing this issue, provides a terrific synopsis of the law in the First Circuit concerning when an entity qualifies as a fiduciary for these purposes, and in particular when a plan administrator qualifies for that status. The court stated (I have omitted the voluminous citations to statute and case law, but it is here in the opinion itself for those of you who are interested):
An ERISA fiduciary includes any person who "has any discretionary authority or discretionary responsibility in the administration of [an employee benefit] plan." ERISA also provides that a fiduciary "exercises any discretionary authority or discretionary control respecting management of [a] plan or exercises any authority or control respecting management or disposition of its assets." In addition: [r]egulations promulgated by the Department of Labor interpreting ERISA make clear that the administrator and trustees of a pension plan are fiduciaries within the meaning of the statue, for a plan administrator or a trustee of a plan must, b[y] the very nature of his position, have discretionary authority or discretionary responsibility in the administration of the plan within the meaning of section 3(21)(A)(iii) . . . . Thus, at least according to many courts that have addressed the issue, a plan administrator is per se a fiduciary. The Court of Appeals for the First Circuit appears to have expressed a similar tenet, although recently, the court has characterized this as an assumption, not a holding. Absent any clear authority in any circuit to the contrary, this court will also proceed on this assumption. Consequently, because the plan administrator is named as a plaintiff in this suit, and is acting in a fiduciary capacity, he therefore must be considered a fiduciary within the meaning of 29 U.S.C. § 1132(e)(1). Accordingly, because the plan administrator has standing this court has jurisdiction to hear the claims.
The case is Rhode Island Carpenters Annuity Fund v. Trevi Icos Corp.
Insurance Brokers as ERISA Defendants
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Roy Harmon, over at his Health Plan Law blog, has his typically scholarly take on two recent rulings out of the United States District Court for the District of New Hampshire in the case of Hopper v. Standard Insurance Company. The rulings primarily revolve around the question of which claims in the lawsuit are preempted under ERISA, and the law, reasoning and rulings of the court on these issues is consistent with First Circuit law, which grants a pretty broad sweep to ERISA preemption. What caught my eye about the case, however, and was of particular interest to me, was the discussion of whether the claims against one of the defendant entities that was involved in the insurance program at issue, namely the insurance broker, were preempted. The court, in one of its two rulings, determined that the broker did not play the role of a fiduciary, was not subject to ERISA, and that the claims against it were not preempted as a result. The court explained:
Hopper's misrepresentation claims against WGA [the insurance broker], however, are different. Unlike Standard, which functions as an ERISA entity, see Hampers, 202 F.3d at 53 (citing Stetson v. PFL Ins. Co., 16 F. Supp. 2d 28, 33 (D. Me. 1998))(explaining that the "primary ERISA entities are the employer, the plan, the plan fiduciaries, and the beneficiaries of the plan"), WGA is strictly an insurance broker, engaged in sales and marketing functions.
WGA had no direct control over Standard's insurance policy or the benefits plan. WGA did not administer the plan, and did not determine participant eligibility for benefits or consider appeals of benefit denial. Put differently, Hopper's claims against WGA are limited to WGA's "role as a seller of insurance, not as an administrator of an employee benefits plan." Woodworker's Supply, Inc. v. Principal Mut. Life Ins. Co., 170 F.3d 985, 991 (10th Cir. 1999).
This result is consistent with the underlying goal of ERISA "to protect the interests of employees and other beneficiaries of employee benefit plans." Morstein v. Nat'l Ins. Servs., Inc., 93 F.3d 715, 723 (11th Cir. 1996). "If ERISA preempts a beneficiary's potential cause of action for misrepresentation, employees, beneficiaries, and employers choosing among various plans will no longer be able to rely on the representations of the insurance agent regarding the terms of the plan." Id. As a result "[t]hese employees, whom Congress sought to protect, will find themselves unable to make informed choices regarding available benefit plans where state law places the duty on agents to deal honestly with applicants." Id. at 723-24.
Accordingly, Hopper's misrepresentation claims against WGA are not preempted by ERISA.
I think at least this part of the ruling, though arguable, is correct, so I don’t have any real quibble with it. What catches my eye, however, is the issue it raises, of whether an entity involved with an ERISA governed plan is better off staying out of the eye of the storm by avoiding a role that would grant it fiduciary status, or is instead better off playing a large enough role in the administration of the plan to end up being assigned that status. Falling outside of the ERISA framework leaves the entity exposed, as was the broker here, to a range of common law and state statutory claims; indeed, the potential exposure of such a defendant is limited only by the imagination of plaintiffs’ lawyers (and to a certain degree, the actual facts). On the other hand, coming within the realm of entities regulated by ERISA would preclude those types of claims from being asserted against the entity, while limiting recovery to that which is authorized by ERISA.
Granted, it is probably not something that the insurance broker in the Hopper case gave any thought to at the commencement of its involvement with the plan in question, but it might be something for any entity playing a role in an ERISA governed plan to consider at the outset of their retention: should they put themselves in a position to be a fiduciary subject to ERISA, or should they avoid that like the plague?
The Attorney-Client Privilege, ERISA and the Administrative Record
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No doubt at least some of you have noticed my fixation on the attorney-client privilege, and where its borders should be drawn when a party’s counsel plays a central role in the events that may or may not trigger insurance coverage or show bad faith. I have the same sort of cartographer’s obsession with mapping where those borders should be when the administrator of an ERISA governed plan makes a benefit determination based on the investigation and legal conclusions of counsel. What happens to the privilege, for instance, if a company’s in-house counsel interprets the plan’s terms and applies them to the facts, thereafter recommending to the plan administrator what decision to render on a claim? And what happens if the plan administrator then adopts that recommendation as its determination? One can picture the same scenario involving reliance on outside counsel to do the same work.
Well, as this well-developed post from the Health Plan Law blog discusses, the plan administrator can delegate in this manner to counsel, and adopt counsel’s findings, at least as a general statement. But what effect would doing so have on the attorney-client privilege that would otherwise normally attach to communications between counsel and a client? Health Plan Law has this to say on that topic:
The question is this: while a plan may consistent with exercise of fiduciary discretion delegate duties as to claim investigation to legal counsel, is there a concomitant sacrifice in scope of privileged communications?
A fundamental legal principle states that the attorney-client privilege may be waived expressly or by implication. Implied waivers are consistently construed narrowly.See, In re Lott, 424 F.3d 446, 452 (6th Cir.2005). On the other hand, “an attorney-client communication is placed at issue when the party makes an assertion that in fairness requires examination of protected communications.” Clevenger v. Dillard’s Department Stores, Inc. Slip Copy, 2007 WL 27978 (S.D.Ohio 2007) (Dillard’s defendants impliedly waived the privilege for communications with legal counsel related to plan termination). The concern raised here is succinctly stated as follows: ‘the attorney-client privilege cannot at once be used as a shield and a sword.’ United States v. Bilzerian, 926 F.2d 1285, 1292 (2d Cir.1991)
And then again, to what extent does privilege apply in fiduciary matters in any event? In this connection consider the following regarding the “fiduciary exception”:
Most courts, including the Seventh Circuit, have recognized the existence of a fiduciary exception to the attorney-client privilege. In J.H. Chapman Group, Ltd. v. Chapman, No. 95 C 7716, 1996 WL 238863 (N.D.Ill. May 2, 1998), for example, the court explained that “[t]he fiduciary duty exception ‘is based on the notion that a communication between an attorney and a client is not privileged from those to whom the client owes a fiduciary duty.”See also Bland v. Fiatallis North America, Inc., 401 F.3d 779, 787 (7th Cir.2005) (recognizing fiduciary exception in the ERISA context).
On more of a concrete and less abstract level, you can think about this in terms of the administrative record; there are exceptions, but in most circumstances and in most courts, the administrative record would make up the universe of evidence that the court can consider in ruling on a challenge to an administrator's determination of a particular claim. Generally speaking, the administrative record is to contain the information relied upon or considered by the administrator in making that determination. But what about attorney advice received by the administrator and relied upon by it? The scope of the attorney-client privilege can impact whether or not that advice should be part of the administrative record.
The Effect of the Savings Rate on 401(k) Fee and Other Retirement Benefit Litigation
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Now here’s a curious little article from the New York Times on the question of whether mutual fund companies, including in their retirement calculators, deliberately overestimate the amount that people must save and invest to be able to afford to retire. The article notes that a number of respected economists find this to be the case, and the article notes that the mutual fund companies themselves obviously have much to gain if employees believe they must increase their retirement savings. As the article bluntly puts it, “financial firms have a pointed interest in persuading people to save much more than they need because the companies earn fees on managing that money.” Specifically - although without analyzing the data behind these conclusions, one can’t be sure whether these numbers fall into the old saw that the three types of lies are lies, damn lies and statistics - one of the economists claims that “Fidelity’s online calculators typically set the target of assets needed to cover spending in retirement 36.4 percent too high. Vanguard’s was 53.1 percent too high. A calculator offered by TIAA-CREF, one of the largest managers of retirement savings, was 78 [percent] higher.” The article engenders a couple of thoughts. For one, would 401(k) fee and other breach of fiduciary litigation related to retirement savings be quite as wide spread if the working/retirement saving public believed they were saving enough already for retirement, rather than having been taught that they are behind the eight ball in accumulating enough money for retirement? This raises something of a behavioral question, or maybe a chicken and the egg question. Would people care enough to sue over these types of issues if they thought they were safely prepared for retirement, and to what extent does the fear that they are not drive decisions regarding litigation? Or are these suits really driven by the imagination of plaintiffs’ lawyers, and thus it really wouldn’t make any difference at all what the actual world view is of employees as a whole with regard to whether they are on track for a secure retirement or should instead be very, very afraid of what the future will bring?
And finally, would it be a breach of fiduciary duty if plan administrators overstated the amount that employees should save for retirement when they educate employees? And if it was, what would the damages be, particularly if the oversavings produced significant investment gains for the plan participant?
Supreme Court to Review Fiduciary Duties of Administrators
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One of the things that makes practicing in and blogging about ERISA interesting is the fact that the subject area is never static. Other areas of the law can literally evolve at a near glacial pace (see, for example, this post here, involving the law of malicious prosecution and a change, for the first time in the modern era, to one of the elements of the tort), but not ERISA. And so there is always something new to talk about in a blog, and some new interesting development to keep track of for purposes of cases I am litigating. Which brings me to today’s ERISA news you can use, courtesy of the estimable Russ Runkel and his LawMemo, Inc., who reports that the Supreme Court will be addressing the question of the scope of fiduciary duties, if any, that attach to the decision to terminate benefit plans. The Supreme Court is taking up a Ninth Circuit decision, in which, borrowing liberally from Russ, a company went into bankruptcy, after which the administrator of its 18 defined benefit pension plans decided to terminate the plans by purchasing annuities, rather than merge the plans with a different existing plan.
To quote Russ, the Ninth Circuit held that: “The decision to terminate the plan was a business decision not subject to ERISA fiduciary obligations[;] the implementation of the decision was discretionary in nature and subject to ERISA fiduciary obligations[; and the administrator] breached its fiduciary duty by failing to adequately investigate” the alternative plan of merging the terminated plan with another plan.
You can find a little bit more information on the appeal to the Supreme Court, along with links to the petition and related filings with the Supreme Court on this case, here at SCOTUSBLOG.
Excessive Fees, ERISA and 401(k) Plans
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Here is an excellent article, by way of workplace prof, on the fees charged in 401(k) plans, their impact on performance, and the difficulty of even learning about them. We have talked before about how challenges to excessive fees charged to 401(k) plans is the new growth stock in ERISA litigation, and many people are always skeptical, often with good reason, when the plaintiffs’ bar moves into a new area and starts pressing a particular theory of liability against numerous companies and in many different jurisdictions. Yet articles like this one make clear that the underlying issue, of whether fees are appropriate and how they are arrived at, is a legitimate one with serious implications for the financial well being of the average investor, and for the retirement they can expect to afford. And at the same time, to the extent that excessive fees are a problem or the growth in this type of litigation is worrisome, it is clear that proper management by fiduciaries can eliminate both the problem of excessive fees and the potential liability of fiduciaries for allowing excessive fees.
Health Savings Accounts, Summary Plan Descriptions and Other Things
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A few short notes of interest from a weekend of reading: • Jerry Kalish has nice things to say about (and agrees with) my recent post concerning the Second Circuit’s decision - correct in my view - precluding summary plan descriptions from trumping the actual plan terms.
• I don’t know quite what to say about this article from yesterday’s Boston Globe about town retirement boards and their travel expenses, other than to note that if you don’t want to face exposure as a fiduciary, this type of conduct probably isn’t the way to go about it.
• And finally, WorkPlace Prof collected this information about whether health savings accounts constitute employee benefit plans governed by ERISA. He cites a report to the effect that they do not. Of particular interest, the post points out that employer contributions to the accounts will not necessarily transform them into ERISA governed plans, because employer contributions alone do not in and of themselves render a plan an ERISA governed plan. I have discussed before the totality of factual circumstances that are to be considered in the First Circuit to determine whether a benefit is an ERISA governed plan, and the fact that the source of funding alone is not determinative.
More on 401(k) Fees and ERISA
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For those of you readers who are interested in the issue of fiduciary liability for excessive 401(k) fees - and who isn't? - here is more on the subject. I posted before about ways to avoid exposure to these types of claims, and Susan Mangiero has more on that topic here. Meanwhile, Workplace Prof has this to say on the upcoming wave of litigation over this issue, and about Congress weighing in on this issue now as well.
401(k) Plan Fees and Breaches of Fiduciary Duty
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Some of you hopefully saw my recommendation the other day concerning this morning's webinar on 401(k) plan fees and the attendant obligations of fiduciaries. The webinar discussed in detail the obligations of plan sponsors and other fiduciaries with regard to 401(k) plans and their accompanying fees. On the key issue of how to avoid incurring liability for breach of fiduciary duty as a result of the fees incurred by 401(k) plans and their impact on plan performance, the speakers emphasized a commitment to due diligence. In particular, the speakers favor a systemic and periodic review of the entire issue of the fees affecting the plan, and proper investigation and selection of funds and advisors with the issue of fees firmly in mind. In other words, don’t put the plan together without thinking about the issues of fees and ensuring that the applicable fees are consistent with industry benchmarks, and even after you do that, don’t just forget about the issue, but instead return to the topic regularly and make sure fees and performance remain appropriate. There is no magic wand to protect against liability exposures of this nature, but a documented consistent course of conduct that makes certain that fees remain consistent with relevant benchmarks will go far towards insulating fiduciaries from liability on the basis of excessive plan fees.
In some ways, the entire issue reminds me of a story a well-seasoned money manager told me about his firm’s selection many years ago to manage a portion of the funds of a municipal pension plan. The plan selected multiple advisors, each charged with a different portion of the assets, and each was assigned an appropriate benchmark against which its performance would be measured. Each was also told that after a set period of time, the plan would review all of the managers’ performances as against the applicable benchmarks, and the trailing performers would be replaced, and the others would continue to manage their portions, at least until the next scheduled review, at which point the trailers at that point would be replaced.
Isn’t this exactly what we mean by diligent, reasonable conduct by fiduciaries - a consistent, regular effort to ensure that fund assets are being managed to the advantage of participants, based on a comparison to appropriate benchmarks?
Investment Management Fees, and Contract Geeks
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Two things to chew on over the holiday, other than the turducken (I have always wanted to use that word in a sentence), one to know about before it occurs, the other to note before it disappears. I guess I could take that dichotomy a little further, and note that one concerns the first half of the blog’s title, and the other, the other half.
The first: Susan Mangiero, who writes the excellent blog Pension Risk Matters, is hosting a webinar on November 28 covering issues related to investment fees, the management of 401(k) plans, and fiduciary obligations. The webinar, covering “401(k) plan fees - what they are, how they can affect reported performance and the fiduciary practices that address investment management fees” is driven by the fact that:
In the aftermath of the Pension Protection Act of 2006, 401(k) plan sponsors are required to carefully select "fiduciary advisors", identify appropriate default investment choices for participants and comply with more rigorous federal reporting procedures. All of this could spell trouble for retirement plan fiduciaries who fail to realize that regulation, public awareness and employee angst put them in the spotlight as never before. This is especially apropos with respect to plan fees.
You can find more information on the webinar here.
The second: Insurance coverage lawyers, almost by definition, have to be contracts geeks. At the end of the day, what they are really doing is fighting over the language in contracts, a particular type of contract certainly, but contracts nonetheless. And here, before it vanishes from the internet, is the story of how much money there is in not being a contracts geek.
Recoupments and Set Offs Under ERISA Plans
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Here's a very interesting decision, Northcutt v. General Motors Hourly-Rate Employees Pension Plan, out of the 7th Circuit, upholding the right of administrators to rely on recoupment language in a plan to set off a lump sum social security payment received by a beneficiary against on-going payment obligations to that beneficiary that would otherwise exist under the plan. The problem is one that arises with extraordinary frequency, namely a beneficiary is awarded benefits under a plan, and then later collects a lump sum retroactive award of benefits from social security covering a period of time during which the individual had been receiving benefits from the plan. What happens when the plan contains language declaring that if the lump sum payment is not paid over to the plan, the plan will reduce the benefits being paid until such time as the withheld amount of the benefits adds up to the amount of the lump sum payment in question?
Well, generally the answer is that what the plan says is exactly what is going to happen. Now as you can imagine, beneficiaries are often none too happy when this occurs. They go from thinking a windfall has landed in their laps, in the form of a large retroactive benefit award from social security, to being dunned for the whole amount. Even worse from the point of view of any sort of amicable resolution of the problem as between the plan and the beneficiary, the scenario is often complicated, as it was in Northcutt, by the fact that beneficiaries have often spent the lump sum award before being notified that they actually owe it back to the plan. (I like, by the way, how the Northcutt court described the problem, as being that the sum was "dissipated by the time [the plan administrator ] made its demand" for reimbursement; I might have chosen the term "spent it like a drunken sailor on shore leave without bothering to find out first if they owed any of the money to someone else" if I were the court.)
The plaintiffs in Northcutt were two beneficiaries confronted by this problem and who tried to get around it by creative lawyering, insisting that the recoupment provisions in the plan were an attempt to create some sort of quasi-judicial right of recovery to which the plan was not entitled because it was contrary to, or at least not expressly part of, the rights to relief and causes of action granted by the express language of ERISA to plan fiduciaries. The court caught an obvious problem in this argument, namely that the recoupment was a right established under the plan and was simply part of the express terms of administration of the plan set forth in the controlling plan documents. The recoupment was simply an administrative act, and was not judicial relief or a court action.
The court rejected the plaintiffs' theory, finding that the sponsor clearly had the right to impose such terms as part of the plan, and that the plan was within its rights to simply apply those terms of the plan.
There is, beyond the holding and the interesting presentation of the reasoning behind it, some interesting language in the decision. One part that I like in particular speaks of the general acceptance in the case law of this type of recoupment mechanism, and of the fact that, although the Northcutt plaintiffs tried a novel theory of argument not already rejected by other courts, they were still subject to this same general acceptance of recoupment provisions. To quote the court:
Although Mr. Northcutt and Mr. Smith advance a novel theory in support of their argument, challenges to the enforceability of similar reimbursement provisions are not new. Before other courts, these challenges generally have focused on whether such reimbursement structures might violate particular provisions of ERISA. In these other suits, the plaintiffs have contended that contractually based recoupment amounts to a breach of fiduciary duty by the plan or to a violation of ERISA's anti-assignment provisions. The district courts appear to have rejected each theory and approved, either explicitly or implicitly, of contractually based recoupment.
401(k) Plans and ERISA Class Actions
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Jerry Kalish has a terrific post, drawing on a law firm white paper, about the potential ERISA liabilities of financial advisors and others who manage or otherwise help to run company 401(k) plans. As he discusses, class action lawsuits are being filed alleging ERISA violations in the operation of such plans; the suits stem from the decisions made by plan advisors and others concerning plan investments and the effect of those decisions on plan expenses.
Substantively, these types of suits raise interesting questions as to exactly how much discretion in making investment decisions should be extended to administrators, sponsors and advisors of such plans before second guessing becomes appropriate. On a broader note, these suits also point out the extent to which the simultaneously high and somewhat amorphous standards that govern the actions of fiduciaries under ERISA make the responsibilities and potential liabilities of 401(k) administrators, sponsors and advisors a fertile field for imaginative plaintiffs' lawyers.
And finally, given the number of different advisors and other players involved in the operations of these types of retirement vehicles, there are bound to be plenty of fiduciaries - as that term is understood in the context of ERISA - involved in almost any 401(k) plan, making for plenty of targets for such suits.
401(k)s and ERISA
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A terrific paper on the application of ERISA and its fiduciary duty standards to 401(k) plans and to the people who run them is available free right now from the ABA. As employee benefit plans, these retirement plans are within ERISA's ambit and the companies and individuals who operate them are subject to the fiduciary obligations imposed by ERISA. The paper provides a nice overview of the application of ERISA to these types of employee benefit plans. The fiduciary duties and the manners in which they can be breached that are detailed in the paper carry over to the operations of other employee benefit plans as well, and do not apply only to the operators of 401(k) plans. As a result, it is worthwhile reading for fiduciaries of other types of benefit plans as well.
A nod of thanks to BenefitsBlog for noting the availability of this paper. BenefitsBlog discusses tax and other issues related to benefits that are beyond the ambit of this blog, which focuses more on litigation under ERISA.
Equitable Relief under Section 502(a)(3)
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Last week, in Sereboff v. Mid Atlantic Medical Services, Inc., http://www.supremecourtus.gov/opinions/05pdf/05-260.pdf, the Supreme Court returned to the question of what particular relief sought by a fiduciary can properly be pursued under the equitable relief provisions of Section 502(a)(3)(B) of ERISA, which provides that:
A fiduciary may bring a civil action under § 502(a)(3) of ERISA "(A) to enjoin any act or practice which violates any provision of this subchapter or the terms of the plan, or (B) to obtain other appropriate equitable relief (i) to redress such violations or (ii) to enforce any provisions of this subchapter or the terms of the plan."
502(a)(3)(B) is understood, under Supreme Court precedent, to only allow fiduciaries to pursue equitable relief, spawning a class of litigation over the issue of what particular relief sought by a plan or other fiduciary should be deemed to be "equitable" for these purposes. In Sereboff, the Court returned to the specific question of when can the plan obtain reimbursement from beneficiaries who had collected a third party tort recovery. In the case before the Court, the beneficiaries had collected health benefits from the plan and thereafter obtained a tort settlement from those who had caused the injuries that required the health care in question; the plan contained an
"Acts of Third Parties" provision [, which] requires a beneficiary who is injured as a result of an act or omission of a third party to reimburse [the plan] for benefits it pays on account of those injuries, if the beneficiary recovers for those injuries from the third party.
The Court concluded that this issue is not decided by simplistic characterizations of the recovery, such as should it be characterized as restitution, a recovery normally understood at least in casual legal thought as equitable, or instead as compensatory damages, but instead by analyzing the history of equitable relief under Supreme Court precedent and determining whether, on that long history, the relief in question would qualify as equitable.
Who is a Fiduciary?
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Still mining Judge Woodlock's summary judgment opinion in Kansky v. Aetna Life Insurance Company and Coca Cola Enterprises, available here http://pacer.mad.uscourts.gov/dc/cgi-bin/recentops.pl?filename=woodlock/pdf/kansky%20may%201%202006.pdf.
Who is a fiduciary under ERISA? According to Judge Woodlock, under 29 U.S.C. section 1002 (21)(A),
"a person is a fiduciary with respect to a plan to the extent (i) he exercises any discretionary authority or discretionary control respecting management of such plan or exercises any authority or control respecting management or disposition of its assets, (ii) he renders investment advice for a fee or other compensation, direct or indirect, with respect to any moneys or other property of such plan, or has any authority or responsibility to do so, or (iii) he has any discretionary authority or discretionary responsibility in the administration of such plan." 29 U.S.C. § 1002(21) (A).