BNA Pension and Benefits Blog

    Even though defined benefit plans will not disappear completely, there is little doubt, at least in the private sector, that those employers who have the option are abandoning those plans in favor of defined contribution plans.  This trend is occurring for two primary reasons:  employers believe such plans are less expensive and that they impose less risk on the sponsor.

    Clearly the first reason is not valid for those plans which hold company stock.  It is also not proving to be valid for those plans whose fiduciaries ignore their fiduciary duties.  Here, I am referring to those sponsors who believed what they were hearing from some providers that ERISA section 404(c) protected them from fiduciary exposure.  Just set up a plan, let somebody else run it and you are home free.

     The new round for excessive fee cases is clearly proving (as though the stock drop cases hadn't already proved it) that 404(c) provides little meaningful protection.  We, as advisors, are a part of the problem in that we clearly oversold 404(c) protection to some of our clients (or at least failed to impress upon them what their responsibililty was).  I don't know of a single plan sponsor who wants to pay excessive administrative fees--even if those fees are coming out of the sponsor's pocket rather than the sponsors.  Many sponsors never knew to ask.  Likewise, I am not aware of a single plan professional who did not know--at least in general terms--that revenue sharing, commission arrangements, etc. were not common practices in the industry.  The indefensible breach of duty that most plan sponsors committed was not that they caused their plans to pay too much, but that they had no idea at all of how much their plans were paying.   

     Our conduct as professionals did not help much either.  Even when some of us tried to find out the true cost of our plans, we were met by an industry response that it was ems.bna.com of our business or that the prospectus contained everything we needed to know.  Until what we all knew was going on privately became public, it was all business as usual.

     And so, what is our response now?  If you lack expertize, hire an expert.  If there are design flaws in your plan, hire a consultant.  If your participants don't know how to invest, hire more educators and advisors (even though most education programs have not been models of success).  If you want to be procedurally prudent (which is the best way to avoid a lawsuit) hire more lawyers. etc. etc.

     The apparent answer to todays problems in the defined contribution world (ignore for purposes of this blog the main problem of DC plans not providing enough for retirement) is to hire more advisors, brokers consultants, and lawyers.  In fact, we are well on our way to making DC plans as complicated to run as DB plans. 

     I would submit a better answer might be to go the other way--toward simplicity, with fewer advisors and fewer costs.  For example, if a plan is big enough, hire a professional manager to invest ALL plan assets.  If a plan is not big enough, limit investment options to index funds and target date (or similar) funds.

        The fact is that most 401(k) plan participants neither want to nor are trained to handle their own investments.  Sponsors were led to believe their own risk was lessened by transfering investment responsibility to employees.  Let's face the fact that the opposite is true.  In most cases, I would submit, the safest course for sponsors as well as the best option for a majority of participants, is professional management.  The second is cheap, safe options like index funds.  Of course this would probably provide less opportunity for the advisor community, but maybe that wouldn't be such a bad thing. 

Trying to be somewhat current and topical, with a vote scheduled this week in the House Education and Labor Committee on Rep. Miller's 401(k) Fair Disclosure for Retirement Security Act bill (HR 3185) and the DOL moving forward with proposed rules addressing these issues, I just wonder what the ultimate impact will be at the participant level.  While there will be much gnashing of teeth at the disclosure pains by the investment and plan community, will participants perceive this as something beneficial and worth all the effort?  My guess is no.  Given my experience with most participants, their focus is first on a relatively safe investment (which is not necessarily good) and second on an acceptable rate of return.  While they may be interested in knowing what the true expenses of operating a plan might be and to what extent revenues from their investment decisions are being used to pay these amounts, it will probably have little impact on their investment decisions.  Granted there may be a focused minority of participants who will pay close attention to this and will alter their decisions based on what they perceive, but I suspect the majority will not do much.  I'm interested in what others may feel on this point.  Are wheels spinning for not that much good?

The Supreme Court seems to have an increasing interest in addressing some of the long-standing remedial and procedural issues under ERISA. It recently decided one case, LaRue v. DeWolff, and there was a BNA blog and several comments about that. I agree with much of what was written on the blog, but I take issue with an interpretation of either ERISA or the Supreme Court's decision that would undercut the application of the benefit disputes/claims administrative process to issues that emanate from the combination of plan provisions and apparent administrative errors (such as found in LaRue). Although a failure to follow plan provisions can indeed be a fiduciary breach because of the requirement of Section 404(a)(1)(D) that fiduciaries operate the plan in accordance with governing documents (something that obviously a fiduciary must do). However, taken to its extreme, that would mean that every benefit miscalculation claim could be turned into a fiduciary breach, raise a 502(a)(2) claim, and undercut the exhaustion requirement for 502(a)(1)(B) claims. The better interpretation is to require exhaustion in LaRue and similar matters unless the participant can show futility. Once the matter has been through the administrative claim process, if the participant is still unhappy because the claim has been denied in whole or part, then he/she can proceed to litigation and presumably raise both 502(a)(1)(B) and 502(a)(2), although defendants may challenge the latter claim. Now, the issue is what should the court's standard of review be. That leads to another case the Supreme Court is currently considering, MetLife v. Glenn.

In that case, the Court will evaluate and determine what the standard should be in situations where the administrator (who is deciding the claim and/or appeal) is both the decision maker and will pay for any benefit. That would be particularly relevant regarding insured welfare plans where the insurance company makes all the decisions as well as self-insured welfare plans and presumably qualified plans where the sponsor/administrator decides the claim and appeal, makes some or all of the contributions and would be fully or partially liable if the claim was granted. The Solicitor of Labor has filed an amicus brief in the MetLife case arguing that a conflict of an administrator should be weighed as a factor in determining the reasonableness of a benefit determination. The Solicitor argues that all the circumstances should be weighed in considering how much, if any, deference should be given to the administrator's denial of the benefit claim. In this particular case, the Solicitor concludes that MetLife did abuse its discretion and argues that the Sixth Circuit's decision in plaintiff's favor should be upheld. Forgetting the merits of the particular case, the effective standard for evaluating abuse or arbitrary and capricious conduct seems to make sense and certainly offers key procedural and substantive protections for participants. It also underscores why it makes sense under a remedial statute such as ERISA for LaRue type claims to first go through the administrative processes before pursuing litigation. If an administrative denial is based on a sound, objective process, then deference makes sense. If not, the Solicitor's argument and the Sixth Circuit's decision in MetLife reflect the expected procedural result of limiting deference.

Now some have argued that it is meaningless for LaRue type claims to have to exhaust administrative remedies because ultimately there is no one to fund the benefit regarding a claim for loss under a 401(k) plan. But that is not really the case. Assuming the sponsor administers the claim and appeal process, any favorable decision will be funded by the sponsor. Assuming some outside person or entity administers the process, the sponsor would still be required to fund the lost benefit (if the participant is upheld) in accordance with the administrator's determination of what the plan provides or requires (which should effectively bind the sponsor). If the participant's claim is denied, then a court will ultimately determine the scope of review (i.e. the application of deference or not) and whether the participant's claim is upheld.

The courts are already clogged with a myriad of litigation on countless subjects. It makes no sense to turn every benefit denial or administrative error immediately into a federal lawsuit without, at least, attempting to pursue participant rights through the administrative review process. If that process is not administered in an objective and responsible manner, then it should be reformed and its decisions will not be upheld by courts until it is. Undoubtedly, plan sponsors want participants to have to exhaust any administrative processes before pursuing litigation. Perhaps, sometimes this desire is motivated by a true intent to resolve the matter in what it considers to be a fair and responsible way consistent with plan documents, etc. And, perhaps, in other situations, this desire is to construct a better litigation defense. However, regardless of its motivation, if its process is not fair and responsible, its decisions are not likely to be accorded deference. On the other hand, presumably, plaintiffs' counsel would prefer not to have to pursue the claim and appeal process because, if it is administered as it should be and denies the claim, then courts will normally give deference to its decisions. And, quite frankly, that is as it should be under the ERISA scheme and years worth of court decisions post Bruch v. Firestone. LaRue should not be used to effectively or indirectly overrule Bruch.

The house passed its version of ERISA in the fall of 1973. The Senate approved its version in February of 1974. There were many differences to be reconciled by the Conference, which got underway in April of that year. One of them, however, was not the preemption of state law rule, which was the same in both bills. It provided for "subject matter" preemption. States were precluded from legislating with respect to matters addressed in ERISA. For example, no state could have imposed a vesting standard for retirement income plans because ERISA had a vesting rule for retirement income plans. Likewise, the other minimum standards (participation, accrual) and the funding standards. And no state could have imposed fiduciary standards on any kind of employee benefit plan because ERISA's rules applied to all plans. But that preemption rule could not have been used to prevent states from regulating, e.g., health care plans, in areas in which ERISA does not regulate. It was believed by the ERISA drafters that subject matter preemption was sufficient to prevent states from regulating that which Congress was regulating, and thus gave plan sponsors protection against having to cope with a multitude of differing state schemes that sought to do so.

And you all remember your high school civics textbook explanation of the role of conference committees in Congress: they reconcile differences between the respective bills passed by each of the houses, but they don’t mess with provisions that are the same in both bills.

So how, then, did we wind up with the utterly different, and much broader, preemption rule that was in ERISA as enacted? And why does the enacted provision say, "(1) the term 'State Law' includes all laws, decisions, rules, regulations, or other State action having the effect of law, of any State," and "(2) the term 'State' includes a State, any political subdivision thereof, or any agency or instrumentality of either, which purports to regulate, directly or indirectly, the terms and conditions of employee benefit plans covered by this title"?

Late in the Conference, a delegation of big business and big labor clambered up the Hill and confronted the conferees. The subject matter preemption rule, they said, had to be dramatically broadened, and if the conferees wouldn't change it, they threatened to combine their forces and defeat the conference substitute when it was brought to the floor of each house. What had gotten them so exercised?

For big business, it was the Monsanto case, in which the Supreme Court of Missouri had just upheld the assertion by the Missouri Insurance Commissioner that he had authority to regulate a self-insured health care plan sponsored by Monsanto. The big companies saw the specter of 50 state insurance commissioners miring them in a swamp of inconsistent regulations. For the unions, it was the efforts of some of the state supreme courts, acting in their capacity as arbiters of the ethics of the bar licensed to practice in their states, to outlaw "closed panel" legal services plans. The unions liked closed panel plans because they were cheaper to operate and easier to manage, and they were incensed that the bars of various jurisdictions that wanted more expensive plans and didn't like the idea of being managed were thwarting their effort to bring affordable legal services to their members. Take note that among the strongest advocates of "open panel" plans—plans in which participants were free to use any lawyer licensed in the jurisdiction— was the Litigation Section of the American Bar Association.

Facing the double-whammy of big business and big labor, the conference principals caved and directed the staff to work something out. The staff, already shattered by marathon sessions with a cast of thousands trying to reconcile serious differences in the two houses' bills and facing the very real deadline of an impending impeachment of our 37^th President (all believed that there was going to be an impeachment by the late summer of '74, and all knew that, if the ERISA conference substitute was not adopted by both houses before that point, it would be put off until the next Congress, and the two houses then would have to start all over again, literally from the beginning). So staff did what we all do when our choices are narrowed and become painfully clear—they hastily drafted what the business and labor lobbyists told them to draft. The logic was overpowering—get it done quickly because there is much else to do and very little time in which to do it.

But here's the human interest story. On the day the conference substitute came before the Senate, staff of four of the key senators scripted a colloquy for them to explain the operation of the new preemption rule. The senators, however, botched it. Badly. So badly, that it came out sounding as though they had decided to revert back to the original subject matter preemption and call the bluff of the Bigs. Sitting in the gallery that afternoon were two ABA Litigation Section lawyers who had come out from Chicago to observe. They heard what they heard, were ecstatic, zipped out to National Airport, and hopped on a plane back to Chicago to report their victory.

In the meantime, the Senate staff kicked into action. They hustled into the clerk's office, where the stenographers' transcripts were being edited, and began a little editing of their own. In short order, they had unbotched the colloquy. The next morning, the ABA envoys eagerly tore the plain brown wrapper off their newly arrived Congressional Record. Quel surprise!  In their anguish, they called a Labor Department lawyer who they knew had also listened to the colloquy. "You heard it," they said. "This is the exact opposite of what the senators said." He replied, "Do you see the words in the Record? That's what you heard." Not without some sympathy, he added, "Don't you know that the victors always write the history books?"

And, to come full circle, it obviously is not true that conferees cannot mess with a provision that is alike in both bills. They cannot mess with it only if a member objects to their having done so when the bill comes up for final passage.

So, that's how a relatively modest preemption rule was replaced by a hastily drafted, much broader rule that may be the most litigated provision in the statute.

If you could draft a new ERISA preemption rule, what would it say?

Steve Sacher

Jones Day

April 2, 2008

Last month the Supreme Court resolved, at least for one case, this question: Do individual employees have a cause of action when a fiduciary violates its responsibilities with respect to the assets in an individual’s defined contribution account? In the case, LaRue v. Dewolff, Boberg & Associates, Inc. (42 Empl. Benefits Cas. 2857), the Court held that an individual does have a cause of action. The judgment was unanimous, but Justice Roberts wrote a mystifying and mischievous concurring opinion, joined by Justice Kennedy, which might raise a question as to whether the issues purportedly addressed by the Court are really settled.

The case involved straightforward facts: a participant in a defined contribution plan gives investment instructions with respect to his account. The plan fiduciary, to whom the instructions were given, does not follow them. The account suffers a loss, and the participant brings a civil action against the fiduciary to recover the loss. Does ERISA provide jurisdiction for such a civil action?

The fiduciary argued no, because relief against a fiduciary (except for equitable relief) is available only if the fiduciary caused harm to the entire plan , as opposed to this situation in which the harm was to a participant. This argument was quite plausible given earlier Supreme Court decisions interpreting the scope of ERISA Sections 502(a)(2) and 409. (Section 409 provides, in part, that a fiduciary “is liable to make good to [the] plan any losses to the plan resulting from” the fiduciary breach.)

The Court, though, said that the loss in this case--even though felt by only a single plan participant--was still a loss to the plan under Section 409.

My initial reaction to the decision recalls a quote from “The Godfather,” when Marlon Brando, presiding over a meeting of the five families to establish a peace, asks “How did things ever get this far?” How could we, more than 30 years after ERISA, still be debating whether a participant in a defined contribution plan has a cause of action against a fiduciary whose breach reduced the value of the employee’s account?

But now, thanks to LaRue, the issue is settled. Or is it?

Justice Roberts wrote separately. His opinion says that LaRue’s true claim was a claim for benefits under Section 502(a)(1)(B) of ERISA and that “it is at least arguable that a claim of this nature properly lies only under § 502(a)(1)(B). . . . If LaRue may bring his claim under § 502(a)(1)(B), it is not clear that he may do so under § 502(a)(2) as well.”

Justice Roberts says this is important, because under Section 502(a)(1)(B), it is clear that a participant ordinarily has to exhaust administrative remedies and that a plan can grant a fiduciary a significant degree of discretion in determining benefit eligibility and the meaning of plan terms.

Although Justice Roberts does not expressly say so, it is also possible that if the action is under section 502(a)(1)(B), there may be no relief at all—LaRue’s action was an attempt to get the fiduciary to make good the plan’s loss; how would that be possible under section 502(a)(1)(B), where the fiduciary would not even be the proper defendant? (Maybe if there is a loss, the loss would have to be recovered ratably from the accounts of all participants. Now that would be a happy result for the other participants. Now could they bring an action against the plan fiduciaries for not suing the fiduciary responsible for causing LaRue a loss? And would that be actionable only under section 502(a)(1)(B), since they are basically saying the same thing that Justice Roberts says Larue is saying: “My benefit should be larger”? I can see an endless cycle of complaints here.)

The most unfortunate thing about Justice Roberts’ concurrence is that it ensures us a new period of uncertainty. Certainly every fiduciary defendant will seize on Justice Roberts' words, and courts will have to figure out just what the concurrence means and if any Justices, other than Justices Roberts and Kennedy, may in the future be sympathetic to the concurrence’s rather odd position.

I should add that it is particularly odd, given that Justice Roberts, at least in his confirmation hearings, suggested that he wanted the Court to speak, as often as possible, with a single voice. In LaRue, he opts for point, counterpoint.

[Ed. Note: For coverage of the LaRue decision see 34 Pens. & Ben. Daily (Feb. 21, 2008); 35 Pens. & Ben. Rep. 467  (Feb. 26, 2008); and 42 Empl. Benefits Cas. 2857.]

The extension for amending plans for compliance with Code section 409A and the final regulations thereunder under Notice 2007-86 does not mean that companies or individuals should wait to address these issues until later this year.  During the course of an IRS examination, one company received an information and document request from the IRS agent inquiring regarding what the company was doing to comply with Code section 409A.  The IRS is interested in how companies are preparing to comply, what will your or your client's answer be?

In preparing for Code section 409A compliance, it is important to study carefully the transition rules because these can be helpful tools in addressing arrangements that may not be able to continue in the same manner as they have operated in the past under Code section 409A.  Each situation needs to be addressed considering the operations of the plan, the company's payroll system and the administration system for the plan.  It is important to consider not only operations today in working to design the plan for compliance, but also how operations will work in the future and how to structure arrangements considering the impact of mergers and acquisitions on the non-qualified deferred compensation plans.

During the interim it is also important to review operational foot faults in light of the relief provided under Notice 2007-100.  The corrections available under Notice 2007-100 should be carefully reviewed and the notice obligations under such Notice must be followed to be able to receive the benefits of the corrections provided. 

During 2008, companies need to develop their own internal compliance policies and procedures for Code section 409A, including identifying all plans and arrangements potentially subject to Code section 409A, creating a procedure to identify what new agreements or arrangements need to be reviewed under Code section 409A, limiting the internal personnel who can send communications about plans or enter into agreements to avoid inadvertent documentary compliance issues, coordinating plans (particularly those that are linked to qualified plans, other non-qualified benefits or that have unique offset arrangements), collecting documentation showing compliance in operation, and determining how to deal with problems under either the transition rules, good faith compliance, one of the exemptions in the final regulations,  or fixing violations under Notice 2007-100.  It is also important to consider whether the issue is not addressed in the final regulations or Notice 2005-1 and can be addressed as being in "good faith compliance."   It is important to remember there is no remedial amendment period for compliance with Code section 409A.

After 2008 based upon the currently existing guidance, you will not be able to fix bad documents, most bad plan designs, bad substitutions or discounted stock options that have been exercised. The IRS is asking about 409A preparations, it is time to begin work on your answer.

When PBGC takes over a terminated plan, it becomes the trustee and may invest the assets of the plan in the full range of investments available to other ERISA plan trustees. By law, PBGC must invest its premiums in debt obligations. Through most of its history, PBGC invested most of the trust funds assets in stocks and other non-debt asset classes to diversify its portfolio. However, in 2004, PBGC began a shift away from equities to bonds. As a result, 72% of PBGC's total assets were fixed-income securities at the end of its last fiscal year (September 30, 2007). PBGC this week announced it is moving back to a more diversified portfolio, investing 55% of its $55 billion portfolio in stocks and alternative investments.(Click here for the BNA story in the Pension & Benefits Daily.)

Over 75 percent of PBGC's assets were in the trust funds at the end of its last fiscal year and thus able to be invested in stocks and other asset classes. This means the PBGC has much the same flexibility that private plan fiduciaries have to build a diversified portfolio, since any diversified pension portfolio is likely to have more than 25% in fixed income securities. Under the new policy, stocks and fixed income securities will each represent 45 percent of PBGC's portfolio, with the remaining 10 percent invested in alternative investments.

This is good news for plan participants and for defined benefit plan sponsors. PBGC's shift to fixed income securities was an attempt to match its assets with its liabilities. However, at the time it was adopted, PBGC had a deficit of over $11 billion. Unfortunately, going to an immunized portfolio when you don't have enough assets to pay all benefits means you simply lock in the deficit.

There is ample evidence that a diversified portfolio will yield a higher return with less risk over time than one heavily weighted toward fixed income securities.

Is 45-45-10 the right mix of stocks, bonds and alternative investments? Hard to tell without seeing the full study. But it is certainly a step in the right direction. Kudos to Director Millard and the PBGC Board (the Secretaries of Labor, Treasury and Commerce) for taking this step.

On April 23, 2008, BNA will present a conference on "401(k) Plan Fiduciary Compliance: What Plan Sponsors Need to Know," at the Ritz Carlton Pentagon City in Arlington, Virginia.

The conference will feature top officials from Treasury and DOL, as well as experienced practitioners.

Conference co-chairs Nell Hennessy and Phyllis Borzi (former co-chairs of the BNA Pension & Benefits Advisory Board) have put together a dynamic, authoritative, and interesting program.

Get more information and register online: legaledge.bna.com.

-- Sarah Stevens, managing editor, BNA Pension & Benefit Publications

            Several weeks ago, the ERISA Industry Committee (ERIC) published a new proposal for retirement savings in the United States billed as a “New Benefit Platform for Life Security.” 

            As the first prong, the proposal suggests that there be three types of retirement savings: (1) a defined benefit plan, called a “Guaranteed Benefit Plan,” (2) a defined contribution plan, called a “Retirement Savings Plan” and (3) a short-term security account.  These plans could be offered independently or in combination with one another to provide additional retirement resources beyond Social Security.

            The Program focuses on providing sufficient incentives to maintain and expand employer participation and encourage individuals to contribute to their own retirement security. If implemented, the program would significantly simplify the current system, ideally make it more equitable to employers and employees and expand participation.  The program contains several supplementary initiatives including educational financial planning services, a regulatory program to provide full disclosure of fees and expenses and pre-established limits on both before and after tax contributions for each of the three types of plans.

            While the New Benefit Platform for Life Security has much to recommend it, very little has been written about it and few in the benefits practitioner community seem to have noticed it.

            You can follow the links here to see a copy of the Core Structure for Life Security Plan (the “Summary”) and a longer version that spells out some of the details (see pages 13-17 of report, found in pages 23-27 of this document).

            What do you think of this proposal?  Might it be improved by requiring that employers of a certain size actually be required to offer all three types of plans in combination?