BNA Pension and Benefits Blog

Way back in 1989, in the Bruch v. Firestone decision, the Supreme Court told us that a plan decision-maker’s rejection of a benefit application would be subject to de novo judicial review . . . unless the plan included magic words vesting the decision-maker with DISCRETION.  If the decision-maker has discretion, the trial court’s review of the decision must be deferential, only to be reversed if “an abuse of discretion,” “unreasonable” or “arbitrary and capricious.” 

Within 30 minutes of the decision, every lawyer worth his salt or at least seeing an opportunity to generate some fees, wrote a letter to every client with an employee benefit plan saying, in effect, pay me some money to review your plan to make sure it gives you discretionary authority and, if it does not, pay me a little more money to amend your plan to give you discretionary authority.  Any plan today whose benefit rejections are subject to de novo judicial review (for lack of the magic words) probably has a potential malpractice action against its attorney.  In the real world we live in, the default principle of de novo review of Firestone is a dead letter.

But the Supreme Court said something else in Firestone:  a court, when it is reviewing a benefit rejection by a decision-maker armed with discretionary review, should consider, as a factor, any conflict of interest of the decision-maker.  One clause in one sentence is all we got explaining this.  We didn’t know, for example, how to tell whether a decision-maker had a Firestone conflict, and we didn’t know what a reviewing court was to make of such a conflict?  Does it mean de novo review?  Does it mean a little bit less deference?  Or something else entirely? 

Well now, 19 years later, the Supreme Court has decided to give us an answer to these questions.  It was not worth the wait.

Look first at the majority opinion.  Here is the two sentence version of the majority opinion: in deciding whether a conflicted plan decision-maker’s rejection of a benefit claim is an abuse of discretion, a district judge should consider and weigh all factors, of which a conflict is one factor.  The conflict is not too important, though, if the plan has structural safeguards against decision-maker bias, such as erecting a wall between the “claims administrators and those interested in firm finances.”

Here are three problems with the majority opinion.

1.    There are now two levels of discretionary review: first, the plan claims administrator has discretion in deciding whether the plan should pay benefits, and second, the district court has discretion in deciding whether the plan claims administrator’s decision was an abuse of discretion.  (When a district court is given authority to “balance” all relevant factors, an appellate court will generally not reverse the district court’s decision unless the district court abused its discretion.) 

The cynic in me says that this means that most cases will turn on whether a district court judge is philosophically oriented toward business autonomy or consumer protection.  Of course, the cynic in me also says that this will not be a very serious break from the past.  What may be a break from the past, though, is that an appellate court will have a bit more trouble reversing a decision it does not like.  (Frank Cummings makes these points in a comment he wrote in response to Andrew Oringer’s discussion of MetLife.)

2.  The issue that no one discusses about Firestone is the standard against which a claims administrator’s discretion is tested.  (And this should be a key issue whether or not there is a conflict.)  What does it mean to abuse discretion?  Courts talk endlessly around this issue but never focus on exactly on how discretion is evaluated.  Oh sure, we know some things.  You can’t treat some participants radically differently from other participants: that would be arbitrary.  You can't ignore undisputed evidence.  That would be wrong. But these are examples of arbitrary decisions.  They do not define the boundaries of the discretion that a plan administrator may not abuse. 

So when we say that an administrator has discretion, what do we mean?  Here are a few possible suggestions:

1)  When a plan vests an administrator with discretion, it means that the administrator will resolve all interpretative and evidentiary questions against the claimant.  (And if this is what it means, should plans make some sort of disclosure to participants so that they understand this?)  Here, the standard against which decisions are evaluated is “defensible even if not correct result.”

2)  When a plan vests an administrator with discretion, it means that the administrator will strive to reach a correct legal judgment.  Note that the reason for judicial discretion here is not to save money by reducing benefits, but to minimize litigation costs, since the plan’s expenses in litigating a benefit denial would arguably be lower than under de novo judicial review.  Here, the standard against which decisions are evaluated would be “the process was fair and the administrator was neutral and fair.”

3)  When a plan vests an administrator with discretion, it means that the administrator will apply his special understanding of the employer and its employees in resolving benefit claims.  Here the standard against which decisions would be evaluated would be “legally correct unless the special circumstances of the employer and employee make a different approach defensible.”

4)  When a plan vests an administrator with discretion, it means that the administrator knows the price point at which the employer will terminate or cutback the plan and will consider this point in deciding close benefit questions. I’m not even going to attempt to construct the standard against which decisions would be evaluated under this understanding of discretion.

5)  When a plan vests an administrator with discretion, it means that the administrator will endeavor to make benefit decisions that conform to employee understanding of the plan.  Here the standard against which decisions would be evaluated would be “reasonably in accord with the reasonable expectations of plan participants.” 

The majority opinion probably best accords to 2), but most plan sponsors, at least at some level, probably would endorse 1), and 1) certainly comes closest to explaining judicial decision-making, at least in the pre-MetLife world.  But all of these standards are consistent with the idea of a plan administrator exercising discretion, even though they would sometimes produce markedly different outcomes. 

3.  The majority opinion does not fully resolve the question of when a plan administrator has a conflict, but certainly hints that conflicts are the rule, not the exception.  (Justice Robert’s dissent emphasizes this point.)  The question, though, is whether there are always conflicts. 

Let me posit two the two classic situations where at least some people would have argued, pre-MetLife, that the claims administrator did not face a conflict:  First, an overfunded defined benefit plan.  The approval of a claim will not come directly out of the employer’s pocket, but the employer will be affected by the approval, either in the form of increased future contributions or a reduced potential reversion.  But does this a conflict make?  (Maybe the one situation where there would be no conflict is where a defined benefit plan is overfunded and provides that all surplus assets will be allocated to plan participants.)  Second, an employer who contracts with a third party claims decision-maker who decides but does not pay claims.  Since the employer will choose the firm, and the employer may want to choose a firm that will reduce its costs, the firm may have a financial interest in rejecting close claims. 

(The majority opinion sort of endorses, or almost endorses, a similar argument about employers selecting insurance companies, since the premiums they charge will partly reflect their claim review policies.  It says “For one thing, the employer’s own conflict may extend to its selection of an insurance company to administer its plan.  An employer choosing an administrator in effect buys insurance for others and consequently (when compared to the marketplace customer who buys for himself) may be more interested n an insurance company with low rates than in one with accurate claims processing.”) 

So, will almost every case pose a conflict, as Justice Roberts suggests in his dissent?  And will this mean elevated review in all situations?  The majority opinion is a bit circular here.  The conflict will not count much if the one who makes decisions is walled off from the folks concerned about his or her employer’s bottom line.  But if the decision maker is sufficiently walled off so as not to care about the employer’s profitability, why is there a conflict at all?  If we say, well, there is still some potential for conflict because you cannot really wall off any employee from concerns about the employer’s bottom line, how can we say with any real confidence that the conflict is really only a small one, as the majority seems to want us to say?

What about the dissents.  We can ignore Kennedy’s dissent, which says I agree with the majority decision but think we should give MetLife a chance to show that its conflict was insignificant. 

Justice Robert’s decision is the opposite:  I agree with the majority that MetLife was really, really wrong when it rejected Glenn’s claim, but I disagree with virtually everything else that the majority opinion says, especially that a district court, in exercising review over a claims denial, must take into account every conflict, no matter how infinitesimal.  Justice Roberts would have preferred a standard that said, in effect, a conflict only matters if it affected the claims process; conflicts don’t matter, in this formulation, unless the plaintiff can demonstrate that the claims administrator in fact yielded to the conflict.  My guess is that under the Roberts’ formulation, plaintiffs would hardly ever be able to persuade a court to consider a conflict, unless of course there is a whole lot of discovery and quite possibly an involved trial, because credibility of witnesses would sometimes if not often be central to the determination of whether a conflict infected the decision-making. 

The difference between Roberts and the majority, then, appears to be on who will bear the burden of proving the importance, or non-importance, of the conflict.  Under the majority, the plan must prove that the conflict probably did not affect the decision, while under Roberts, the participant would have to prove that the conflict probably did affect the decision. 

The separate dissent of Justice Scalia and Thomas found even Justice Roberts’ dissent unconscionably unfair to the employer.  A conflict, in their view, should be irrelevant: all that should matter is whether the decision is reasonable.  There are other plausible ways of thinking about the Scalia/Thomas dissent, but exploring them would be a waste of whatever bandwidth would be required. 

[Note to all: what follows are purely personal opinions, in no way attributable to employer or clients.]

The US Supreme Court's decision in Metropolitan Life Ins. Co. v. Glenn (6/19/2008) is commanding a lot of attention from ERISA practitioners.  I suspect that is because the decision is expected to shift the odds in contests over disability claims, which provide a lot of grist for ERISA litigation and now are likely to yield richer settlements. For those of us who focus on retirement plan design and benefit policy, Kentucky Retirement Systems v. EEOC, also handed down on 6/19/2008, is the more interesting decision. The headline: it is legal for employers to discriminate against employees based on their eligibility for a pension.   

In Hazen Paper Co. v. Biggins (1993), the Court held that an employer did not violate the Age Discrimination in Employment Act (ADEA) by terminating an employee shortly before he would have had 10 years of service and therefore vested in his pension.  There the Court held that pension status was not presumptively a “proxy for age”.  Since vesting was not explicitly age-related, a termination based on Mr. Biggins’s pension status was not actionable unless he could show that his age – not his closeness to vesting – was the “actual motivating factor.”

To summarize and oversimplify, in Kentucky Retirement Systems the Court held that it was legal to provide lower benefits to police and firefighters who retire on disability at or near retirement age than to those who would have had to wait longer to qualify for regular retirement.  Relying on Hazen Paper but moving well past it, the Court held that pension status is not a proxy for age here even though, in the Kentucky case, age is an explicit element of pension eligibility. 

At issue was a rule that gave credit to public safety officers retiring on disability pensions for the number of extra years of service they would need to qualify for full retirement. As a result, a younger disabled police officer or firefighter could get more pension credit than an older one who was closer to retirement age and therefore didn't need as much of an eligibility boost.  Since the motivation was to give all police and firefighters decent pensions even if they became disabled early in their careers, rather than to treat older public safety officers worse than younger ones, Justice Breyer and his colleagues in the 5-man majority concluded that this pension-based discrimination was as benign as the one alleged in Hazen Paper.

Doesn’t this turn employment discrimination doctrine on its head?  What happened to the principle that an employer has a mighty burden to prove that its differential treatment of employees was justified, when it draws a line between categories of employees that appears to be based expressly on age?  Compare, for example, Meacham v. Knolls Atomic Power Laboratory, which the Court also handed down on June 19, 2008 and which confirms that employers have that burden even in disparate-impact cases under ADEA.

Cutting through the discussion and legal analysis in the Kentucky case – as perhaps only a non-litigator might dare to do – the answer seems to be that the Supreme Court is uncomfortable with imposing unanticipated costs on pension plans, even if that means living with a little questionable discrimination.  The Court describes six circumstances that demonstrate the conclusion that the pension design was not “actually motivated” by an intent to discriminate against older employees, but five of them basically boil down to the fact that, hey, it’s a pension plan. 

I suspect another powerful concern was the one the Court gives for granting certiorari: “the potentially serious impact of the Circuit’s decision upon pension benefits provided under plans in effect in many states” along with the point made in Kentucky’s brief and highlighted in the opinion: the “large increase in pension liabilities, potential reduction in benefits for all disabled persons, or both…” The Court was more direct in voicing this concern in Manhart and Norris, where it found that Title VII of the Civil Rights Act outlaws gender-based discrimination but made its ruling prospective only, leaving Ms. Manhart and Ms. Norris without relief.  In tone it also calls to mind the raft of lower court decisions rejecting ADEA-based challenges to cash balance conversions, not to mention the Third Circuit’s ultimate Erie County decision.

What does Kentucky Retirement System mean for pension design?  Well, it says that employers can take pension eligibility into account in drawing lines.  For example, it may give comfort to employers considering phased-retirement type programs under which they would offer a little less in the way of current benefits to employees who are continuing to work while drawing part or all of their pension, or offering active employees a choice between receiving a current pension and continuing to accrue additional benefits.  Certainly whatever extra leeway this gives employers will have to be exercised reasonably and without discriminatory intent, including the intent to propel older workers into retirement.

It is refreshing to see Washington institutions opening opportunities for creative benefit plan design, for a change.

I have come to realize that "As time marches on" -- so do the errors in our client's retirement plans. So, with "spring cleaning" in the air, I decided to clean out the garage of plan errors and list, in no particular order, some of the errors that have occurred over the past year. The type of error might not be new -- but the resulting consequences clearly explain the often used phrase -- "No Good Deed Goes Unpunished."

I encourage you to do your own self-cleaning and feel free to add to my list. Here are 5 of my favorites for the year. As I continue to clean I will post more and I encourage you to do the same:

1.  A. Error: Distributions of large single-sum amounts to retirees that were never eligible to participate (and therefore never accrued a benefit) under the defined benefit plan.

B. Correction: Rather than try to amend the plan retroactively to include the affected group (that was valued at 25 million), we opted to take the IRS approved approach – ask for the money back. Well, 20 claims later and potential lawsuits pending we find ourselves looking at the TPA who, on its own accord, made the distributions in error.

2.  A. Error: Failure to make payments on individual plan loans.

B. Correction: Following the IRS guidance, repayment was requested in the manner outlined in EPCRS. I am always amazed to find that no matter how long the "loan payment holiday" was – in this case – up to 3 years, affected participants are still surprised that they owe the money on the original loan. In the future the client is giving serious consideration to putting on the loan document "THIS IS NOT A GIFT."

3.  A. Error: Improper vesting applied – some people were credited with too much vesting service – others had too little credited.

B. Correction: Adjust years of service according to the actual years of employment with 1000 hours or more. Sounds easy – try it some time – I dare you. With new payroll software and the ability to do manual overrides; adjusted service dates; adjusted DOH; adjusted DOT; customized coding; etc. – it's next to impossible to replicate employee's exact tenure at a large company. In my practice – the more sophisticated the payroll process, the harder it is to recreate the past.

We have opted to use assumptions (our way of applying rough justice) and have the issue pending with the IRS for approval in the VCP.

4.  A. Error: Improper deferral based on wrong definition of compensation was used.

B. Correction: Adjust prior deferrals based on the correct use of compensation. Again – not rocket science. In fact, this error is noted by IRS as the most recurring in their VCP program. The issue that I have found to be the most difficult is when a large client has so many pay codes and the language in the plan document (defining pensionable earnings) is so vague – that nobody really knows what type of compensation is eligible and what is not. Frankly, this begs the question – how does the employer know that the wrong definition of compensation was used in the first place? When I presented that to the employer – the response I got was – "You know it when you see it!" It's time – once again – for the litigators.

5.  A. Error: Improper application of the benefits formula under a defined benefit plan. Resulted in participants receiving excess benefits.

B. Correction: We decided to cure the error in 2 stages. First we asked for the excess to be returned. If it is returned we decided to gross-up the employee outside of the plan from corporate assets. If it is not returned we contributed the excess amount into the plan's trust. Second, we discovered that the error occurred based on the actuarial firm's independent interpretation of the benefit formula. It was shocking to the client that the actuary, on his own, decided to interpret the formula in such a manner that was inconsistent with the plain meaning of the written plan document. Needless to say, the actuarial firm paid for the correction, including the filing fee and attorneys' fees. It's good to have a signed, updated vendor agreement.