Since we last reported on the status of the 401(k) excessive fee class actions in the June 25, 2009 ERISA Litigation Update, there have been two significant settlements – one in a participant-filed suit and one in a suit filed by a plan fiduciary on behalf of the fiduciaries of all plans serviced by the same provider.
In Martin, et al. v. Caterpillar Inc., et al., Case No. 07-1009 (C.D. Ill.), the parties filed on November 20, 2009 a motion for preliminary approval of a settlement of claims regarding the administration of four 401(k) plans sponsored by Caterpillar. The plaintiffs in their complaint alleged that the plans’ fiduciaries breached duties owed under ERISA by allowing the plans to pay excessive investment management and other fees, by maintaining excessive cash in the plans’ company stock investment fund and by offering a preferred group of plan investment options that were advised by a wholly owned Caterpillar subsidiary.
Under the terms of the settlement, which are subject to court approval as well as approval by an independent fiduciary, Caterpillar will pay $16.5 million, the net proceeds of which (after the payment of attorneys’ fees and costs and any administrative expenses) will be allocated to participant accounts and former participants based upon the number of years a participant maintained an account balance in one of the subject plans. In addition to this monetary payment, the Caterpillar defendants agreed that for a two-year period following the settlement, the company will increase and enhance communication with employees about the plans’ investment options and associated fees, including by separately disclosing investment management and administrative fees. Evercore Trust Company will also serve as an independent monitor for the plans. The defendants also agreed to limit the cash holdings in the company stock fund and to engage in requests for proposal when service contracts come up for renewal. Caterpillar agreed that it will not include retail mutual funds as core investment options in the plans for the duration of the settlement period. While the agreement allows for mutual fund investments through a brokerage window, this particular concession by the Caterpillar defendants is of note given that the plaintiffs’ bar has increasingly focused its attack in this wave of fees-related cases on the use of retail mutual funds in large 401(k) plans. A preliminary approval hearing for the Caterpillar settlement has been set for April 21, 2010, with the final approval hearing expected to take place on August 12, 2010.
In February 2010, a settlement was also announced in Phones Plus, Inc. v. Hartford Life Insurance Co. et al., Case No. 06-1835 (D. Conn.). The Phones Plus case is one of a handful of suits filed not by a plan participant but rather by a plan fiduciary purporting to represent a class of fiduciaries of all plans serviced by the same provider – here, Hartford Life Insurance Company (“The Hartford”). The Phones Plus complaint, filed on November 14, 2006, alleged that The Hartford breached ERISA fiduciary duties owed to plans for which it acted as recordkeeper by entering into revenue sharing agreements with mutual fund companies that offered investment options on The Hartford’s platform. Under these agreements, The Hartford was compensated for its recordkeeping services through revenue sharing payments in addition to the service fees negotiated in its contracts with client plans. The plaintiff characterized these revenue sharing arrangements as undisclosed “kickbacks” bearing no relationship to any services performed by The Hartford. The plaintiff further alleged that The Hartford’s ability to delete or substitute mutual funds on its platform rendered it a fiduciary within the meaning of ERISA. At the time the settlement was reached, motions for summary judgment and class certification were pending.
As part of the settlement, The Hartford agreed to pay $13.8 million to retirement plans that used it as a service provider between November 2003 and February 26, 2010. The Hartford also agreed to make certain changes to its business practices, including removal from its contracting documents limitations on a plan’s selection of investment options and restriction of its own ability to remove or substitute an investment option chosen by a plan. To effectuate this latter restriction, The Hartford has undertaken to seek approval from the relevant departments of insurance to revise its contracts to make clear that The Hartford will not delete or substitute from its menu a fund that has been chosen by a plan, except where the fund is no longer available. This settlement term relates to a central dispute in the case as to whether The Hartford’s right under its contracts to revise its product platform by changing the available investment options constituted discretionary authority over plan investments sufficient to give rise to ERISA fiduciary status. The contractual reservation of rights at issue is not uncommon in the industry, and has been the subject of litigation against other providers as well.
With respect to the plaintiff’s allegations regarding revenue sharing practices, The Hartford also agreed under the settlement to add language to its disclosures to make clear that the funds offered on its platform pay revenue sharing to The Hartford or to its affiliates, and to disclose the revenue sharing amounts paid by each fund. Both the Caterpillar and Phones Plus settlements impose disclosure requirements beyond those currently required by statute or regulation.
One of the more interesting “stock drop” decisions in the last year, now on appeal to the Second Circuit, is In re Citigroup ERISA Litig., No. 07 Civ. 9790, 2009 WL 2762708 (S.D.N.Y. Aug. 31, 2009), dismissing claims based on a financial services company’s exposure to subprime mortgages and other alleged credit risks. Filed in the Southern District of New York by participants in the company’s 401(k) plans, the Citigroup suit alleged that plan fiduciaries breached their fiduciary duties by offering the sponsor’s own stock as a plan investment option where defendants knew or should have known that it was an imprudent investment. Indeed, in the wake of the housing market collapse and ensuing credit crisis, the company stock fund allegedly lost over 50% of its value.
The plaintiffs’ claims turned on whether the defendants were acting as fiduciaries with respect to the challenged conduct – i.e., whether they had discretionary authority over the selection of the company stock fund as an investment option under the plans. The district court dismissed the complaint, finding that the defendants had no discretion whatsoever to eliminate the company stock fund as a plan option, and therefore could not have been acting as fiduciaries. Id. at *8. In reaching this conclusion, the court relied upon the fact that the language of the plan documents at issue “unequivocally required that company stock be offered as an investment option” – i.e., that it was hard-wired into the plan – and thus afforded plan administrators no discretion to remove the fund.
Noting that an ERISA fiduciary must act in accordance with the documents and instruments governing the plan, provided that they are consistent with ERISA, the court also rejected the plaintiffs’ argument that the defendants had a fiduciary obligation to override the plan’s mandate that the stock be offered as an investment option. The court recognized that a plan provision requiring that employer stock be offered as an investment option is fully in line with Congress’s goal of encouraging stock ownership, and any contention that ERISA required defendants to override explicit plan documents was at odds with this statutory preference. Further, the court acknowledged that the plaintiffs’ interpretation of ERISA would put plan fiduciaries “in a confusing, untenable position” by subjecting them to liability for violating plan terms by divesting plans of company stock, particularly because company stock could subsequently increase in value after divestiture. The court ruled that ERISA’s fiduciary prudence provisions do not require this Hobson’s choice.
The Citigroup decision is significant because it indicates that where a plan document is hard-wired to require investment in company stock, the administrator is divested of any fiduciary responsibility with respect to the continued offering of that option investment, even in the face of investment losses. Other courts have also recognized the congressional preference for holding employer stock in ERISA plans.
Citigroup is currently on appeal to the Second Circuit, Case No. 09-3804-cv, and on December 28, 2009 the Department of Labor (“DOL”) filed an amicus brief in support of appellant requesting reversal. In its brief, the DOL argues that the district court decision essentially grants “judicial immunity” to fiduciaries for alleged breaches of duty, and that, if upheld, the decision would effectively bar most suits against fiduciaries with regard to plan investments in company stock. It is the DOL’s view that “statutory duties override plan terms inconsistent with [ERISA’s fiduciary provisions].” The AARP and the National Employment Lawyers Association have also filed amicus briefs supporting reversal, and briefing in the matter is expected to be completed in April 2010.
Section 401(k) plans and other plans providing for participant direction of investments typically are designed and operated with the intent of qualifying for the protections under Section 404(c) of ERISA. Yet the scope of that protection continues to be uncertain. A relatively narrow view of Section 404(c) relief has been adopted by the DOL and endorsed by some courts. However, a growing number of cases have rejected the DOL position in favor of a more expansive view.
Section 404(c) provides that, if a participant exercises control over the investment of his plan account (as determined under DOL regulations), “no … [plan] fiduciary shall be liable … for any loss, or by reason of any breach, which results from the participant’s exercise of control.” The DOL regulation under Section 404(c) provides that, where the regulation’s detailed conditions relating to participant control are satisfied, plan fiduciaries are relieved of liability for any loss or breach “that is the direct and necessary result of the participant’s … exercise of control.” 29 C.F.R. § 2550.404c-1(d). In the preamble issued with the Section 404(c) regulation, the DOL expressed the view that “the act of limiting or designating investment options which are intended to constitute all or part of the investment universe of a Section 404(c) plan is a fiduciary function which … is not a direct or necessary result of any participant direction of such plan.” 57 Fed.Reg. 46906, 46927 n.27 (Oct. 13, 1992). Thus, the DOL takes the position that – even where the conditions of the regulation are satisfied – Section 404(c) does not protect a plan fiduciary from liability where a participant invests in an investment option that was designated by the fiduciary in violation of his duty of prudence or loyalty. The DOL has argued that this position is entitled to “controlling deference” by the courts. See Brief of Amicus Curiae Hilda L. Solis, Secretary of the U.S. Department of Labor, Kanawi v. Bechtel Corp. et al., No. 09-16253 (9th Cir.)
Some courts have agreed with the DOL’s view regarding the scope of protection from liability under Section 404(c). For example, in In re Tyco Int’l Ltd. Multidistrict Litig., 606 F. Supp. 2d 166 (D.N.H. 2009), participants sued plan fiduciaries asserting that the fiduciaries had acted imprudently in making employer stock available as an investment option under a participant-directed investment plan. When the defendants raised Section 404(c) as a defense, the plaintiffs moved for summary judgment, arguing that Section 404(c) does not protect the fiduciaries’ designation of investment alternatives. In granting the motion, the court indicated that, in its view, both the statute and the regulation are unclear, but the DOL had “reasonably determined in the preamble to its regulation 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.” Id. at 169. While the court declined to decide whether the DOL position was entitled to “controlling weight,” it did give some deference to the DOL determination because it believed it had the “power to persuade.” Other courts have followed a similar analysis. See Kanawi v. Bechtel Corp., 590 F. Supp. 2d 1213, 1231-32 (N.D. Cal. 2008); In re Dynegy, Inc. ERISA Litig., 309 F. Supp. 2d 861, 894 n.57 (S.D. Tex. 2004); In re Worldcom, Inc. ERISA Litig., 263 F. Supp. 2d 745, 764 n.12 (S.D.N.Y. 2003); DeFelice v. U.S. Airways, Inc., 497 F.3d 410, 418 n.3 (4th Cir. 2007)(dictum).
A number of cases, however, have disagreed with the DOL’s interpretation. The leading decision on this side of the argument is the Seventh Circuit’s ruling in Hecker v. Deere & Co., 569 F.3d 708 (7th Cir. 2009), which was described in Goodwin Procter’s June 25, 2009 ERISA Litigation Update. Earlier this year, the Supreme Court decided not to review the Seventh Circuit’s decision. See Hecker, 2010 WL 154965 (U.S. Jan. 19, 2010). Significantly, the Hecker court specifically rejected the DOL’s argument that its position on the scope of Section 404(c) protection – set forth in a preamble to a regulation – is entitled to controlling weight. The Fifth Circuit has reached a similar conclusion, finding that the DOL’s interpretation was unreasonable and in conflict with the language of the statute. Langbecker v. Electronic Data Systems Corp., 476 F.3d 299, 310-11 (5th Cir. 2007). See also Abbott v. Lockheed Martin Corp., No. 06-cv-0701, 2009 WL 839099 *12 (S.D. Ill. Mar. 31, 2009) (appeal pending, Case No. 09-8019, 8022 (7th Cir.).
The DOL continues to focus significant attention on this issue. On December 28, 2009, it filed an amicus brief with the Ninth Circuit in the case of Kanawi v. Bechtel Corporation, arguing that its interpretation of the scope of Section 404(c) protection should be upheld. In Kanawi, participants have sued plan fiduciaries, asserting that those fiduciaries breached the duties of prudence and loyalty, and engaged in prohibited transactions, when they designated as investment alternatives under the plan certain mutual funds that allegedly were related to the plan sponsor (and affiliates) and charged excessive fees. The DOL’s brief argues that the Ninth Circuit should affirm the district court’s holding that Section 404(c) does not provide relief for these alleged violations. According to the DOL’s brief, “[i]f the plaintiffs’ allegations are true, the losses to the plan from the payment of unnecessary and excessive fees are not the ‘direct and necessary result’ of the participants’ exercise of control within the meaning of the [DOL] regulation … but rather the result of the fiduciaries’ imprudence in selecting and retaining the … mutual funds when it was imprudent, or disloyal, to do so.”
It has been 18 months since the U.S. Supreme Court in MetLife Ins. Co. v. Glenn, 128 S.Ct. 2343 (2008) addressed lingering questions about the appropriate standard of review in an ERISA denial of benefits case where the plan administrator is the party that both determines benefits eligibility and pays claims. Twenty years earlier, the court in Firestone Tire & Rubber Co. v. Bruch, 489 U.S. 101 (1989), had held that where a plan administrator has discretionary authority in making benefits decisions, its determinations are entitled to deferential review under an abuse of discretion standard. The Bruch court had noted, however, that if the plan administrator’s objectivity were called into question – such as where the administrator is both adjudicator and payor of a claim – such conflict must be weighed as a “facto[r] in determining whether there is an abuse of discretion.” Id. at 115.
The Glenn decision was much-anticipated as potentially resolving questions arising from Bruch’s passing reference to conflicts – namely, what constitutes a conflict and how should any conflict be factored into a court’s review of an administrator’s denial of benefits? In its ruling, the Glenn court confirmed that a possible conflict of interest should be taken into account in determining the appropriateness of a claim denial, and instructed reviewing courts to consider the existence of a conflict when determining if there had been an abuse of discretion. Id. at 2346. The court further instructed that the conflict could act as a tiebreaker when other factors are closely balanced, warranting greater weight where there is evidence the conflict affected the benefits decision, and lesser weight where an administrator took steps to promote accuracy and reduce potential bias in its decision-making process. Id. at 2351.
Application of Glenn
The Glenn decision did not delineate precisely how reviewing courts should weigh a conflict of interest in a benefits decision, offering instead a “factor” approach to be used in determining whether there was an abuse of discretion. Accordingly, appellate courts have wrestled with its application, and decisions have been varied, raising the concern that lack of clear guidance on the issues detracts from ERISA’s goal of uniform standards and predictable results. See, e.g., Marrs v. Motorola, Inc., 577 F.3d 783, 788-89 (7th Cir. 2009) (acknowledging that there are two ways to read Glenn and that the Seventh Circuit itself has applied Glenn with differing standards). A number of recent decisions applying Glenn demonstrate the challenges that its application presents to reviewing courts.
In Denmark v. Liberty Life Assur. Co. of Boston, 566 F.3d 1 (1st Cir. 2009), the First Circuit interpreted Glenn as counseling courts to give the presence of a conflict some weight, but not to treat it as a dispositive factor in the absence of evidence of arbitrariness or bias. However, according to the First Circuit, “courts are duty-bound to inquire into what steps a plan administrator has taken to insulate the decisionmaking process against the potentially pernicious effects of structural conflicts.” Id. at 8-9. The Ninth Circuit followed a similar approach in Montour v. Hartford Life & Accident Ins. Co., No. 08-55803, 2009 WL 2914516 (9th Cir. Sept. 14, 2009), stating that “[t]he manner in which a reviewing court applies the abuse of discretion standard…depends on whether the administrator has a conflicting interest” and “the degree to which the conflict appears improperly to have influenced a plan administrator’s decision.” Id. at *4. See also Marrs, 577 F.3d at 788-89 (holding that “[t]he likelihood that the conflict of interest influenced the decision,” as inferred from the gravity of the conflict and surrounding circumstances, “is therefore the decisive consideration” in determining the reasonableness of the administrator’s determination). The Fifth and Tenth Circuits have incorporated their prior “sliding scale” approach into the Glenn factor approach, reducing the amount of deference given to a conflicted administrator’s decision based on the degree of the conflict as demonstrated by the plaintiff. See Crowell v. Shell Oil Co., 541 F.3d 295, 311 n.66 (5th Cir. 2008); Weber v. GE Group Life Assur. Co., 541 F.3d 1002, 1010 (10th Cir. 2008).
In contrast, the Fourth Circuit follows Glenn more strictly, treating the conflict as only a factor under the abuse of discretion standard, and upholding a conflicted administrator’s decision if it was reasonable. See Champion v. Black & Decker, Inc., 550 F.3d 353, 359 (4th Cir. 2008). This approach, followed by other courts as well, allows for the possibility that, even where a conflict played a significant role in denying a claim, the decision will be upheld. See also Jenkins v. Price Waterhouse Long Term Disability Plan, 564 F.3d 856, 861-62 (7th Cir. 2009) (conflict of interest does not alter the standard of review, and decision will only be reversed if “downright unreasonable”); Schad v. Stamford Health Sys., Inc., No. 08-5962, 2009 WL 4981271, at *2 (2d Cir. Dec. 21, 2009) (considering conflict of interest as only one factor and upholding denial of benefits on substantive grounds).
From these decisions it is clear that, while Glenn confirmed that the abuse of discretion standard of review applies even where there is a conflict of interest, how that standard is applied remains very much a live issue.
In another pending case, Conkright v. Frommert, the Supreme Court has occasion to revisit the issue of what deference should be accorded an administrator’s benefits decision. Conkright, which involves benefits plans sponsored by Xerox Corp., poses the question of whether a reviewing court has an obligation to defer to a plan administrator’s reasonable interpretation of the terms of the plan where such determination was made outside the context of an administrative claim for benefits. The Second Circuit took the view that the administrator’s interpretation of plan documents outside of the benefits context was merely an opinion and did not constitute a decision entitled to deference by the reviewing court. Oral argument before the Supreme Court was heard on January 20, 2010.
Discovery under Glenn
Appeals courts are also wrestling with the possibility that Glenn permits additional discovery into the presence of a conflict of interest. Although a court’s review of a benefit decision is typically limited to the administrative record, and Glenn counseled against creating “special procedural or evidentiary rules” regarding the presence of a conflict, Glenn, 128 S. Ct. at 2351, some courts are expanding the scope of discovery to address the challenges posed by perceived conflicts. For example, in Denmark, the First Circuit observed that the majority opinion in Glenn “fairly can be read as contemplating some discovery on the issue of whether a structural conflict has morphed into an actual conflict.” 566 F.3d at 10. Accordingly, the court stated that administrators should expect that any procedures used to prevent or mitigate the effect of structural conflicts will be part of the record on review, and narrow and targeted discovery may be necessary to fill in gaps in the record to clarify whether the administrator followed its procedural safeguards. Id. See also Wilcox v. Wells Fargo & Co. Long Term Disability Plan, 287 Fed. Appx. 602, 603-04 (9th Cir. 2008) (“Glenn materially altered the standard of review applicable to the review of a plan administrator’s denial of benefits under ERISA, permitting consideration of evidence outside of the administrative record . . . .”).
Other circuits have found that the Glenn decision left discovery in benefit denial cases essentially unchanged. For example, the Sixth Circuit in Johnson v. Connecticut Gen. Life Ins. Co., 324 Fed. Appx. 459 (6th Cir. 2009) stated that, unless there are “procedural challenges” to the administrator’s decision, discovery on matters outside the record is rarely permitted. Id. at 466-67. Even under this approach, courts wrestle with whether the plaintiff must make some threshold showing of actual bias in order to warrant discovery. Id.
In sum, 18 months after Glenn, there still remains great uncertainty as to how alleged conflicts of interest will factor into the review of benefits denials, and what discovery regarding internal procedures and guidelines a claimant will be entitled to upon filing suit. Administrators acting with discretionary decision-making authority can expect that, in defending a benefit decision, discovery might extend beyond the administrative record and into their policies and records of actual claim denials as the claimant attempts to uncover evidence of a structural conflict. This means that, at the discretion of the court, a plaintiff might seek discovery into an administrator’s history of claims administration, denial rates, structural and procedural safeguards against bias and conflicts of interest, contracts with file reviewers, relationships with reviewing physicians and perhaps discovery on an administrators’ internal financial documents. Accordingly, administrators responsible for both determining benefits eligibility and paying claims should be prepared to demonstrate, depending on the jurisdiction in which they are sued, the policies and practices employed to mitigate the potential bias of their dual role.
Date: April 21, 2010
Alison Douglass will present at this webinar addressing the evolving legislative and regulatory landscape governing target date funds and fiduciary considerations for the selection and monitoring of these funds for retirement plans. Invitation to follow.