Alert January 20, 2011

Federal Court Dismisses ERISA Breach of Fiduciary Claims over 401(k) Plan Holdings in Stock of Bank Receiving TARP Funds

On November 24, 2010, the U.S. District Court for the Southern District of Ohio dismissed ERISA breach of fiduciary duty claims arising from the continued holding of a bank’s stock in a 401(k) plan sponsored by the bank for its employees. Dudenhoeffer v. Fifth Third Bancorp, et al, No. 1:08-cv-538 (S.D.OH) (Nov. 24, 2010). The case was notable in the court’s rejection as a matter of law of the plaintiffs’ allegations that a bank’s stock was an imprudent investment for ERISA plan participants because the bank allegedly “switched from being a conservative lender to a subprime lender” and that the bank participated in the TARP Capital Purchase Program.

The plaintiffs were participants in the bank’s 401(k) plan. They brought a putative class action on behalf of themselves and all other current and former participants and beneficiaries of the plan from July 19, 2007 through the present whose plan accounts were invested in the bank’s stock. They sued the bank, its directors, certain officers and members of the 401(k) plan committee. The plaintiffs alleged four counts under ERISA involving the plan’s holding in bank stock: that it was a breach of ERISA’s duty of loyalty and prudence to maintain the stock, and defendants breached ERISA fiduciary duties in not providing greater information about the stock; that certain defendants failed in their ERISA fiduciary duties to monitor their appointees with responsibility for plan investments; that certain defendants failed to ameliorate their alleged conflict of interest in continued holding and purchasing of bank stock for the plan; and that defendants had obligations to correct breaches by co-fiduciaries.

The complaint alleged that the purported shift in lending philosophy from a bank first characterized as a “conservative lender” to a “subprime lender” caused the bank’s stock to fall 74% during a 26-month period from July 2007 to September 2009. The court applied a legal presumption in favor of the prudence of holding employer stock, a presumption that is applied in some, but not all circuits. (For a discussion of the presumption of prudence, see James O. Fleckner, “The Case for a Presumption of Prudence,” 37 Pension & Benefits Reporter 2204, Oct. 5, 2010.)  The court held that a 74% decline alone was insufficient to rebut the presumption of prudence. Most importantly, the court held that a business decision to enter subprime lending, the write-down of non-performing assets, and participation in the TARP program, are together insufficient to defeat the presumption of prudence. It specifically rejected the plaintiffs’ proposition that the bank’s “participation in the Capital Purchase Program (‘CPP’) [was] a stigma and a sign of financial stress.”

An appeal of this decision was docketed in the U.S. Court of Appeals for the Sixth Circuit on January 5, 2011, No. 11-3012.

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The above article originally appeared in Goodwin Procter’s December 7, 2010 Financial Services Alert.