On February 20, 2008, the U.S. Supreme Court held that a single participant in a 401(k) plan could sue the plan’s fiduciaries under the Employee Retirement Income Security Act to recover a financial loss that the participant claimed his plan account sustained because the plan’s fiduciaries ignored his investment directions. Before the decision in LaRue v. DeWolff, Boberg & Assocs., Inc., courts routinely had ruled that individual participants could not sue their plan fiduciaries under ERISA to recover losses they claim to have incurred. Such suits had to be brought on behalf of the plan, much like a shareholders’ derivative suit.
In LaRue, though, the Supreme Court explicitly recognized that defined-contribution plans—essentially, any employee benefit plan that defines and limits the rights of an individual covered by the plan to what is credited to his or her account—are fundamentally different from more traditional employee benefit plans, such as the classic defined-benefit pension plan, or even a group health plan, which has "defined" a covered individual’s plan interest in terms of the benefits the individual may get. Employee stock ownership plans, 401(k) plans, profit-sharing plans and health reimbursement accounts all are examples of defined-contribution plans.
A careful examination of the majority opinion in LaRue reveals why the Supreme Court felt it was necessary to reconsider whether an individual participant in a defined-contribution plan could bring an individual lawsuit under ERISA for more than just his or her account balance. One of the most fundamental characteristics of a defined-contribution plan is that the individual account holder bears all of the financial and investment risks: If the account is properly maintained and investments do well, the covered individual benefits. If the account is mishandled or incurs investment losses, the covered individual alone suffers. Thus, for a participant in a defined-contribution plan, his or her account is the plan.
More than a collection of ‘mini plans’
Experienced defined-contribution plan administrators and fiduciaries know that a defined-contribution plan is far more than an aggregation of "mini plans," where each account is considered its own separate plan. One key reason is that many of the financial arrangements made for a defined-contribution plan—and often, many of the rights that a defined-contribution plan holds—are made (or held) for the defined-contribution plan as a whole. Another key reason is because it frequently "takes a village" to deliver the promises made under a defined-contribution plan.
Plan-wide interests: Most defined-contribution plans have plan-wide forfeiture accounts and escheat accounts. Certain types of plans (notably including ESOPs) have suspense accounts. And many defined-contribution plans hold blocks of marketable securities, such as mutual fund shares and employer securities, and act as a "market maker" by matching up sales by participants disposing of such securities (for distributions, for example) with those slated to acquire that same type of securities (as a result of an investment election or as part of a matching contribution, for example). Those fiduciaries only buy or sell in the open market on a "net" basis, to minimize brokers’ fees and other plan expenses.
There even are defined-contribution plans that maintain a plan-wide "account" to capture part of the income and other gains from investment activity (including income from sweeping idle cash), so plan-wide expenses can be paid without having to cross-charge individual accounts. It is one reason why defined-contribution plans rely heavily on the statutory registration exemptions found in the federal securities laws for "qualified" pension and profit-sharing plans. Otherwise, interests in many types of defined-contribution plans—especially 401(k) plans—would have to be registered as securities.
These realities are well understood in many circles, including the U.S. Department of Labor, which has promulgated many advisory opinions and class exemptions over the years that recognize the collective nature of plans, including defined-contribution plans. However, the courts do not appear to be well educated on this subject. Indeed, in 2007, while the Supreme Court was considering LaRue, two separate federal appeals courts expressed concern over how defined-contribution plan fiduciaries might respond to a participant who had experienced a loss in his account. The presence of such concern (and possible confusion) at least suggests that the courts will need to become educated on exactly how defined-contribution plans function, so any claim of loss by an individual defined-contribution plan participant is not miscomprehended.
The "village" of fiduciaries and parties in interest: The arrangements put in place to actually deliver promised benefits frequently are complex, so when there is a real or potential loss in a defined-contribution plan, it can take a while to sort out how individual participants and beneficiaries are affected, and who may be to blame. Not all cases involving an alleged loss are as simple as LaRue. (In LaRue, the participant alleged that his loss arose immediately, because the fiduciaries ignored his instruction to sell certain securities credited to his account and buy others with the proceeds.)
In many cases, an improvident investment decision only manifests itself as a loss years after the original decision was made—perhaps after the investment has been credited to many different participants’ plan accounts and has been handled (and left unattended) by a series of different plan fiduciaries. Experienced defined-contribution plan administrators and fiduciaries understand that such "latent" losses can and do occur, and are not necessarily the sole responsibility of the unfortunate plan fiduciary in charge when the loss finally becomes manifest.
Even in those circumstances involving an improvident decision that quickly leads to a loss, experienced plan administrators and fiduciaries understand that most defined-contribution plans rely on multiple parties to fund, account for and deliver benefits using an often complicated structure. They know that only some of these parties function as fiduciaries, such as trustees, investment managers and insurance companies maintaining separate accounts. Others serve as so-called parties-in-interest, such as broker/dealers, plan record keepers, insurance companies acting strictly as insurers and outside advisors paid from the plan.
Because of these complexities, a plan’s fiduciaries are uniquely positioned and suited to handle the process of determining if and when a loss has occurred—and sometimes, the process needed to discern whether a loss has occurred. They can best determine who was adversely affected, or who benefited, and who, if anyone, is to blame. That is particularly the case when a defined-contribution plan is involved.
What fiduciaries should do for now
The ERISA statute in question, ERISA Section 502(a) (2), explicitly states that an individual participant can bring suit "on behalf of" the plan, so the Supreme Court in LaRue may well have pried open this Pandora’s box because it felt it had no real choice. That helps to explain why the Supreme Court limited its holding to just deciding the threshold question—whether an individual participant can bring such a lawsuit—and avoided deciding other questions, such as how a participant might most effectively do so, or what a participant would be required to show in order to prove his or her case.
Nevertheless, Pandora’s box is now open and administrators and fiduciaries must now deal with the consequences, including the fact that the lower courts will now be forced to resolve the issues the Supreme Court left unaddressed or unresolved.
So what is a smart, risk-averse defined-contribution plan fiduciary to do? One sure answer is to not be complacent, judging from a fair reading of ERISA Section 409(a). That is where the courts will look to determine whether a given fiduciary is potentially liable when a LaRue-type ERISA lawsuit is brought in an effort to hold one or more plan fiduciaries liable for a purported loss. The threshold liability standard found in Section 409(a) (shown in bold) is straightforward:
Any person who is a [plan] fiduciary ... who breaches any of the responsibilities, obligations, or duties imposed upon fiduciaries by [ERISA Title I] shall be personally liable to make good to such plan any losses to the plan resulting from each such breach, and to restore to such plan any profits of such fiduciary which have been made through use of assets of the plan by the fiduciary, and shall be subject to such other equitable or remedial relief as the court may deem appropriate.
As Section 409 makes plain, personal liability will arise if a plaintiff bringing a LaRue-type claim can establish that the defendant is a fiduciary to that plan, that the defendant has breached any of the fiduciary duties ERISA imposes, and that a plan loss resulted from that breach. Perhaps the best advice for a plan fiduciary to follow in a post-LaRue world is old advice:
Be prudent and diligent and exercise due care and skill while acting for the exclusive benefit of the defined-contribution plan’s participants and beneficiaries as a whole. And perhaps more important ...
Document your actions, so that what has been done in regards to the first point can easily be demonstrated to a court in some future year, when a participant or beneficiary who has incurred a demonstrated loss has blamed anyone and everyone for it, and the court is looking to apply the liability standard imposed by ERISA Section 409(a).
For those defined-contribution plan fiduciaries fortunate enough to have a simple plan structure and simple investments, following this advice should be easy. For those defined-contribution plan fiduciaries responsible for handling complicated defined-contribution plan structures or overseeing complicated investments, the task is much more daunting.
It is imperative that defined-contribution plan fiduciaries who find themselves in the latter camp have a clear understanding of the duties imposed upon them by ERISA Title I, because under ERISA, one’s ERISA fiduciary obligations often depend on whether one has overall responsibility for the plan in question (such as "named" fiduciaries and plan trustees).
For example, it is possible for ERISA fiduciaries with overall responsibility for a complicated defined-contribution plan to be held responsible not only for affirmative decisions they make, but also for problems they discover but fail to correct, and for breaches by other plan fiduciaries that they learn about but fail to remedy. Those commentators who followed closely the Supreme Court’s decision in LaRue believe it was just this sort of situation that prompted Chief Justice John Roberts to express concern (in one of the separate opinions that accompanied the majority opinion) that courts hearing future LaRue-type lawsuits need to carefully consider the roles played by plan fiduciaries when considering how and whether to entertain a LaRue-type lawsuit.
For defined-contribution plan fiduciaries that find themselves in this unenviable position, it is critically important to stay awake, never be passive or complacent, and always, always observe this variation on an old adage: If you’re not part of the solution, you risk being seen as part of the problem.