Justices Agree On Basic Right To Sue, Little Else; Decision Strongly Suggests That The Devil Is In Details
A recent United States Supreme Court decision may increase the incidence of litigation against fiduciaries of defined contribution plans, including 401(k) plans and employee stock ownership plans (ESOPs). On February 20, 2008, the Supreme Court decided in LaRue v. De Wolff, Boberg & Associates, Inc., et al., that a 401(k) plan participant could recover under the Employee Retirement Income Security Act (ERISA) on a claim that his plan's fiduciaries breached their duty by failing to implement the participant's investment instructions. The participant alleged that the fiduciary misconduct lead to a $150,000 loss in his individual plan account. The Court found that the law permits a participant to recover losses caused by a fiduciary breach that "impairs the value of plan assets in a participant's individual account."
Under prior law, a participant could bring suit against a plan fiduciary only if the fiduciary's breach endangered the financial integrity of the entire plan. This doctrine limiting lawsuits by individual participants was known as the "entire plan" rule. The Court distinguished prior case law, pointing out that the entire plan rule was rooted in defined benefit plans under which participants receive specified benefits, usually based on years of service and compensation, which can only be endangered by a fiduciary's misconduct that "creates or enhances the risk of default by the entire plan." By contrast, misconduct by a fiduciary of a defined contribution plan can reduce benefits under the plan regardless of whether the entire plan is placed at risk.
In addition, the Court's decision was based in part on the fact that the plan is a so-called ERISA Section 404(c) plan. Under ERISA Section 404(c), a plan fiduciary is relieved of liability for losses sustained in participants' individual accounts if the plan permits participants to direct investment of their accounts. Section 404(c) protection is applicable to the extent that participants actually provide such direction consistent with the plan's policies and procedures, and is contingent upon the plan's satisfying extensive disclosure and other requirements. The Court held that ERISA Section 404(c) "would serve no real purpose if . . . fiduciaries never had any liability for losses in an individual account."
Two concurring opinions filed in the case, each of which was joined by two justices, suggest that future cases may develop additional legal principles which will apply to these cases, such as (1) whether a participant must first exhaust administrative remedies by filing a claim for benefits under the plan's claims' procedures before proceeding to court to recover lost earnings; (2) by when must an aggrieved individual bring a lawsuit for the claim to be made timely; and (3) whether an individual who suffers a loss due to an internal reallocation of plan-held securities has any claim at all (i.e., because the plan has not suffered a loss).
Clients are encouraged to review all relevant plan documents, policies, and procedures, as well as contractual arrangements with service providers, to ensure that plan investments are being handled and documented properly, including internal exchanges, allocations of gains, losses and expenses and, where applicable, that participants' investment directions are being implemented accurately and promptly. Clients are also encouraged to review and, if necessary, update existing fiduciary errors and omissions policy provisions and contractual indemnification arrangements.