The U. S. District Court for the Southern District of New York held, in Tyco International, LTD v. Kozlowski, 2010 U. S. Dist. LEXIS 127185 (S.D.N.Y., December 1, 2010), that the absence of a non-forfeiture provision in two “top hat” deferred compensation plans permitted the employer sponsor to withhold plan benefits that had accrued during the period that the participant wrongfully took tens of millions of dollars from the employer’s treasury.
“Top hat plan” is a colloquial term referring to certain unfunded deferred compensation pension plans. Such plans are not subject to many ERISA requirements, such as the minimum funding rules, but are subject to other requirements, such as ERISA’s civil enforcement provisions. Such a benefit plan must have three characteristics: (1) it must be unfunded; (2) it must be maintained primarily for the purpose of providing deferred compensation to a select group of management or highly compensated employees, and (3) its members must be sufficiently well positioned and informed to negotiate an agreement that protects their interests.
Tyco was formed in 1962. Kozlowski was hired in 1975 and steadily worked his way up within the company until, by 1993, he was Chief Executive Officer and Chairman of the Board. In 1997 the company reorganized and became Tyco International, Ltd. Kozlowski became the CEO and Chairman of the Board of the new company.
Kozlowski was compensated in various ways, two of which are pertinent here. He entered into an agreement with the company in 1994 for the Deferred Compensation Plan (“DCP”). In 1995, he was enrolled in the company’s Supplemental Executive Retirement Plan (“SERP”). As CEO and Chairman of the Board, he was able to protect his interests in both plans. Both plans satisfied the definition of top hat plans.
In 2002, Tyco fired Kozlowski because he faced imminent indictment in the State of New York for sales tax evasion. Further investigation revealed that he had conspired with other corporate officers, at least as early as September 1995, to steal tens of millions of dollars from Tyco. In 2005, Kozlowski was tried and convicted on 22 counts relating to his acts at Tyco, including grand larceny. He was sentenced to prison, and continues to serve his sentence.
In Tyco, Kozlowski asserted two counterclaims relating to the DCP and SERP, respectively, claiming that he was entitled to all of the benefits he had accrued under those plans. He asserted further that the plans’ vesting provisions were equivalent to non-forfeiture clauses.
The court rejected Kozlowski’s claims and held that his benefits could be forfeited, though neither the DCP nor the SERP contained forfeiture provisions. The court held that the vesting provisions had nothing to do with whether there could be forfeitures based on the participant’s wrongdoing. Forfeitability of top hat plan benefits is governed by federal common law, which assumes that benefits accrued under top hat plans are forfeitable unless the parties otherwise agree in the plan contracts. In the absence of clear non-forfeiture provisions in the plan, the federal common law permits the employer to withhold benefits accrued during the period of the participant’s wrongdoing. As a result, all of Kozlowski’s benefits under the DCP and SERP accrued from September 1995 forward, were subject to forfeiture.