United States: ERISA Newsletter - Third Quarter 2017

EDITOR'S OVERVIEW

As we have observed on other occasions, the ERISA class action plaintiffs' bar has, for several years now, honed in on 401(k) plan fiduciaries and their decisions to select and retain investment options that they allege, in hindsight, underperformed and/or were too expensive. More recently, they have done the same for 403(b) plans sponsored by non-profit institutions. Our featured article this quarter reviews current developments in these lawsuits and urges, as a means to stem this tide and the associated costs, judicial enforcement of heightened pleading standards established by the U.S. Supreme Court.

We also cover developments concerning the DOL fiduciary rule, disaster relief, wellness programs, disability benefits retiree benefits, exhaustion of administrative remedies, and health care reform.

401(k) AND 403(b) PLAN INVESTMENT LITIGATION—DIVIDING THE PLAUSIBLE SHEEP FROM THE MERITLESS GOATS

By Russell Hirschhorn

Over the past decade, there have been scores of lawsuits filed against ERISA plan fiduciaries charging them with breaches of fiduciary duty and prohibited transactions in connection with their selection and retention of the investment options made available to previous hit401(knext hit) and 403(b) plan participants. Plaintiffs have advanced several theories against these plan fiduciaries, including that the available investment funds underperformed alleged comparable investments, charged excessive fees, and/or were unsuitable investments for plan participants. They also have argued that plan fiduciaries engaged in self-dealing by selecting and maintaining affiliated funds (also referred to as proprietary funds or in-house funds) as plan investment options. Litigation also has expanded to include challenges to fee arrangements with service providers. Most recently, plaintiffs have launched attacks on 403(b) plans sponsored by universities, which, in an interesting twist, include allegations that plan fiduciaries offered participants too many investment options.

Depending on one's point of view, the proliferation of these lawsuits may be seen as a sincere effort to insure that ERISA plan fiduciaries act prudently and loyally in fulfilling their obligations to the plan, or simply the product of entrepreneurial ingenuity on the part of a growing and opportunistic ERISA plaintiffs' bar, which is well aware that these lawsuits can generate handsome settlements and concomitant attorneys' fees awards. A recent survey revealed that there may be cause for the more skeptical approach: from 2009 through 2016, ERISA plan sponsors and fiduciaries paid nearly $700 million in fines, penalties and settlements in connection with breach of fiduciary duty lawsuits, while plaintiffs' counsel collected more than $200 million and the average plan participant award was $116. See Tom Kmak, Fiduciary Benchmarks: Protect Yourself at All Times, DC DIMENSIONS (Summer 2016).

The most logical remedy for these alarming developments is judicial enforcement of heightened pleading standards. In this article, we review the standards established by the U.S. Supreme Court that plan participants must meet in order for their complaints to survive a motion to dismiss. We then survey some of the recent case law to illustrate how courts have, with less than complete consistency, applied these pleading standards to previous hit401(knext hit) and 403(b) plan investment challenges. Lastly, we comment on the going-forward implications for plan sponsors and fiduciaries.

Requirements for Pleading ERISA Fiduciary Breach Claims

The Federal Rules of Civil Procedure govern (with some exception) the procedure in all civil actions and proceedings in the United States district courts. Rule 8(a)(2) requires that, to state a claim for relief, a plaintiff file a pleading that contains a "short and plain statement of the claim showing that the pleader is entitled to relief."

For decades, this Rule had been broadly construed to require only "notice pleading" such that a plaintiff's allegations were presumed to be true, facts were construed in a manner most favorable to a plaintiff, and, importantly, a court could not dismiss a complaint unless a plaintiff could prove "no set of facts" in support of his or her claim for relief. Conley v. Gibson, 355 U.S. 41 (1957). In 2007, however, the U.S. Supreme Court changed the existing interpretation of Rule 8(a)(2). In Bell Atlantic Corp. v. Twombly, 550 U.S. 544 (2007), the Court adopted a more strict, "plausibility" standard. In Ashcroft v. Iqbal, 556 U.S. 662 (2009), the Supreme Court provided guidance as to how lower courts should apply the Twombly test: "First, the tenet that a court must accept as true all of the allegations contained in a complaint is inapplicable to legal conclusions...Second, only a complaint that states a plausible claim for relief survives a motion to dismiss. Determining whether a complaint states a plausible claim for relief will...be a context-specific task that requires the reviewing court to draw on its judicial experience and common sense." Id. at 679 (citations omitted).

The Second Circuit translated this standard into a heightened one for participants advancing ERISA fiduciary breach claims based on investment losses. The court required participants to either: (i) allege facts referring directly to a fiduciary's deficient investigation of the investment in question; or (ii) if the complaint relies on inferences from circumstantial factual allegations to show a breach, "allege facts, accepted as true, showing that a prudent fiduciary in like circumstances would have acted differently." Pension Benefit Guar. Corp. v. Morgan Stanley Inv. Mgmt. Inc., 712 F.3d 705, 718-20 (2d Cir. 2013). While the court did not specify what facts would suffice to meet this standard—since each case is "context-specific"—it explained that neither poor performance of an investment nor the availability of "better investment opportunities" would show that a prudent fiduciary would have made different choices. Id. at 718. The court also stated that the cost of defending fiduciary breach claims in discovery, and the risk that these prospective costs will be used to extort settlements, require that participants include in their complaints "a factual predicate concrete enough to warrant further proceedings." Id. at 719 (quotation omitted).

The Supreme Court subsequently endorsed that view in Fifth Third Bancorp v. Dudenhoeffer, 134 S. Ct. 2459 (2014), when it devised a rigorous pleading standard for fiduciary breach claims, and stated that a motion to dismiss is an "important mechanism for weeding out meritless" ERISA claims—or, as the Court expressed it, to "divide the plausible sheep from the meritless goats." Id. at 2470. That standard also furthers ERISA's twin policies of (i) defraying litigation expenses that might otherwise discourage employers from offering benefit plans in the first place; and (ii) affording deference to the decision-making of plan fiduciaries, and not transforming courts into de facto plan administrators.

Application of Pleading Standards to Defined Contribution Plan Investment Litigation

The plaintiffs' bar has, for many years now, launched a multi-prong attack on plan fiduciaries' decisions to select and maintain various investment options in 401(k) plans and, more recently, in 403(b) plans. These lawsuits generally fall into one of the following categories:

Underperformance and Excessive Fees. Plan participants claim that the investment options charge higher fees than alleged comparables. A corollary claim is that it was imprudent to offer actively managed funds because these funds have not outperformed index funds that charge lower fees. Often times, these claims are combined with the assertion that the performance of the challenged funds, net of the fees charged, trails the net performance of the comparable investments alleged in the complaint. Although scores of lawsuits have been filed, to date, there are but a few bright lines that have evolved in evaluating whether plaintiffs' claims should be permitted to proceed into discovery. For example, courts have held that an investment's poor performance, standing alone, does not create an inference that a prudent fiduciary would have chosen different investment products because investments cannot be evaluated based on hindsight and periods of underperformance are not uncommon. White v. Chevron Corp., No. 16-cv-0793-PJH (N.D. Cal. Aug. 29, 2016). And, the fact that an investment option may charge higher fees than other investments does not create an inference of imprudence because "nothing in ERISA requires every fiduciary to scour the market to find and offer the cheapest possible fund." Hecker v. Deere & Co., 556 F.3d 575, 586 (7th Cir. 2009).

Affiliated Funds. In recent years, the claims for underperformance and/or excessive fees have increasingly targeted affiliated funds. Plaintiffs' argument is that the plan fiduciaries breached their duty of prudence and loyalty by offering these funds, in lieu of supposedly superior funds, to generate profits for the plan sponsor or to "seed" these funds with investment money that will make them more attractive to other investors. Because of the added disloyalty allegations, these cases have generally been more successful in withstanding motions to dismiss. See Cryer v. Franklin Templeton Res., No. C 16-4265 CW (N.D. Cal. Jan. 17, 2017); Urakhchin v. Allianz Asset Mgmt. of Am., L.P., No. SACV 15-1614-JLS (JCGx) (C.D. Cal. Aug. 5, 2016). The reasoning of these rulings seemingly ignores the fact that both Congress and the U.S. Department of Labor have created exemptions to permit the use of affiliated funds as investment options in a 401(k) plan. See, e.g., 29 U.S.C. § 1108(b)(8); 42 Fed. Reg. 18,734 (Mar. 31, 1977). Thus, one can argue that a claim that is otherwise implausible does not become plausible just because an affiliated fund is involved. After all, zero plus zero still equals zero.

Alternative Investments. Plan participants also have targeted alternative investments, such as hedge funds, as being unsuitable for 401(k) plans, either as stand-alone investment options or as a significant component of an investment vehicle such as a target date fund or default investment vehicle. See Johnson v. Fujitsu Tech. & Bus. of Am., Inc., No. 16-cv-03698 NC (N.D. Cal. Apr. 11, 2017) (denying motion to dismiss complaint challenging a plan's custom target date funds invested in "speculative assets classes" that are allegedly not common and underperformed their benchmarks and other established target date funds).

403(b) Plans. With respect to the more recent spate of lawsuits against the fiduciaries of university sponsored 403(b) plans, the few courts that have issued opinions evaluating motions to dismiss have permitted many of the claims to proceed to discovery. They generally have reasoned that the complaints pled specific enough allegations about better performing or cheaper alleged comparables to create issues of fact that should not be resolved on a motion to dismiss. For example, plaintiffs survived dismissal in a case challenging a 403(b) plan's decision to offer: (i) the retail share class version of many of the plan's investment options, which allegedly charged excessive fees and performed poorly when compared to identical, lower-cost share classes of the same funds; and (ii) actively managed funds when passively managed funds in the same investment style were available with lower fees and better performance.

Proskauer's Perspective

The results thus far on motions to dismiss have been mixed at best. Notwithstanding the Supreme Court's endorsement of stricter pleading requirements, many complaints have withstood motions to dismiss, particularly—but not exclusively—those challenging the use of affiliated funds. The courts' failure to apply these standards consistently is significant for plan sponsors and fiduciaries: Plaintiffs who survive a motion to dismiss are permitted to engage in costly class action discovery, which often causes plan fiduciaries to think about settlement despite the fact that the claims, if taken to summary judgment or trial, would be successfully refuted. According to a recent study, defending a breach of fiduciary duty lawsuit through the motion to dismiss stage can cost up to $750,000 and discovery can cost affected companies between $2.5 million and $5 million. See LOCKTON COMPANIES, Fiduciary Liability Claim Trends (February 2017). Moreover, as discussed above, these lawsuits rarely inure to the benefit of plan participants in any meaningful way.

Given the high stakes associated with the outcome of the motion to dismiss, and the obstacles they face to prevailing using the heightened pleading standards, it is important to think "outside-the-box" when devising a motion to dismiss strategy. For example, conventional arguments about the insufficiency of the pleadings may be coupled with attacks on the plaintiff's standing to bring suit or timeliness of the complaint. It also may be appropriate to consider the prospects of an immediate motion for summary judgment if the court will need to consider documents not embraced by the complaint in order to conclude that the complaint is insufficient.

Although it is always difficult to predict the future, we remain optimistic that the courts will eventually apply the rigorous pleading standards with greater consistency, and thus will separate the plausible sheep from the meritless goats and preclude the plaintiffs' bar from extracting multi-million dollar settlements merely on the threat of costly, class action discovery. Any other result would be harmful to the individual plans targeted and, more broadly, the private retirement system.

To read this Newsletter in full, please click here.

ERISA Newsletter - Third Quarter 2017

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Similar Articles
Relevancy Powered by MondaqAI
Proskauer Rose LLP
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Proskauer Rose LLP
Related Articles
 
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions