In baseball, two outfielders must communicate with each other when a fly ball is headed in their general direction. One player is responsible for making the play while the other player is responsible for getting out of the way. Baseball players are taught rules of priority and communication to keep the game running smoothly. Those rules also keep routine plays from showing up on Sports Center's blooper reel.
This may be a stretch. But let's see if the baseball analogy applies to an important recent ERISA case involving executive retirement benefits and payroll taxes.
In Davidson v. Henkel1 the fly ball was the obligation to collect and remit Social Security and Medicare taxes owed by Henkel Corporation and its executives on monthly retirement benefits. I will call these payroll taxes to save a little space.
Whether they knew it or not, the outfielders who were responsible for making the play were the employees in Henkel's payroll department and its benefits department. Typically, the benefits department is responsible for designing and administering an executive retirement plan. And, the payroll department is responsible for collecting, remitting and reporting taxes on executive retirement plan benefit payments.
Unfortunately, neither department fielded the ball in this case. In fact, neither department seems to have known that a payroll tax ball was even in play.
Let's look more closely at what happened.
John Davidson retired in 2003 as an executive of Henkel. John worked for Henkel for more than 30 years. Through his employment, John earned a right to receive monthly payments from Henkel after retirement for the rest of his life. The monthly payments were only available to executives under a type of plan called a nonqualified deferred compensation plan.
To the unwelcome surprise of all involved, Henkel discovered in 2011 that it had not collected and paid payroll taxes on John's executive retirement benefits. Henkel arranged a meeting with the IRS to discuss the matter. After that meeting, Henkel sent a letter to John to let him know that payroll taxes would have to be withheld from his monthly payments which would reduce the cash amount that John received each month.
Not being satisfied with Henkel's explanation, John decided to protest Henkel's decision to the Federal court, sitting as umpire of the dispute. John argued that Henkel should have been required to collect and remit payroll taxes on his retirement payments under a tax rule called the "special timing rule."
The special timing rule—added to the employment tax regulations in the early 1990s---would have imposed payroll taxes on the present value of John's future monthly retirement payments in 2003 when John retired. John argued that Henkel's failure to use the special timing rule in 2003 increased John's payroll tax liability.
When Henkel discovered the tax problem in 2011, it was too late for Henkel to use the special timing rule. Instead, the employment tax regulations required Henkel to use another rule called the "general timing rule". That rule imposed payroll taxes on John's monthly payments on a "pay as you go" basis.
In his plea to the umpire, John asked the Court to hold Henkel liable for the additional payroll taxes that John would owe under the general timing rule because of Henkel's failure to apply the special timing rule.
The Court ruled in favor of John's Motion for Summary Judgment finding that Henkel had a duty as an ERISA fiduciary to administer its plan in John's best interest. Henkel's fiduciary duty included the obligation to administer the plan in a way that would minimize John's payroll taxes. The Court explained that the general purpose and wording of Henkel's plan formed the basis for this duty.
Employers with plans like Henkel's should pay careful attention to how and when payroll taxes will be applied to nonqualified deferred compensation plan payments. John's case is ongoing and has moved to the damages phase. Henkel may seek relief from this new fiduciary duty from the instant replay umpire in the appeals court. Time will tell whether there is a fiduciary duty under ERISA to minimize payroll taxes in these circumstances.
Regardless of the outcome, Davidson v. Henkel is an important reminder of how baseball applies in law and in life.
Footnote
1 Case No. 12-cv-14103 E.D. Michigan (Southern Division) January 6, 2015
Originally published in the Dallas Bar Association's Headnotes
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