As D&O maven Dan Bailey noted in a recent memo (here), ERISA class action litigation represents a significant and growing liability exposure for benefit plan fiduciaries. With the recent addition of the $70.5 million settlement in the Tyco ERISA class action lawsuit (about which refer here) and the $55 million settlement in the Countrywide ERISA class action lawsuit (refer here) to the long and growing list of significant ERISA class action settlements, it is clear that the these ERISA class action lawsuit represent an increasingly important area of potential liability exposure.
In light of the increasing prevalence of these significant ERISA class action lawsuits, it seems to me that the time has arrived for a more systematic tracking of significant settlements.
Accordingly, I have prepared a list of the largest ERISA class action settlements of which I am aware. The list, in the form of a Word document, can be found here.
This list is comprehensive, but it likely is incomplete. I suspect strongly that there may be other similarly significant ERISA class action settlements of which I am unaware that should be included in order for the list to be complete. I would be very grateful if any readers who are aware of any specific settlements that I omitted from the list but that should have included would please let know so that I can incorporate them into the list and make the information available to all readers.
In any event, as new ERISA class action settlements arise in the future, I will add them to the list, and I will indicate on the top of the Word document the most recent date on which the list was updated. I encourage readers to let me know about any significant ERISA class action settlements of which they become aware.
In a noteworthy subprime-related litigation development, on August 5, 2009, the parties to the Countrywide ERISA action filed a stipulation of settlement (here), together with a request for preliminary court approval. Under the stipulation, the case is to be settled by a payment of $55 million, to be funded entirely by Countrywide’s fiduciary liability insurers.
The plaintiffs first filed their complaint in September 2007. As reflected in the plaintiffs’ Corrected Second Amended Complaint (here), the case was brought on behalf of participants in the Countrywide benefits plan who made contributions to the plan between January 31, 2006 and July 1, 2008, and whose individual plan accounts were invested in Countrywide stock.
The plaintiffs’ complaint alleges that the plan fiduciaries "allowed the imprudent investment of the Plan’s assets in Countrywide’s equity," even though they knew or should have known that such investment was unduly risky," because of the company’s "serious mismanagement, highly improper and potentially unlawful business practices," particularly with respect to subprime loans. The plaintiffs alleged that the defendants breached their fiduciary duties to plan participants.
The Countrywide ERISA action joins the Merrill Lynch ERISA case as high profile subprime-related ERISA lawsuits that have resulted in significant settlements – as noted here, the Merrill Lynch ERISA action settled for $75 million. The Countrywide settlement may be particularly noteworthy given that the entire $55 million settlement amount is to be funded by the company’s fiduciary liability insurers. While the Countywide case may be particularly notorious, the ERISA action settlement size may represent an ominous sign for fiduciary liability insurers whose policyholders are involved in subprime-related ERISA litigation.
There have been a variety of estimates of the insurance industry’s overall prospective loss exposure due to the subprime meltdown and the credit crisis. Though the magnitude of many estimates is impressive, most of these estimates have largely been based on a series of conjectures about likely D&O and E&O losses. Potential fiduciary liability losses were not a prominent part of the calculation. But if the Countrywide ERISA action settlement is any indication, fiduciary liability insurance losses could prove to be a significant factor in the overall insurance industry exposure from the subprime and credit crisis events.
In any event, I have added the Countrywide ERISA action settlement to my roster of subprime and credit crisis-related lawsuit resolutions, which can be accessed here. The ERISA cases can be found in Section III of the roster.
State Street’s Subprime Litigation Contingency Reserve Too Small?: In a development that underscore both the massive scale of the subprime litigation exposure and the extent to which that exposure may largely be uninsured, on August 10, 2009 State Street Corporation filed its Form 10-Q (here), in which among other things the company reported that the approximately $625 million reserve it established in January 2008 (for the fourth quarter of 2007 reporting period) may not be sufficient in the event that regulators currently investigating the events were to bring an enforcement action. Details about the initial reserve can be found in a prior post, here.
State Street reports that as of June 30, 2009, $193 million of this initial reserve remains. But the filing goes on to note that on June 25, 2009, the SEC has served the company with a "Wells notice" and the SEC staff has recommended the initiation of enforcement proceedings. If the SEC or other regulators were to pursue enforcement actions, the report states, then, "depending upon the resolution of these governmental proceedings, the remainder of the reserve established in 2007 may not be sufficient to address ongoing litigation, as well as any such penalties or remedies."
The astonishing erosion of this massive reserve certainly highlights the expense involved in this type of litigation, and the company’s warning that the remaining reserve may not be sufficient, stresses the seeming boundlessness of the exposure. The fact that it is the company’s own reserve that is being eroded suggests that this exposure is largely or entirely uninsured, which shows that no matter how great the insurance industry’s exposure may be from the subprime and credit crisis-related litigation wave, the overall exposure, including uninsured liabilities and amounts, may be many multiples greater.
A frequent securities class action lawsuit accompaniment is a companion ERISA stock drop lawsuit brought on behalf of employee participants in the defendant company’s benefit plan. These ERISA lawsuits have in recent years resulted in a string of impressive settlements, although the plaintiffs have not fared as well in the few cases that have actually gone to trial. In a ruling that could have significant implications for other cases, on June 1, 2009, the court in the latest of these cases to go to trial – the high-profile Tellabs ERISA case – entered a sweeping ruling (here) in defendants’ favor.
Because the court in the Tellabs ERISA case ruled in defendants’ favor following trial both with respect to the “prudence” and the “disclosure” issues, and because the disclosures at issue involve many of the same alleged misrepresentation issues as are raised in the much-chronicled Tellabs securities class action (about which refer here and here), the defense ruling in the Tellabs ERISA case could proved to be particularly significant.
Background
The Tellabs ERISA case relates to issues raised by participants in Tellabs’ retirement and savings plan. During the class period of December 11, 2000 through July 1, 2003, the plan offered participants twelve different investment choices, including one fund that was invested exclusively in Tellabs stock.
Tellabs itself had a record year in 2000, but beginning in the first quarter of 2001, Tellabs began to experience a downturn in product demand as well as increased costs. As the year progressed, senior company officials (many of whom were plan fiduciaries and who were subsequently defendants in both the securities lawsuit and the ERISA lawsuit) made a number of statements about the company’s business performance and business prospects. The company along with the rest of the telecommunications industry continued to face business challenges during 2002 and 2003. During the class period, Tellabs share price declined from $63.19 to $6.58 per share.
In their lawsuit, the plaintiffs contended that Tellabs and the individual plan fiduciaries breached their duties under ERISA. Among other things, the plaintiffs contended that the defendants breached their fiduciary duty of prudence by allowing and holding instruments in the Tellabs stock fund. The plaintiffs also alleged that the defendants breached their duty to honestly disclose material information.
The case was tried in an eight day bench trial in late April and early May 2009, and on June 1, 2009, Northern District of Illinois Judge Matthew Kennelly issued his findings of fact and conclusions of law, which can be found here.
The Court’s Rulings
Judge Kennelly found for the defendants on essentially all points. With respect to the issue whether the defendants violated the duty of prudence by allowing the plan to continue holding and investing in Tellabs stock, the court found that the defendants demonstrated “procedural prudence.” He found that “by virtue of their roles as high level executives,” they had extensive discussion of Tellabs’ business and future prospects “albeit outside the context of investment and administrative committee meetings.”
The court added that “though it would have been wise for defendants to conduct a more formal review of the Tellabs stock funds and to document that review, its absence does not mean they were imprudent in light of their intimate knowledge of Tellabs.”
Judge Kennelly further held, on the issue of so-called “substantive prudence,” that the “evidence shows that a reasonably prudent individual in similar circumstances who undertook such an examination would not have sold the Plan’s stock or removed it as an investment options,” notwithstanding the business challenges that the company was facing. Based on his review of how the business issues unfolded and how the defendants’ responded, Judge Kennelly concluded that “a reasonable fiduciary in similar circumstances would not have concluded that the Plan should have divested its Tellabs stock or ceased offering it to participants as an investment option.”
With respect to the plaintiffs’ allegations about the inadequacy of defendants’ disclosures about Tellabs and its financial results and prospects, the court concluded that the defendants did not make any material misrepresentations, adding that “Defendants certainly made a number of predictions about Tellabs and the communications industry that turned out to be wrong,” but the “evidence does not demonstrate that defendants misrepresented either the facts or their expectations when they made these statements.”
Finally, Judge Kennelly also ruled in the defendants’ favor on statute of limitations issues. The defendants had argued that the plaintiffs’ claims were barred by the three year statue of limitations. Plaintiffs had argued that due to defendants’ concealment of the fraud, a six-year statute of limitations should apply and therefore the claims were not time-barred. In a pretrial ruling, Judge Kennelly had found that there were disputed issues of fact on the question of concealment. But following trial, he concluded that there was no evidence of concealment and therefore that the three-year statute applied and accordingly the plaintiffs’ claims also failed because they are time-barred.
Discussion
It is not just that Judge Kennelly’s rulings represent a clean sweep for the defendants. It is that this is the latest of the high profile post-Enron ERISA stock drop cases in which the defendants have prevailed following trial. Other high profile examples include the DiFelice v. U.S. Airways case, in which the defendants’ trial court victory was affirmed in 2007 by the Fourth Circuit (refer here). In addition, in 2008, the Seventh Circuit affirmed (here) the defense verdict in the Nelson v. Hodowal ERISA stock drop case (albeit in a narrow ruling).
Trials in these cases are rare, but the track record of defense verdicts at some point may begin to tell, both with respect to which cases get filed and with respect to how the cases settle. In particular with respect to settlement, a demonstrated defense willingness to take a case to trial could begin to have a downward effect on settlements.
Chuck Jackson of the Morgan Lewis firm, who successfully represented the defendants at trial in both the Tellabs ERISA case and in the earlier DiFelice case, wrote (here) with his colleague Christopher Wells following the DiFelice case that:
a plaintiff’s knowledge that an insured and insurer are willing to go through trial if necessary should have the effect of driving down settlements to more properly correspond to the merits of the particular claims, rather than simply fixing a price based on perceived trends, the limits of the insurance polices and a mushy ‘what if’ analysis based on Rule 12(b)(6) rules.
These points seem even more valid in light of the outcome of the Tellabs ERISA case.
The DiFelice case has rightly been viewed as significant because the court ruled in the defendants’ favor on the prudence issue, even thought the company wound up in bankruptcy. The Tellabs ERISA case may be even more significant because the court ruled in defendants’ favor on both the prudence issue and on the disclosure issue.
Plaintiffs are often attracted to ERISA stock drop cases because they can allege disclosure shortcomings without having to plead or prove scienter, as they would in trying to make a claim for securities fraud. Plaintiffs also try to insinuate in settlement negotiations that the court will be predisposed to favor their claims because the plan participants have seen their retirement funds substantially or entirely diminished.Judge Kennelly ruled in the defendants favor notwithstanding and seemingly without regard to these presumed plaintiffs’ advantages.
Judge Kennelly’s rulings on the disclosure issues may also be significant because of the prominence of the virtually identical disclosure allegations in the high profile Tellabs securities case. The Supreme Court opinion and the subsequent Seventh Circuit opinion in the Tellabs securities case were based solely on plaintiffs’ allegations, which were taken as true due to the procedural posture of the case.
However, Judge Kennelly made specific findings of fact based on an evidentiary record. . Judge Kennelly clearly credited he testimony of the Tellabs witnesses. His conclusion that the defendants did not make any material misrepresentations suggests that the securities plaintiffs’ allegations also ultimately may be unsustainable. Judge Kennelly’s conclusions that the defendants did not misrepresent either the facts or their assessments provide an important context for subsequent proceedings in the case.
Judge Kennelly’s final ruling on the statute of limitations issues may be significant in another way, as it seems to be one more basis on which the ruling could withstand appellate scrutiny. Adding the statute of limitations ruling at the end of his findings and conclusions seemingly another way for the appellate court to adopt the district court’s rulings.
Many of these ERISA stock drop cases contain very similar allegations to those in the Tellabs ERISA case. That is, as in the Tellabs case, the plaintiffs allege that the defendants were imprudent in allowing plan assets invested in company stock and that the defendants failed to disclose to plan participants what the defendants knew about the company’s business results and prospects. According to Jackson, Tellabs counsel in the ERISA trial, the detailed findings of fact and conclusions of law provide “a blueprint for how to try this kind of case.” The court’s findings and conclusions certainly show the challenges plaintiffs face in trying to substantiate these kinds of allegations and also show how defendants can go about refuting the allegations.
To be sure, there may not be a sudden rush of trials in these kinds of cases. These cases can be notoriously expensive to litigate, and costs and uncertainty of litigation will undoubtedly continue to motivate parties to these cases to seek settlement. But the outcome of the Tellabs ERISA case will hearten those who want to fight these kinds of allegations, and may increase the likelihood that the cases settle for reasons related to the merits.
Our congratulations to Tellabs’ trial counsel, Chuck Jackson of the Morgan Lewis firm, for his great victory in this case, as well as in the DiFelice case. Jackson has clearly staked out a very clear specialty in trying these kinds of cases. His track record certainly is solid.
Special thanks to a loyal reader for providing a copy of the findings and conclusions.
Seinfeld on Risk Management: George Costanza has to read a risk management textbook, takes advice from a blind man, winds up lecturing (unintentionally) about Ovaltine. Hat tip to the Insurance Journal for the video link.
The credit crisis recently entered a dark new phase, and this new darker phase has also already produced its own distinctive round of lawsuits. Like the ominous economic circumstances, the new litigation phase also seems darker and more threatening.
In the latest issue of InSights (here) -- entitled "Has the Credit Crisis Litigation Wave Reached an Inflection Point?" – I briefly review the subprime litigation wave as it developed over the past two years and then examine the dramatic events that occurred in the financial marketplace beginning in September 2008. The article then examines the recent wave of litigation surrounding these events and concludes with an assessment of what these developments may signify going forward.
No Avalanche After All?: Following the U.S. Supreme Court’s February 2008 decision in the LaRue case (about which I wrote here), in which the court recognized an individual’s right to pursue a breach of fiduciary duty claims for mismanagement of their 401(k) plan, there was significant speculation that the decision could unleash an avalanche of lawsuits. The avalanche may yet materialize. But in the meantime it is worth noting that despite his victory in the Supreme Court, LaRue himself has voluntarily dismissed his case in the district court, where the case was on remand after the Supreme Court’s decision.
As reflected in the October 21, 2008 Consent Order of Dismissal in the case (here),LaRue withdrew his complaint after he "decided that it is not financially feasible to continue to pursue his claim."
As Professor Paul Secunda noted on the Workplace Law Prof Blog (here), LaRue’s withdrawal of his case shows that "these types of claims are still extremely difficult for plaintiffs to prevail upon" and "all the doomsday prognostications to the contrary seem just a tad off."
Just In Case Those Bank Lawsuits Do Materialize: In a recent post (here), I speculated that we may be entering a new phase of litigation involving failed banks. Apparently I am not the only one who anticipates that we may be seeing more failed bank litigation. In an October 23, 2008 memorandum entitled "Failed Financial Institution Litigation: Remember When" (here), the Willkie Farr & Gallagher law firm observes that the recent dramatic financial institution failures "are likely to fan the flames for myriad government agencies to pursue litigation against all parties associated with the financial institutions."
The Willkie Farr memorandum takes a comprehensive look at the potential failed financial institution litigation that may emerge, referring to the litigation that unfolded during the S&L crisis as a guide. The memo examines likely litigants, including in particular the probable defendants. The memo also reviews the factual and legal issues that are likely to arise, including some issues that may be different in the current era than previously– for example, with respect to circumstances involving credit default swaps.
The memorandum also briefly reviews the D&O insurance issues that are likely to arise in connection with claims against the directors and officers of the failed financial institutions. Among other issues, the memorandum review issues in connection with the regulatory exclusion (about which I previously wrote here), and in connection with the insured vs. insured exclusion (which I wrote about here).
The Willkie Farr memorandum is thorough and comprehensive, and is a good resource to keep at hand in the event the "dead bank" litigation does in fact materialize.
An Insurance Professional Takes A Look Back: It may surprise those outside the industry, but the insurance business really is full of a wide assortment of interesting, amusing and entertaining people. Many of their stories are humorously retold by industry veteran Larry Goanos in his new book Claims Made and Reported: A Journey Through D&O, E&O and Other Lines of Insurance (here). Larry’s book examines the careers of some of the luminaries of professional lines insurance industry and provides valuable insights for business success.
While writing the book, Larry apparently interviewed over 400 people, some of whom started in the industry back in the 1940s and 1950s. Many of the stories Larry recounts have become legendary in the industry, such as the tale of the broker whose suit was seemingly in flames during a meeting while he continued to talk or the mid-level executive who bought a Rolls Royce as his company car --on his lunch hour. The book is written with in the same spirit of friendship and good humor that characterizes the best side of our industry, and will be enjoyable for anyone who is a part of or is interested in the industry.
Congrats to Larry on his book. He obviously had a lot of fun writing it, and a lot of people are going to have fun reading it. It is worth noting that Larry intends to split the proceeds from the book’s sales among four charities, including the PLUS Foundation and Grateful Nation Montana.
What the Hell is the Point of 36 Watches -- Or, For That Matter, Three Mirrored Disco Balls?: In an October 29, 2008 Wall Street Journal article (here) describing unexpected challenges facing lenders that foreclosed on properties, the article details issues arising in connection with Indianapolis developer Christopher T. White and his business, Premier Properties USA:
Indianapolis prosecutors charged Mr. White in June with theft and fraud for writing a $500,000 check to Premier for payroll purposes on a nearly empty account. Mr. White's defense attorney counters that the developer believed money was arriving to cover the check. A lender seized Mr. White's personal property and in August auctioned items including five Vespa scooters, 15 flat-panel televisions, 36 watches and three mirrored disco balls.
"Where the Hell is Matt?": If you have not yet seen this latest viral Internet video, you have to take four minutes and watch it right now. Absolutely guaranteed to make you smile. Matt really does seem to have visited (and danced in) all the places depicted, which kind of makes you wonder how long it took to make this video. While he was dancing, the rest of us were sitting at our desks doing much more productive things...
In an April 9, 2008 opinion (here) written by Chief Judge Frank Easterbrook, the Seventh Circuit held that there was no coverage under Arthur Anderson’s fiduciary liability policy for the firm’s settlement of a retiree pension benefits dispute.
The dispute arose after the firm’s Enron-related difficulties undercut the firm’s ability to honor retirees’ demands for lump-sum payment of retirement benefits. Litigation ensued. The retirees claimed, among other things, that the firm had breached its duties under ERISA. The firm retained defense counsel and also (through its broker) provided notice of claim to its fiduciary liability insurer. The plaintiffs then voluntarily dismissed the lawsuits and initiated arbitration proceedings instead. (The full details of the underlying retiree dispute and of the communications between the firm’s representatives and the insurer are set out at length in the district court’s summary judgment opinion, here.)
In November 2002, Arthur Anderson “proposed a compromise to all retirees and wrote to its insurers that it needed at least $75 million from them to fund a settlement.” The firm asked its primary fiduciary liability insurer to tender its full $25 million policy limit. The insurer responded that the arbitration claim did not allege negligence or breach of any fiduciary duty, but rather that it was a “pure contract action” for benefits due, for payment of which coverage is precluded under the terms of its policy. (The relevant policy provisions are set out in the district court opinion linked above.)
In January 2003, the firm settled with most of the retirees for $168 million, and it ultimately settled with the rest of the retirees in 2006 for a further $63 million. In February 2003, the fiduciary liability insurer initiated an action for a judicial declaration that it was not required to defend or indemnify Arthur Anderson.
The district court held (here) that the policy does not require the insurer to fund the settlement but that (as later summarized by the Seventh Circuit), the insurer’s “failure to provide a defense coupled with its delay in filing the declaratory judgment action might require it to pay anyway.” Following a jury trial, the district court entered judgment in the insurer’s favor except to hold that the insurer was liability for $5 million toward the arbitration settlement. Both sides appealed.
The Seventh Circuit affirmed the district court except to reverse as to the $5 million payment required toward the settlement. The Seventh Circuit found first that there was no coverage under the fiduciary liability policy for the retirees’ arbitration claim, because it did not allege negligence or breach of a fiduciary duty, but rather was limited exclusively to an alleged breach of contract. The Seventh Circuit also held that the policy’s “benefits due” exclusion also precluded coverage. Judge Easterbrook commented that “the settlement reflects the present value of the pension promise…rather than damages for anyone’s misconduct,” and he noted further that:
No insurer agrees to cover pension benefits; moral hazard would wipe out the market. As soon as it had purchased a policy, the employer would simply abandon its pension plan and shift the burden to the insurer. Knowing of this incentive, the insurer would set as a premium the policy’s highest indemnity, and no “insurance” would remain. Illinois would not read a policy in a way that made it impossible for people to buy the insurance product they want (here, coverage of negligence and disloyalty by pension fiduciaries).
The Seventh Circuit also found that the firm’s failure to obtain the insurer’s prior consent to the settlement provided another preclusion to coverage. Judge Easterbrook noted that “Arthur Anderson didn’t ask for the consent or even the comments of its insurer; it presented the deal to them as a fait accompli. By cutting [the insurer] out of the process, Arthur Anderson gave up any claim of indemnity.”
Having decided that there was no coverage under the policy, the Seventh Circuit then went on to consider whether Illinois principles of “equitable estoppel” nonetheless barred the insurer from asserting its defenses to coverage, as a result of the insurer’s delay in providing a defense and bringing its declaratory judgment action.
The Seventh Circuit first considered the question of what constitutes “delay,” noting that “treating eight months,” the period of the insurer’s putative delay, “as excessive is questionable.” Judge Easterbrook also noted that had the firm complied with the policy’s advance consent to settlement requirement, the insurer could have filed its declaratory judgment before the settlement.
In the end, the Seventh Circuit concluded that the question whether eight months constitutes delay is irrelevant, since at no point did the firm ever ask the insurer “to send a team of lawyers to represent it”; rather, the firm “made it clear that it would control both the defense and the law firm conducting the defense.” By “not tendering its defense," the firm “gave up and basis for demanding immediate action by the insurer.” Judge Easterbrook noted that:
An insured’s need to have legal assistance for its defense from the outset of a suit is the main justification for the rule that Illinois has adopted. When the insured does not want the insurer to supply a defense (lest the insurer also control the defense), it has no complaint if the insurer takes a while to contemplate the question of indemnity. The urgent need is for a defense to the pending suit; liability for indemnity (the coverage question) can safely be decided later.
Finally, Judge Easterbrook concluded that the insurer did not in the end have a duty to defend as the arbitration complaint was “based on contract and nothing but.”
There are several noteworthy things about Judge Easterbrook’s opinion. The first pertains to his commentary that adverse consequences might follow if the insurer were compelled to fund the settlement. It is the very rare court that is willing to consider not only that in some circumstances compelling the insurer to pay might not only undermine the existence of the market for that type of insurance, but could even constitute a “moral hazard.” Judge Easterbrook’s analysis evinces an unusually developed understanding of the insurance mechanism’s fundamental components.
The court’s analysis of the consent to settlement requirement is also noteworthy; indeed, the Seventh Circuit’s discussion of this issue in many ways mirrors the analysis of the recent New York Court of Appeals opinion (discussed here) in which the New York court also enforced the consent to settlement opinion strictly according to its terms. These two holdings underscore not only that the provision means what it says but also that it will be enforced according to its terms. These rulings unmistakably highlight that policyholders who fail to follow the policy’s requirement for advance consent to settlement do so at peril to their insurance coverage.
There is a further important lesson from this case, one that is similar to the lesson of the prior New York case, and that is that nothing good comes from a policyholder’s failure to keep the insurer in the loop. Indeed, if there is one common element in almost every litigated coverage dispute, it is that at some point preceding the litigation, there was some breakdown in communications between the policyholder and the insurer.
There are no guarantees that carriers will respond appropriately even when they are provided with full information. But the single most important way for policyholders to reduce the possibility of a litigated dispute with their insurer is to maintain full and professional communications with their insurer. Indeed, point number on in my list of “Seven Ways Counsel Can Help Clients with D&O Claims” (here) is to “Keep the Carrier Informed.”
Finally, I note that the Seventh Circuit’s discussion of the “benefits due” exclusion is an important accompaniment to my analysis (here) of the insurance implications of the U.S. Supreme Court’s opinion in the LaRue case. As Judge Easterbrook’s opinion makes clear, these policies are not intended to provide a substitute funding mechanism for companies’ benefit obligations to their employees. However, the policies are intended to provide companies with indemnity protection when an insured’s alleged or actual negligence or breach of a fiduciary duty harms a plan participant’s interests. For that reason, it is analytically consistent for insurers to offer, as some now do, an endorsement to their policies to carve out from the benefits due exclusion an agreement to cover a plan participant’s claim of harm to their individual plan investment interests, of the kind recognized in the LaRue decision.
Special thanks to a loyal reader for providing me with a copy of the Seventh Circuit’s opinion.
On February 20, 2008, the United States Supreme Court issued a unanimous holding (here) in LaRue v. DeWolff, Boberg & Associates that ERISA authorizes individual defined contribution plan participants to sue for fiduciary breaches that impair the value of plan assets in the individual’s plan account. This holding could have important implications for future ERISA litigation activity, and the individuals’ claims potentially could present significant insurance coverage issues.
James LaRue is a former employee of DeWolff, Boberg & Associates. He participated in DeWolff’s 401(k) plan. He claims that in 2001 and 2002 he directed DeWolff to “make certain changes to the investments in his individual account” but that DeWolff never made the changes and that this omission “depleted” his interest in the plan by $150,000.
LaRue sued the DeWolff firm and the DeWolff 401(k) plan seeking “make whole” or other equitable relief under Section 502(a)(3) of ERISA, codified as 29 U.S.C. Section 1132(a)(3). (Section 502, which is referred to throughout this post, can be accessed here.)
The district court dismissed LaRue’s complaint on the grounds that LaRue sought money damages, which are not permitted under Section 502(a)(3).
LaRue appealed to the Fourth Circuit, in reliance on both Section 502(a)(2) and 502(a)(3). The Fourth Circuit affirmed the Section 502(a)(3) dismissal on the same grounds as the district court. The Fourth Circuit rejected LaRue’s Section 502(a)(2) claim on the ground that the Supreme Court’s 1985 opinion in Massachusetts Life Ins.Co. v. Russell permitted Section 502(a)(2) claims only on behalf of the entire plan rather than on behalf of any one participant’s individual interest. LaRue sought and obtained a writ of certiorari to the United States Supreme Court.
Associate Justice John Paul Stevens wrote the majority opinion for the court. (There were two concurring opinions, one by Chief Justice Roberts, in which Justice Kennedy joined, and one by Justice Thomas, in which Justice Scalia joined). The majority opinion held that an individual plan participant does have the right to pursue an individual action, notwithstanding the court’s prior holding the Russell case (the majority opinion for which Justice Stevens also wrote). The majority opinion’s analysis turns on the view that, by contrast to the era when ERISA was first enacted and defined benefit plans predominated, “defined contribution plans dominate the retirement scene today.”
The circumstances for an individual participant in a defined benefit plan, Justice Stevens wrote, are quite different than under a defined contribution plan because misconduct relating to a defined benefit plan would not affect any one individual’s plan interest unless the misconduct caused a default of the defined benefit plan itself. Justice Stevens wrote that:
For defined contribution plans, however, fiduciary misconduct need not threaten the solvency of the entire plan to reduce benefits below the amount that participants would otherwise receive. Whether a fiduciary breach diminishes plan assets payable to all participants and beneficiaries, or only to persons tied to particular individual accounts, it creates the kind of harms that concerned the draftsmen of [ERISA’s liability provisions]. Consequently, our references to the “entire plan” in Russell…are beside the point in the defined contribution context.
Accordingly, the court held that Section 502(a)(2) “does authorize recovery for fiduciary breaches that impair the value of plan assets in a participant’s individual account.” The court vacated the Fourth Circuit’s judgment and remanded the case for further proceedings.
Press coverage of the LaRue case has suggested ( for example, here) that the decision may trigger “a raft of lawsuits by employees, particularly as stock market volatility once again is causing havoc with investment accounts.” It may well be that the LaRue decision will lead to a wave of new employee driven litigation. However, employees considering a lawsuit like LaRue’s should consider several things about the Supreme Court’s opinion.
The first is that the only thing LaRue has won is the right to continue his fight. He must now go back to the trial court to substantiate his claim. Justice Stevens specifically noted that “we do not decide whether petitioner made the alleged declarations in accordance with the requirements specified in the plan.”
An additional consideration is that LaRue will still have to overcome potentially significant defenses. For example, Justice Stevens also noted that the court did not decide whether LaRue is “required to exhaust remedies set forth in the Plan before seeking relief in federal court pursuant to Section 502(a)(2).” (Justice Roberts’ concurring opinion has extensive, technical discussion of the “exhaustion of administrative remedies” issue; suffice it to say here that the applicability of the exhaustion requirement is at best unresolved.)
Justice Stevens also said that the court did not resolve the question whether LaRue “asserted his rights in a timely fashion.”
In other words, even though LaRue’s has survived to fight another day, on remand he will face both potentially formidable defenses and daunting evidentiary challenges. Just because an individual may now have the right to pursue an individual claim for 401(k) losses does not mean that the individual has a great claim. Portfolio.com has a more detailed discussion of these issues here, stating among other things that “a ruling that should have been a comfort for the workingman is now a cause of concern.”
But assuming for the sake of argument that the LaRue decision will indeed result in a flood of litigation, these potential claims present a daunting prospect for company 401(k) plan sponsors. The possibility of many small, potentially vexatious individual claims arising out of the company’s defined contribution plan is an unwelcome development.
The prospect of a flood of claims also immediately presents questions about the availability of insurance protection for the claims. I have already had discussions with persons in the insurance industry about how the typical fiduciary liability policy might respond to this type of claim. These discussions have been preliminary only, but one question that has arisen is whether these individual 401(k) claims would trigger the “benefits due” exclusion found in the typical fiduciary liability policy.
While the various carriers’ policies vary, a fairly typical “benefits due” exclusion provides that the carrier “shall not be liable for that part of Loss, other than Defense Costs” that
constitutes benefits due or to become due under the terms of a Benefit Program unless, and to the extent that, (i) the Insured is a natural person and the benefits are payable by such Insured as a personal obligation, and (ii) recovery of the benefits is based on a covered Wrongful Act.
There are several important considerations presented in this language, but a preliminary (and perhaps preclusive) consideration is whether the “benefits due” exclusion would even apply to the kind of claim LaRue asserted. This preliminary consideration turns on a critical distinction about LaRue’s claim. That is, his claims for breach of fiduciary duty were based on Section 502(a)(2), and he did not assert claims for “benefits due” under Section 502(a)(1)(B). Indeed, in his concurring opinion, Chief Justice Roberts made much of this distinction, and in fact argues that LaRue should have filed his claim as a benefits due claim under 502(a)(1)(B) – which would more clearly have required exhaustion of administrative remedies – rather than as a claim for breach of fiduciary duty under 502(a)(2). A subtle statutory distinction perhaps, but it strongly suggests that the “benefits due” exclusion is irrelevant to an individual’s breach of fiduciary duty claim under Section 502(a)(2).
(For regular practitioners in this area, the foregoing distinction may be obvious, but as I am only an occasional visitor to this area of the law, the establishment of these critical distinctions requires conscious effort on my part)
Even assuming that the exclusion would be triggered, there are also several additional considerations that would determine how the exclusion would be applied. The first is that the exclusion does not in any event apply to defense expenses. This defense cost carve out from the exclusion could be very significant for companies confronted with a wave of individual employee 401(k) lawsuits. A host of small cases could become very expensive to defend.
The second point about the exclusion is that the exclusion’s coverage carve back at least preserves coverage for natural person insureds with a “personal obligation” to pay benefits due. (ERISA Section 409(a), the statute’s liability provision, specifies that plan fiduciaries are “personally liable”). Natural person fiduciaries are sometimes named as defendants in ERISA lawsuits, but it is noteworthy that LaRue at least named no natural person defendants in his lawsuit. If there were both natural person and entity defendants, and if this exclusion is otherwise triggered, there could potentially be difficult allocation issues for indemnity amounts.
One final note about the insurance issues is that most 401(k) plans are administered by third-party service providers. Plan fiduciaries of course retain their fiduciary responsibilities even if the plan retains a third party administrator, but to the extent insurers foot a loss, they might well seek to subrogate against the third party administrators.
The LaRue decision is still very fresh and reactions are still emerging. One issue that will be particularly interesting to watch, if the predicted flood of individual claims does indeed arise, is whether insurers will respond either through altered terms and conditions (such as requiring increased per claim self-insured retentions as a barrier to low level defense expense) or through changed pricing structures. Dramatic changes seem unlikely in the current environment, but if there really is a flood of claim, insurers may well react.
A particularly good, albeit technical, analysis of the LaRue decision can be found on the Workplace Prof Blog (here). An interesting analysis of the differences between and among the majority and the two concurring opinions can be found on the Boston ERISA & Insurance Litigation Blog (here).
Kevin M. LaCroix is an attorney and Executive Vice President, RT ProExec, a division of R-T Specialty, LLC. RT ProExec is an insurance intermediary focused exclusively on management liability issues. KevinMore...
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