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).