In the following guest post, Larry Fine takes a look at the implications of the U.S. Supreme Court’s April 2025 decision in the Cornell University ERISA fiduciary liability case. Larry is Management Liability Coverage Leader, Willis FINEX. A version of this article previously was published as a WTW client alert. I would like to thank Larry for allowing me to publish his article as a guest post on this site. I welcome guest post submissions from responsible authors on topics of interest to this site’s readers. Please contact me directly if you would like to submit a guest post. Here is Larry’s article.

TAKEAWAY: In the wake of the U.S. Supreme Court’s unanimous decision reinstating the prohibited transaction allegations in the class action against Cornell University, fiduciary insurers have understandably expressed concern that the decision could lead to an increased volume of meritless fiduciary litigation; however, there are reasons to believe that the effects of the decision may not be substantial. The challenge will be to persuade insurers not to act preemptively before it can be ascertained what the actual impact will be.

THE DECISION

In a unanimous decision, the U.S. Supreme Court reversed and remanded the Second Circuit’s affirmation of the dismissal of the prohibited transaction claim against Cornell University. The Court held that to state a claim under ERISA’s prohibited transaction provision plaintiffs need only plausibly allege the elements contained in that provision itself, without addressing potential exemptions. All the Justices agreed with Justice Sotomayor’s opinion of the Court that section 408 of ERISA lists affirmative defenses to a section 406 prohibited transaction claim, and that plaintiffs should never have to plead the absence of affirmative defenses when drafting a complaint.

Justice Alito wrote a concurrence, joined by Thomas and Kavanaugh, that bemoaned what they deemed to be the statutorily necessary result, warning of “untoward practical results” because “[t]he upshot is that all that a plaintiff must do in order to file a complaint that will get by a motion to dismiss under Federal Rule of Civil Procedure 12(b)(6) is to allege that the administrator did something [hired a service provider] that, as a practical matter, it is bound to do”.

Even the majority was somewhat concerned about a possible proliferation of frivolous litigation, with both sides endorsing the adoption of unusual procedures such as “if a fiduciary believes an exemption applies to bar a plaintiff ’s suit and files an answer showing as much, Federal Rule of Civil Procedure 7 empowers district courts to “insist that the plaintiff” file a reply “put[ting] forward specific, nonconclusory factual allegations” showing that the exemption does not apply” [citations omitted]”.

Justice Sotomayor also pointed out that plaintiffs must still plead a concrete injury in order to establish Article III standing, and that district courts can impose sanctions pursuant to Rule 11 of the Federal Rules of Civil Procedure and/or award legal fees to defendants in situations involving bad faith or other meritless litigation.

What’s a prohibited transaction?

Section 406 of ERISA (29 U.S.C. section 1106) addresses two main types of “prohibited transactions”: section (a) relates to “transactions between plan and party in interest” and section (b) relates to “transactions between plan and fiduciary”. The definition of “party in interest” to a plan includes any vendor “providing services to such plan.

Section 408 of ERISA (29 U.S.C. section 1108) deals with “exemptions from prohibited transactions”, with section (b) containing an “enumeration of transactions exempted from Section 1106 prohibitions”. Consequently, if an exemption applies, then a transaction isn’t, in fact, prohibited (and, as a corollary to that principle, if an exemption doesn’t apply, then any transaction within the ambit of Section 406 is prohibited). The exemption most commonly cited by defendants in countering allegations of prohibited transactions is the one contained in section 408(b)2 of ERISA: “b. The prohibitions provided in section 1106 of this title shall not apply to any of the following transactions: …2(A) Contracting or making reasonable arrangements with a party in interest for office space, or legal, accounting, or other services necessary for the establishment or operation of the plan, if no more than reasonable compensation is paid therefor.”

Many excessive fee lawsuits include allegations of prohibited transactions, which are considered to be breaches of the duty of loyalty, although the primary allegations are generally for breaches of the duty of prudence (generally premised on alleged violations of Section 404 of ERISA, or 29 U.S.C. 1104). It isn’t surprising that plaintiffs would include such allegations when a plan engages in transactions with the fiduciary itself as a service provider, such as when a plan sponsor’s proprietary funds are offered as pension plan investments (situations which trigger the application of ERISA section 406(b)). It’s less intuitive, however, when plaintiffs are questioning fees in relation to transactions with third parties such as recordkeepers who aren’t affiliated with the plan sponsor but are alleged to be “parties in interest” (situations which can trigger the application of ERISA section 406(a)).

REASONS WHY THE PRACTICAL EFFECT OF THIS DECISION ON ERISA CLASS ACTIONS MAY BE LESS THAN SOME ARE PREDICTING

There’s no way to argue that this decision is a great result for fiduciaries, but there are reasons to think that the world isn’t necessarily a much worse place for fiduciary defendants today than it was a couple of weeks ago.

First of all, this was already the state of the law in the 8^th  Circuit (see Braden v. Wal-Mart Stores) and arguably the 9^th Circuit (see Bugielski v. AT&T Services).

The decision doesn’t do much to alter the unpredictable fiduciary litigation playing field. Historically, class action plaintiff firms primarily allege breaches of the fiduciary duty of prudence, though they often also include counts alleging that there are prohibited transactions. There tends to be overlap between the allegations in the various counts, and the monetary relief sought is generally the same. Sometimes a whole complaint is dismissed; sometimes a whole complaint survives the initial motion; sometimes one or more counts are dismissed and others are allowed to proceed. In the Cornell case, the district court dismissed the prohibited transaction claims on the initial motion but declined to dismiss the prudence claims. Arguably Cornell was not better off as a result of its early success in defeating the prohibited transaction claims; if the prohibited transaction claims had survived the initial motion, they would have been addressed (and likely dismissed) along with the prudence claims at the summary judgment stage.

Some commentators have expressed fear that in the aftermath of the Supreme Court’s decision, plaintiffs could start to sue every single plan sponsor in the country and always survive motions to dismiss. This fear ignores certain practical aspects of litigation. Most importantly, as Justice Sotomayor pointed out, in order to have Article III standing the plaintiff will have to allege an injury and request relief that will address that injury. Although some plaintiffs may attempt to allege that merely paying a service provider with money from their accounts creates standing (whether or not the amounts are reasonable), presumably most plaintiffs will still allege that the fiduciaries are overpaying the party in interest in question. (As a practical matter, this is arguably equivalent to plaintiffs alleging the unavailability of the “no more than reasonable compensation” affirmative defense contained in ERISA section 408.)

The plaintiffs will still be subject to basic pleading standards such as those stated in Ashcroft v. Iqbal. The best way to establish an inference of excessive compensation will be to allege specific conflicts and indicia of disloyalty, so plaintiffs can still be expected to include these types of allegations in their pleadings if at all possible. Otherwise, the analysis of whether plaintiffs have stated a credible claim of overpayment will be subject to the same sort of criteria which are currently being applied (unevenly) in various circuits around the country in relation to prudence claims. The circuits which require reference to appropriate benchmarks in order to find an overpayment and sustain a prudence claim are likely to apply such requirements to prohibited transaction claims as well — although, perhaps, not in initial motion practice; circuits which allow plaintiffs to get past initial motions to dismiss without pleading such details will likely also fail to dismiss related prohibited transaction claims.

Some fear that plaintiffs may start filing stand-alone prohibited transaction claims (something which they currently seldom do) and with absolutely no basis. But that’s unlikely since plaintiffs probably will only want to sue those employers that they think, at the end of the day, probably paid unreasonable compensation even if they don’t bear the burden of proving that.  After all, shifting the burden to a defendant on an affirmative defense shouldn’t matter a lot ultimately, unless the evidence is so close as to effectively be equal. Plaintiffs were already getting by motions to dismiss by pleading fact-intensive imprudence claims, often without basis in actual fact (as they did in Cornell). Experienced ERISA plaintiff lawyers only have a certain amount of capacity; any increase in volume will probably come from first-time plaintiff firms trying to get into a promising new field. Complaints which allege prohibited transactions and don’t also allege imprudence should be viewed as highly suspect by defendants, and by judges.

The increased risk may mainly fall on insureds, since truly baseless claims will likely resolve below class action retentions.

The Cornell decision could wind up having some positive effects if the criticism of the current statutory scheme by both sides of the Supreme Court leads courts for the first time to seriously consider Rule 7 procedures and similar restrictive measures, as well as entertaining rule 11 sanction motions (which defense counsel will have to actually start making) and fee shifting against plaintiffs.

Also, given the unanimity that the current form of section 406 of ERISA is impractical, there might be legislative change (groups such as SPARK [the Society of Professional Asset Managers and Recordkeepers], are “calling on Congress to revisit ERISA’s litigation framework and explore reforms that will “discourage frivolous lawsuits while continuing to protect participants”) and even efforts by the current administration to weigh in for making changes.

Fiduciary insurance coverage for excessive fee and prohibited transaction claims

Fortunately, although the coverage provided by fiduciary insurance policies can vary substantially, nearly all fiduciary policies cover excessive fee class actions (including prohibited transaction claims) for both defense and indemnity, subject to any specific exclusions. This is because of certain common features which are designed to provide such coverage: generally broad coverage for plan sponsors and alleged fiduciaries, carve-outs from the benefits exclusion for claims involving investment losses, plus final adjudication standards and non-imputation as to Insured Persons in relation to the conduct exclusions. Furthermore, there are good arguments that the conduct exclusions don’t even apply to excessive fee claims, since they typically focus on imprudence as opposed to allegations of dishonesty or wrongful financial profit. Even alleged breaches of the duty of loyalty involving prohibited transactions shouldn’t trigger the conduct exclusions in cases like the one involving Cornell University, since the theoretically wrongful financial profit was allegedly gained by the purported “party in interest” and not the plan sponsor or a plan fiduciary. It would only be in cases involving transactions which allegedly implicate section 406(b) of ERISA (transactions between the plan and a fiduciary as opposed to a party in interest vendor) that an insurer might raise a question as to whether the exclusion relating to wrongful financial profit to an Insured could be potentially implicated if there was a final non-appealable adjudication to that effect (in relation to a particular Insured).

CONCLUSION:

While it is possible that the Cornell decision could lead to an increased frequency in meritless class actions being filed, pleading standards and standing requirements which are still in place may limit the impact. If there is an increase in volume, it may be short-lived if courts follow the Supreme Court’s suggestions for limiting such cases and penalizing the law firms which bring them. In any case, fiduciaries can rest assured that in general such lawsuits will trigger broad coverage under their fiduciary liability policies (to the extent that the exposures exceed the relevant class action retentions). Hopefully fiduciary insurers will be persuaded to stand by their insureds and not push for increases until it can be ascertained what the actual impact of the decision will be.

WTW hopes you found the general information provided in this publication informative and helpful. The information contained herein is not intended to constitute legal or other professional advice and should not be relied upon in lieu of consultation with your own legal advisors. In the event you would like more information regarding your insurance coverage, please do not hesitate to reach out to us. In North America, WTW offers insurance products through licensed entities, including Willis Towers Watson Northeast, Inc. (in the United States) and Willis Canada Inc. (in Canada).            

Lawrence Fine

Management Liability Coverage Leader, FINEX North America

Larry.fine@WTWco.com