401(k) Plan Sponsors Targeted for ERISA Lawsuits

Nothing is more important to law firm success than having talented, motivated employees. From the receptionists who greet clients to the lawyers who service the business, every employee contributes. Benefit plans are a significant factor in the ability of law firms to recruit and retain top talent. One of the most common benefit offerings is the 401k plan. While employers can and often do contribute to these plans, the core component is each employee's ability to save a portion of his earnings tax deferred. As such, 401k plans can be instituted at very low cost to the firm.

Most law firms are not large enough to have a full-time employee tasked with managing the firm's benefits. Responsibility can lay in the hands of a partner, an administrative employee, or a third party. Chances are that managing the 401k plan will fall relatively low on the list of priorities. Many firms will set up a plan with the assistance of a vendor, enroll the employees, and rarely think about plan administration, assuming all is well. Up until two years ago, taking such a laissez-faire approach, while not necessarily prudent, was unlikely to result in a lawsuit because employees could not file suit under ERISA for losses related to their individual accounts. This principle changed with the Supreme Court's decision in Larue v. DeWolff, holding 401k plan participants have a cause of action under ERISA to sue for individual, as opposed to planwide, losses. To this end, law firms need to take a close look at who the fiduciaries are with respect to their plan, and how the plan is being managed. This is particularly true in partnerships where one partner's conduct can result in liability for others.

Background

In Larue, the plaintiff claimed that his 401k plan's fiduciaries had failed to carry out trading instructions he submitted, resulting in a loss of $150,000 to his individual retirement account. His claim was initially rejected by the Fourth Circuit, which concluded that the plaintiff's individual losses were not losses to the plan, and as such, could not form the basis of a claim. The Supreme Court reversed, holding for the first time that ERISA provided a cause of action for individual losses.

In examining its ERISA jurisprudence, the Court looked at the greatly changing landscape of employee benefits over the last 30 years. When ERISA was enacted, defined benefit pension plans that were entirely employer-funded were the standard. For this type of plan, the plan sponsor set up a trust to pay out all future benefits, and employees received pension benefits based usually on a combination of age and length of service. Now, true pension plans are rare ' the 401k plan, and other similar individual account plans, have become the norm.

Under defined benefit pension plans, breaches of fiduciary duty, such as poor investing, mismanagement, and outright theft, diminished the value of the corpus of the trust and affected the company's obligation to fund the plan rather than reducing the employees' benefits. However, 401k plans shift the risk of investment losses to participants, because of their nature as individual account plans. Thus, breaches of fiduciary duty that result in investment losses directly reduce the amount the plaintiff has available at retirement.

How Larue Changed the Landscape

Since the Larue decision was handed down, it has been cited in over 120 decisions in both appellate and district courts. This is not necessarily the floodgate of litigation one might have expected with the performance of the stock market over the past two years. Nevertheless, these cases do highlight problem areas that are creating claims.

Appropriate Amendment Procedures

If a law firm is struggling, one of the expenses often cut are the firm's contributions to its 401k plan. But cutting off these payments without adhering to appropriate amendment procedures could result in personal liability of the firm's partners for the unpaid contributions. For example, in the bankruptcy proceedings of Brobeck, Phleger & Harrison, part of the claim the Trustee made against the former partners was for 401k plan contributions that were not made. If a firm has a 401k plan and looks to cut payments to the plan as a method of cost-savings, it will likely require a plan amendment. This step should be taken sooner rather than later as once benefits become vested under the plan, there will be no method of terminating liability.

Selection of Providers

The selection of the providers to the plan, such as third-party administrators, investment advisers and accountants, requires increased care. While in Larue the employer also actually acted as the plan administrator, this is rarely the case. Most firms hire a third party to handle transactions such as holding the accounts and handling all the day-to-day work associated with loans, withdrawals, and investment elections. Firms need to be very aware of the language of the contracts entered into with these providers. In most cases, these contracts either eschew fiduciary responsibility on the part of the provider, or provide for indemnification by the firm if a participant sues the TPA. Likewise, firms should thoroughly investigate providers to confirm them as prudent choices.

Investment Options

Litigation is also arising from the selection of investment options for plan participants. The firm's choice of mutual funds offered as investments by the plan can be challenged as imprudent. Today, many of these choices are being called into question not based on the performance of the fund, but on an allegation that the fees charged by the fund are excessive. Fund fees and the plan fiduciaries' obligation to review them have received significant press, and the Department of Labor (DOL) has recently issued regulations governing fee disclosures. To this end, a law firm should appoint an investment committee charged with selecting the investment vehicles for the plan, and reviewing the performance of those investments at least twice a year. Many businesses have quarterly investment review as their standard. The committee needs to be aware of the fees charged by each fund and provide a diverse selection of investments for plan participants. In addition, the performance of an investment fund should be benchmarked against its peers. Too often, firms do no more than rubber-stamp a vendor's investment selection, not realizing the potential this creates for liability.

Timing

Perhaps the next area where litigation arises will involve the timing of the submission of the employee's withheld wages for investment. When firms have poor collections, the temptation exists to hold onto the employees' contributions and deposit them at a later date. This must be avoided. Employers must submit deductions from employees' pay “as soon as administratively feasible.” This standard is subject to individual situations, but informally, the DOL takes the position that it should be no more than five business days. While market fluctuations may make it hard to prove losses, it is possible for an employee's individual account to suffer losses as a result of late submission of funds. If the DOL finds late contributions during an audit, it assumes that the participant has lost money, and requires the employer to pay interest on the late submission without regard to whether there is an actual loss. Using participant funds rather than submitting them to the 401k plan can result in both civil and criminal sanctions. On a related note, the DOL is increasing the number of audits it is conducting of 401k plans. As such, self-auditing for compliance with all regulations is a timely idea.

Conclusion

401k Plans are now a ripe area for lawsuits because of the specter of claims based on one individual's losses. Law firms should act now to take stock of how they are administering their plans, and seriously consider hiring a professional to perform an audit to look for problem areas. Remedying problems in advance will go a long way toward avoiding lawsuits.

Edward F. Harold is a Partner in Fisher & Phillips LLP's New Orleans office. His employee benefits practice encompasses litigating ERISA breach of fiduciary duty cases as well as advising employers on preventative measures to avoid claims. He can be reached at [email protected].

Nothing is more important to law firm success than having talented, motivated employees. From the receptionists who greet clients to the lawyers who service the business, every employee contributes. Benefit plans are a significant factor in the ability of law firms to recruit and retain top talent. One of the most common benefit offerings is the 401k plan. While employers can and often do contribute to these plans, the core component is each employee's ability to save a portion of his earnings tax deferred. As such, 401k plans can be instituted at very low cost to the firm.

Most law firms are not large enough to have a full-time employee tasked with managing the firm's benefits. Responsibility can lay in the hands of a partner, an administrative employee, or a third party. Chances are that managing the 401k plan will fall relatively low on the list of priorities. Many firms will set up a plan with the assistance of a vendor, enroll the employees, and rarely think about plan administration, assuming all is well. Up until two years ago, taking such a laissez-faire approach, while not necessarily prudent, was unlikely to result in a lawsuit because employees could not file suit under ERISA for losses related to their individual accounts. This principle changed with the Supreme Court's decision in Larue v. DeWolff, holding 401k plan participants have a cause of action under ERISA to sue for individual, as opposed to planwide, losses. To this end, law firms need to take a close look at who the fiduciaries are with respect to their plan, and how the plan is being managed. This is particularly true in partnerships where one partner's conduct can result in liability for others.

Background

In Larue, the plaintiff claimed that his 401k plan's fiduciaries had failed to carry out trading instructions he submitted, resulting in a loss of $150,000 to his individual retirement account. His claim was initially rejected by the Fourth Circuit, which concluded that the plaintiff's individual losses were not losses to the plan, and as such, could not form the basis of a claim. The Supreme Court reversed, holding for the first time that ERISA provided a cause of action for individual losses.

In examining its ERISA jurisprudence, the Court looked at the greatly changing landscape of employee benefits over the last 30 years. When ERISA was enacted, defined benefit pension plans that were entirely employer-funded were the standard. For this type of plan, the plan sponsor set up a trust to pay out all future benefits, and employees received pension benefits based usually on a combination of age and length of service. Now, true pension plans are rare ' the 401k plan, and other similar individual account plans, have become the norm.

Under defined benefit pension plans, breaches of fiduciary duty, such as poor investing, mismanagement, and outright theft, diminished the value of the corpus of the trust and affected the company's obligation to fund the plan rather than reducing the employees' benefits. However, 401k plans shift the risk of investment losses to participants, because of their nature as individual account plans. Thus, breaches of fiduciary duty that result in investment losses directly reduce the amount the plaintiff has available at retirement.

How Larue Changed the Landscape

Since the Larue decision was handed down, it has been cited in over 120 decisions in both appellate and district courts. This is not necessarily the floodgate of litigation one might have expected with the performance of the stock market over the past two years. Nevertheless, these cases do highlight problem areas that are creating claims.

Appropriate Amendment Procedures

If a law firm is struggling, one of the expenses often cut are the firm's contributions to its 401k plan. But cutting off these payments without adhering to appropriate amendment procedures could result in personal liability of the firm's partners for the unpaid contributions. For example, in the bankruptcy proceedings of Brobeck, Phleger & Harrison, part of the claim the Trustee made against the former partners was for 401k plan contributions that were not made. If a firm has a 401k plan and looks to cut payments to the plan as a method of cost-savings, it will likely require a plan amendment. This step should be taken sooner rather than later as once benefits become vested under the plan, there will be no method of terminating liability.

Selection of Providers

The selection of the providers to the plan, such as third-party administrators, investment advisers and accountants, requires increased care. While in Larue the employer also actually acted as the plan administrator, this is rarely the case. Most firms hire a third party to handle transactions such as holding the accounts and handling all the day-to-day work associated with loans, withdrawals, and investment elections. Firms need to be very aware of the language of the contracts entered into with these providers. In most cases, these contracts either eschew fiduciary responsibility on the part of the provider, or provide for indemnification by the firm if a participant sues the TPA. Likewise, firms should thoroughly investigate providers to confirm them as prudent choices.

Investment Options

Litigation is also arising from the selection of investment options for plan participants. The firm's choice of mutual funds offered as investments by the plan can be challenged as imprudent. Today, many of these choices are being called into question not based on the performance of the fund, but on an allegation that the fees charged by the fund are excessive. Fund fees and the plan fiduciaries' obligation to review them have received significant press, and the Department of Labor (DOL) has recently issued regulations governing fee disclosures. To this end, a law firm should appoint an investment committee charged with selecting the investment vehicles for the plan, and reviewing the performance of those investments at least twice a year. Many businesses have quarterly investment review as their standard. The committee needs to be aware of the fees charged by each fund and provide a diverse selection of investments for plan participants. In addition, the performance of an investment fund should be benchmarked against its peers. Too often, firms do no more than rubber-stamp a vendor's investment selection, not realizing the potential this creates for liability.

Timing

Perhaps the next area where litigation arises will involve the timing of the submission of the employee's withheld wages for investment. When firms have poor collections, the temptation exists to hold onto the employees' contributions and deposit them at a later date. This must be avoided. Employers must submit deductions from employees' pay “as soon as administratively feasible.” This standard is subject to individual situations, but informally, the DOL takes the position that it should be no more than five business days. While market fluctuations may make it hard to prove losses, it is possible for an employee's individual account to suffer losses as a result of late submission of funds. If the DOL finds late contributions during an audit, it assumes that the participant has lost money, and requires the employer to pay interest on the late submission without regard to whether there is an actual loss. Using participant funds rather than submitting them to the 401k plan can result in both civil and criminal sanctions. On a related note, the DOL is increasing the number of audits it is conducting of 401k plans. As such, self-auditing for compliance with all regulations is a timely idea.

Conclusion

401k Plans are now a ripe area for lawsuits because of the specter of claims based on one individual's losses. Law firms should act now to take stock of how they are administering their plans, and seriously consider hiring a professional to perform an audit to look for problem areas. Remedying problems in advance will go a long way toward avoiding lawsuits.

Edward F. Harold is a Partner in Fisher & Phillips LLP's New Orleans office. His employee benefits practice encompasses litigating ERISA breach of fiduciary duty cases as well as advising employers on preventative measures to avoid claims. He can be reached at [email protected].