A previous post here at ERISAblog entitled “Perils for Plan Fiduciaries: Deciding When and How to Sue For Losses” discussed some worrisome news in the In re WorldCom, Inc. Securities Litigation case about how certain fiduciaries of pension funds had possibly jeopardized their claims on behalf of plan participants by filing individual actions prior to a decision on class action certification and how the judge in the case had followed up with tough criticism of the law firm that represented the fiduciaries. I noted how “there is much for ERISA plan fiduciaries to be wary of in contemplating individual and class action lawsuits on behalf of plan participants.” Apparently, the Department of Labor thinks so too as evidenced in their issuance of final Prohibited Transaction Exemption 2003-39 (pdf version) (html version) covering issues pertaining to the settlement of litigation by employee benefits plans with parties in interest. The main purpose of the exemption is to permit plans to release claims against “parties in interest” in connection with settlements of ongoing or threatened litigation where the DOL is not a party to the litigation. The exemption is an important one for the benefits community in light of the fact that, as discussed previously, many plans will be, or already are, bringing lawsuits on behalf of plan participants trying to recoup losses from recent corporate scandals as well as mutual fund scandals.
Why does the DOL need to issue an exemption for a plan fiduciary to enter into a settlement on behalf of a plan? When plan fiduciaries enter into such agreements on behalf of plans which are suing such entities as the employer, an investment provider, etc, those entities are normally “parties in interest” (i.e. related to the plan under ERISA and DOL regulations). And without going into detail about all of the complicated prohibited transaction rules, suffice it to say that the DOL views a potential claim or “chose in action” as a type of property and that a plan’s release of its claim against such party in interest may constitute a prohibited sale or exchange with the plan, as well as a prohibited transfer or use of plan assets for the benefit of a party in interest. (See DOL Opinion Letter 95-26A which provides some guidance regarding how this type of prohibited transaction can occur. Also, see PTE 1999-31.)
However, in spite of its views, the DOL notes the confusion surrounding the issue and that “some attorneys may have advised their clients that the settlement of litigation with a party in interest is not the type of transaction intended to be covered by section 406 of the Act.” With this in mind, here is what the DOL says about the reason for its issuance of the exemption:
As the Department noted in proposing this exemption, the fact that a transaction is subject to an administrative exemption is not dispositive of whether the transaction is, in fact, a prohibited transaction. Rather, the exemption is being granted in response to uncertainty expressed on the part of plan fiduciaries charged with the responsibility under ERISA for determining whether it is in the interests of a plan’s participants and beneficiaries to enter into a settlement agreement with a party in interest. The comments have confirmed the department’s earlier conclusion that there was considerable uncertainty surrounding this issue. After considering all of the comments, the Department has determined that the exemption, as revised, appropriately balances the concerns of these commentators while allowing plan fiduciaries to properly carry out their responsibilities under ERISA.
The exemption is really narrowly tailored to address those settlement agreements which result in prohibited transactions. However, there is DOL guidance in the exemption which really has application for fiduciaries on a broader scale so that the exemption can serve somewhat as a “manual” for ERISA plan fiduciaries who find themselves having to enter into settlements on behalf of plan participants.
However, I wish to note one aspect of the exemption which is troubling from the standpoint of the effect it will have on the cost of litigation and trying to make plan participants whole–that is, the DOL’s requirement in the exemption that the plan must obtain the opinion of an attorney representing the plan that a “genuine controversy exists.” (i>Formal legal opinions are almost always a costly endeavor.) Now I suppose I should be singing’ Dixie and praising the DOL for enhancing the flow of work to benefits and ERISA attorneys around the country, but I get concerned when I think of all that is going on here. When you think about the fact that participants have already been harmed in the matter and that attorneys representing the plan will receive a sizable portion of any settlement, and when you add to that, the requirement that the plan engage an “independent fiduciary” as well as this requirement that the plan engage an attorney to write an opinion that there is a “genuine controversy,” all of this adds up to a great deal of cost which will eat away at any recovery for plan participants. Apparently, according to language in the original proposed exemption, the purpose of the attorney opinion requirement is as follows:
The Department believes that this condition is necessary to prevent the plan and parties in interest from engaging in a sham transaction purporting to fall within this class exemption, thus shielding a transaction, such as an extension of credit, that would otherwise be prohibited. The existence of a genuine controversy must be determined by an attorney retained to advise the plan. That attorney must be independent of the other parties to the litigation.
In the preamble to the final exemption, the DOL notes one commenter who recommended retaining the requirement for a genuine controversy, but without requiring an attorney opinion so that the attorney review would be permitted, but not required, as a safe harbor in certain situations. To me, this makes much more sense and would avoid needless cost for the majority of plans which find themselves in the position of having to recoup losses in litigation, for which the issue of “genuine controversy” is a far-gone conclusion. In other words, requiring all plans to obtain the opinion of counsel to avoid the possible abuse which can occur in the minority of cases is rather like trying to kill a fly with a bazooka. Nevertheless, this final exemption will require the opinion of counsel, except in situations where the case has been certified for class-action.
Some additional comments about the exemption:
(1) The DOL has eliminated the requirement that the independent fiduciary “negotiate” the settlement because it realizes that in class action settlements, the “plan fiduciary’s role in negotiating the terms of the settlement may be limited.” However, the DOL warns that “even where negotiation does not take place between the plan and the defendant, a fiduciary will be compelled, consistent with ERISA’s fiduciary responsibility provisions, to make a decision regarding the settlement on behalf of the plan, even if that decision is merely to accept or reject a proposed settlement negotiated by other class members.”
(2) Regarding class action lawsuits, the DOL had much to say in the exemption. A Plan fiduciary, faced with a non-opt out class action settlement, “must take such actions as are appropriate under the particular circumstances” and “object to its terms” where necessary on behalf of plan participants. “If the fiduciary takes no action, and the case is settled for far less than the full value of the plan’s losses, the burden will be on the fiduciary to justify its inaction.”
(3) The original proposed exemption only allowed the receipt of cash in exchange for a release. The final exemption permits “assets other than cash” where necessary to rescind a transaction that is the subject of the litigation, or where such assets are qualifying employer securities for which there is a generally recognized market and value.
(5) The final exemption provides that the settlement must be reasonable in light of the plan’s likelihood of full recovery, the risks and costs of litigation, and the value of claims foregone.
(6) Finally, the DOL addresses the fact that it is not uncommon for the same transactions to give rise to both ERISA and securities fraud claims and that participants and/or fiduciaries have been able to modify the terms of a release to permit the plan to receive a share of the securities fraud settlement without releasing its ERISA claims against the parties in interest. The DOL notes “that plan fiduciaries should consider whether additional relief may be available for the ERISA claims before agreeing to a broad release.”