Category: Erisa

With the New York Attorney General, the SEC, and a number of other regulatory agencies investigating mutual funds for improper trading practices, many executives, human resource professionals, and other individuals who serve on retirement plan committees and/or who are involved in communicating benefits to employees have concerns about their obligations under ERISA. Fresh on everyone’s mind are the Enron and WorldCom decisions in which executives and HR professionals were alleged to have violated ERISA through their inaction and lethargy in the face of corporate scandals. In addition, as the news brings more and more evidence of improper mutual fund practices to light, the mere job of keeping track of the different funds implicated is challenging in itself and has been likened to “trying to stop a dam from bursting by using your fingers to fill the holes.”

The selection of a mutual fund as an option for investment in a 401(k) plan subjects those who are responsible for making the selection to ERISA’s fiduciary standards. Those who serve as ERISA fiduciaries must monitor the mutual funds offered to participants on a continuing basis and determine whether or not they remain suitable investment options for participants. In connection with these fiduciary standards, the Department of Labor (which is in charge of ERISA enforcement) recently made the following comments about the mutual fund scandals:

What should plan fiduciaries do in light of the allegations? ERISA requires that plan investment decisions, including the selection of mutual funds, must be prudent and solely in the interest of the plan’s participants and beneficiaries. Allegations of improper mutual fund practices where a plan is invested must be factored into the fiduciary’s determination of the continuing appropriateness of that investment. . . .We expect that fiduciaries will be attentive to activities that materially affect the plan’s investment in the mutual fund or expose the plan to additional risk. . .[We] hope that the issues raised by Enron and similar cases have focused corporate officials on the important role fiduciaries play in protecting plan participants and has provided a necessary wake up call for people to take their fiduciary responsibilities seriously.

In light of recent events, those individuals who serve on retirement plan committees involved in monitoring investments of retirement plans (401(k) and the like) should consider taking the following steps:

Plan fiduciaries should obtain information and stay on top of what is happening with respect to the mutual fund companies in their 401(k) plan line-up. While the New York Attorney General and the SEC have been investigating mutual fund practices, plan fiduciaries should be proceeding with their own independent investigation as well. In order to take appropriate action such as removing funds from a plan’s line-up, fiduciaries should gather accurate information about a mutual fund’s involvement in the current investigation. This would include seeking and keeping track of information from various news sources, from consultants who advise the plan, and most importantly from the fund managers themselves. Many plan fiduciaries have already sent letters to all of their investment providers (even those not implicated) asking that a checklist of information be completed by them in order for the fiduciaries to be able to prudently monitor the provider’s status and involvement in the mutual fund scrutiny. Included in this checklist would be such questions as to whether or not the mutual fund complex represented in the plan has been implicated in market timing or late trading as well as what procedures the mutual fund has in place to prevent such practices.

Plan fiduciaries should analyze information and evaluate alternatives. It is apparent that, of the mutual funds under scrutiny, not all are engaged in the same level of activity as others and that different levels of involvement would require that different actions be taken with respect to the various mutual funds implicated. Here are a few of the questions that plan fiduciaries may want to consider in evaluating their mutual fund providers who have been involved in market timing or late trading:

• Does it appear that only a few individuals were involved in the improper behavior without the knowledge or consent of management?
• Does it appear that the improper conduct occurred at the management level of the company or was it condoned by management?
• Have or will criminal allegations be brought?

In addition, plan fiduciaries should weigh the risks of different alternatives. For instance, are asset values of the plan or participant accounts at risk? Could enough investors begin to withdraw their money so that returns could be affected?

The investment policy statement can also be very helpful in evaluating the information collected and determining whether or not fund offerings continue to meet the standards set forth in the investment policy statement.

Plan fiduciaries should act prudently based on available information and in accordance with applicable laws. Plan fiduciaries should not “act in a vacuum” without considering the following legal constraints:

• Plan fiduciaries must act “solely in the interest of plan participants and beneficiaries.” (ERISA section 404(a)(1))
• Plan fiduciaries must act in accordance with provisions of the plan documents. (ERISA section 404(a)(1)(D))
• Plan fiduciaries should act in accordance with the plan’s investment policy statement.
• Plan fiduciaries must act in accordance with any applicable laws, i.e. ERISA, Sarbanes-Oxley, state law (with respect to public plans), etc.

Plan fiduciaries should also consider the following courses of action with respect to an implicated mutual fund offering, depending on the information gathered and the results of the analysis performed:

• Plan fiduciaries may decide to continue to provide the same mutual fund investment offerings with ongoing monitoring.
• Plan fiduciaries may decide to place funds on a special “watch” status and wait for further developments.
• Plan fiduciaries may decide to remove certain mutual fund investment options and replace them with other options.

Plan fiduciaries should communicate with participants and beneficiaries where necessary and appropriate. Recent developments in the law have further emphasized the principle that participants and beneficiaries need to be informed on an ongoing basis of any material information which would affect participants’ and beneficiaries’ interests in the plan. In the wake of mutual fund scandals, plan fiduciaries including HR professionals who communicate benefits to participants will be faced with difficult decisions regarding their disclosure obligations to plan participants, particularly if the plan is a 401(k) plan where participants direct their own investments. These individuals must determine whether or not prudence requires them to disclose to participants that a fund’s manager is under investigation and what steps the fiduciaries are taking in response to the allegations. They must also decide whether or not prudence requires them to issue a communication to all participants or to simply respond to individual inquiries. Many of these questions should be answered with the help of legal counsel who has been apprised of all of the pertinent facts and circumstances. Certainly if funds are removed and new ones offered, section 404(c) of ERISA would require participants to receive reasonable advance notice of such changes. However, the replacement of a fund would not constitute a “blackout period” requiring a Sarbanes-Oxley type advance notice, according to language in the preamble to regulations finalized by the DOL this year, unless the replacement constituted a “temporary” replacement, or unless in connection with implementing a permanent replacement, some rights would be temporarily suspended, limited or restricted.

Additional Note to Fiduciaries:

Document, document, document! It is important that all aspects of the prudent processes described above be fully and carefully documented. Plan fiduciaries should keep communication logs, recording relevant information that has been considered, and should document the decisions made and the decision-making process through preparation of minutes of their plan fiduciary meetings.

Plan Committees should meet frequently as needed. In addition, while retirement plan committees may normally meet on a quarterly basis, the current mutual fund scrutiny will likely require more frequent meetings otherwise known as “special meetings” to be called and attended by plan fiduciaries. In the recent Enron decision, the judge mentioned the lack of frequent meetings by plan committee members as one indication that fiduciaries may not have met their fiduciary standards under ERISA.

Thanks to Mike O’Sullivan at Corp Law Blog for bringing humor to my day so early in the morning relating to this: “The Spotlight Shines on Benefitsblog.” You know, if Mike doesn’t get fan mail, it is probably because that big law firm of his has so many spam filters, that the fan mail is just not getting through. However, I have to tell you that I have been green with envy over his blog for the following reasons:

• He started Corp Law Blog about the same time as I started Benefitsblog and has over 700 links to his site as evidenced here.
• The auspicious Professor Bainbridge links to his blog frequently.
• His blog is part of TheCorporateCounsel.net Blog City.
• He has to “grind away” at those Big Law billable hours and still manages to be a very prolific and thoughtful writer.

I am sure Mike has made it into the spotlight as well and is just not letting on. But please send him some fan mail immediately just to make sure he knows how much we appreciate him.

(By the way, regarding the article, I am trying to negotiate with my teenager’s science teacher to see how much money is required for him to take this article down from the bulletin board where it is presently nestled among all of the school sports articles.)

Gardner, Carton & Douglas has a very helpful article analyzing “What the New Medicare Law Means for Employers.” Quote of Note: “Though there is no regulatory guidance on this point yet, employer-established or funded HSA arrangements would generally seem to be ERISA plans, and thus subject to the fiduciary, disclosure and other rules of ERISA, to the continuation requirements of COBRA, and the privacy and portability requirements of HIPAA.”

Our Daily Local News featured Benefitsblog yesterday in this article: “Attorney’s Blog Gets Recognition.” Just working my way up to the Wall Street Journal🙂 Correction, though, on statistics cited: Benefitsblog receives over 20,000 “visits” a month and over 60,000 “hits” a month.

Plan Sponsor has an interesting article: “Businessman Threatens To Pull K Plan From ING Due to Outsourcing.” The article reports that Fred Tedesco, president and co-owner of Pa-Ted Spring Co. Inc., sent a letter to ING Group threatening to take his company’s 70-person 401(k) plan business elsewhere if the company outsourced any more computer jobs.” Quote of Note:

Even though Tedesco said he realizes that losing his firm’s small 401(k), with several million dollars of assets, would mean little to ING, which has administered the plan for a year. . .”the whole point is to set the stage for other people to look at” the issue. . . The move by Tedesco may be the initial ripples of an oncoming small business tsunami. Several pro-American business groups are expected to start urging small businesses to take similar stands against insurers and financial services firms. Leading the charge is MADe in USA, a coalition of employees and owners of small and medium manufacturers that Tedesco helped create more than a year ago.

While I applaud Mr. Tadesco’s efforts (anyone who is a regular reader at Benefitsblog knows my great concerns about this whole outsourcing movement), this is another area where ERISA plan fiduciaries need to tread carefully. Generally, plan fiduciaries may not make investment decisions based on social, moral and other noneconomic criteria (referred to as “social investing”) unless the policy also satisfies ERISA’s fiduciary requirements of loyalty to plan participants, prudence, and diversification. The DOL has addressed these concerns in DOL IB 94-1 (1994), also known as DOL Reg. section 2509.94-1. See also, Advisory Opinion 98-04A in which the DOL stated:

The Department has expressed the view that the fiduciary standards of sections 403 and 404 do not preclude consideration of collateral benefits, such as those offered by a “socially- responsible” fund, in a fiduciary’s evaluation of a particular investment opportunity. However, the existence of such collateral benefits may be decisive only if the fiduciary determines that the investment offering the collateral benefits is expected to provide an investment return commensurate to alternative investments having similar risks. In this regard, the Department has construed the requirements that a fiduciary act solely in the interest of, and for the exclusive purpose of providing benefits to participants and beneficiaries, as prohibiting a fiduciary from subordinating the interests of participants and beneficiaries in their retirement income to unrelated objectives. In other words, in deciding whether and to what extent to invest in a particular investment, or to make a particular fund available as a designated investment alternative, a fiduciary must ordinarily consider only factors relating to the interests of plan participants and beneficiaries in their retirement income. A decision to make an investment, or to designate an investment alternative, may not be influenced by non-economic factors unless the investment ultimately chosen for the plan, when judged solely on the basis of its economic value, would be equal to or superior to alternative available investments.2

In discharging investment duties, it is the view of the Department that fiduciaries must, among other things, consider the role the particular investment or investment course of action in the plan’s investment portfolio, taking into account such factors as diversification, liquidity, and risk/return characteristics. Because every investment necessarily causes a plan to forgo other investment opportunities, fiduciaries also must consider expected return on alternative investments with similar risks available to the plan.

Regarding outsourcing in general, the New York Times reported last week: “Who Wins and Who Loses as Jobs Move Overseas?” In answer to the question “How big an issue is job migration?” an economist states:

Offshore outsourcing is a huge deal. We do not have a data series called jobs lost to offshore outsourcing, but 23 months into the recovery, private sector jobs are running nearly seven million workers below the norm of the typical hiring cycle. Something new is going on. America is short of jobs as never before, and the major candidates for our offshore outsourcing are ramping up employment as never before. So yes, I think two and two is four.

Also, Business Week Online had this: “The Rise Of India: Growth is only just starting, but the country’s brainpower is already reshaping Corporate America.”

Also, this from Philip Greenspun’s Weblog: “Outsourcing to India in Business Week and at MIT” (which by the way, inspired 86 comments with respect to one post.)

“Lawyers Are Warned on Mutual Fund Roles“: the New York Times is reporting. According to the article, the SEC is saying that regulators may soon open a new front in their investigation of possible wrongdoing at mutual funds, focusing on the role of lawyers who represent them. This focus on lawyers was revealed in a speech by SEC Commissioner Harvey J. Goldschmid, entitled “Mutual Fund Regulation: A Time for Healing and Reform,” before the ICI 2003 Securities Law Developments Conference on December 4, 2003. Here are some of his remarks:

Fund lawyers, under SEC rules that became effective August 5, 2003, have a similar “reporting up” duty. The SEC’s attorney conduct rules apply to any attorney employed by an investment manager who prepares, or assists in preparing, materials for a fund that the attorney has reason to believe will be submitted to or filed with the Commission by or on behalf of a fund.

Under these rules, an attorney who is aware of credible evidence of a material violation of the securities laws, or a material breach of fiduciary duty, must report this evidence up the chain-of-command or ladder to the fund’s chief legal officer, and ultimately, to the independent members of the mutual fund board.

This “reporting up” requirement should significantly enhance the flow of key legal information (involving “reasonably likely” material violations) to independent members of the fund board. “Reporting up” also empowers lawyers. The requirement will allow dispassionate, independent fund directors

Baby Tyler has arrived–congratulations to Denise! Also, welcome back David Giacalone of the former, but now renamed, Ethical Esq! (David has posted some wonderful Haiku poetry.)

In addition, Howard last week posted 20 Questions for Circuit Judge Richard A. Posner of the U.S. Court of Appeals for the Seventh Circuit. (For those who do not know, Judge Posner will likely be the author of an opinion in the appeal of the IBM cash balance plan decision.) Howard notes that a 1998 study of federal appellate judicial opinions issued between 1982 and 1995 found that Judge Posner’s opinions were, “by an ‘unusual’ statistical margin, cited by judges in other circuits more often than opinions written by any other judge.” I particularly enjoyed Judge Posner’s remarks about his most favorite opinions:

I can’t pick out my five favorite opinions; that would require me to have all 2000-odd in my head, or to reread them all, which would be impossible. It’s almost as if you were asking me to choose among my children. But I’ll name a few that I think of fondly, most of which involve art (in however debased a sense) and intellectual property: Mucha, Piarowski, Gracen, Douglass, Nelson, and my absurdly frequent beanie-baby opinions. I would also count among my favorites several of my tort and contract opinions, my dissent in the partial birth abortion case (Hope Clinic), some of my class-action opinions, like Rhone-Poulenc, my recent IP opinions in Apotex (a district court opinion) and Aimster, my privacy opinion in Haynes, and my recent antitrust opinion in the High Fructose case–but I could extend the list quite a bit, to include a number of tax, ERISA, religion, and Indian cases, without going back and reading all 2000+.

The following article from the Poughkeepsie Journal highlights what, I think, is becoming an area of litigation which more and more companies will have to deal with as baby boomers continue to age and as companies try to deal with the rising costs of health care and pension liabilities for older workers: “Ex-IBMers: Data show age bias.” The article notes how an IBM employee allegedly compiled data showing that older workers at IBM were being terminated at rates that exceeded those of their younger worker counterparts. Apparently, the employee started going through the data, making charts, and “was struck by what he saw happening.” (According to the article, the employee states that, in his group, 16 were let go and all were over 50, some having 33 years with the company.) The article notes that a complaint was filed October 7, 2003 against IBM alleging violations of the ADEA, the OWBPA, and ERISA. With respect to the ERISA claims, the complaint alleges employees were terminated in order to avoid increasing pension cost obligation for employees with greater years of service.

A more famous case involving a section 510 ERISA claim that received alot of publicity this year was the case of Millsap v. McDonnell Douglas Corp., No. 94-CV-633-H, from the Northern District of Oklahoma, which is in the process of being appealed. You can access some articles here and here discussing the Millsap case. The case was particularly significant because some of the evidence used to prove the ERISA 510 claims were certain memos from the actuaries showing that the defendants had analyzed the reduction in benefits which would occur if the plant were closed and such information had been memorialized in memos. One such memo prepared by the actuaries considered “various “what if” scenarios, analyzing the effect on costs and savings if the company decided to reduce heads.” The kinds of costs analyzed included “pension cost, savings cost, savings plan cost, health care cost, and just direct overhead cost.”

With more and more benefits work being done by consultants (as in the Millsap case), plaintiffs lawyers could have an easier job of proving their section 510 ERISA claims since employers who obtain advice from consultants will likely have more of these “smoking gun” type of memos in their files which demonstrate that certain employees were chosen for termination due to benefits costs. Because these memos are being derived from consultants, they will not be protected by attorney-client privilege, and could be used in an ERISA section 510 case to prove that the employer terminated employees based on benefits.

The court in Millsap stated as follows:

Plaintiffs’ prima facie case establishes that Defendant valued its pension surplus in a number of ways and it provided income on the corporation’s balance sheet. [Defendant] was being instructed by its outside actuaries with respect to how it could maximize the pension surplus by selecting for layoff or plant closing its older, more senior employees. Defendant also knew that there were significant costs that would occur if the Tulsa plant stayed open after 1993, when many employees would cross over to age 55 and qualify for greater pension benefits. This $24.7 million in cost savings would be material in a transaction the company says would have otherwise saved it $19 million.”

By the way, on a different note, the Wall Street Journal today notes a development in the IBM cash balance plan case: “IBM Says Pension-Plan Members Are Using ‘Unreasonable’ Formula.” Also, from the Seattle Post-Intelligencer: “IBM tells court it doesn’t owe back pay.”

Boston.com is reporting: “Funds Sued for Not Using ‘Fair Value’.” According to the article, the 20-odd complaints filed by the Illinois firm, Korein Tillery, focus on a fund’s net asset value, instead of market timing. The law suits argue that there would be no room for market timing if asset managers had used “fair value” to set the price of a fund’s share price. The lawsuits filed seek class action status and damages of more than $50,000 per plaintiff or class member, but not more than $75,000.

With all of the fallout from corporate, accounting and now mutual fund scandals pointing to possible lawsuits by pension and 401(k) plans seeking to recover losses, there is much discussion about whether, when and how ERISA plan fiduciaries must pursue recovery of losses for plan participants in possible lawsuits against the alleged wrongdoers. The Securities Litigation Watch (here) and the 10b-5 Daily (here) have both had discussions about the recent WorldCom decisions in which claims by public pension funds have been dismissed. An article at Law.com entitled “U.S. Judge Dismisses Several Claims in WorldCom Securities Class Action” (referred to at the Securities Law Beacon) states: “The federal judge overseeing securities litigation over accounting fraud at the former WorldCom Inc. has followed up tough criticism of the tactics of [a certain law firm] by dismissing several claims the plaintiff’s firm has brought on behalf of groups that have opted out of the class action.” In the decision–In State of Alaska Dept. of Revenue v. Ebbers, 2003 WL 22738546 (S.D.N.Y. Nov. 21, 2003)–the judge threw out claims brought by the State of Alaska Department of Revenue and the Alaska State Pension Investment Board, saying the claims were time-barred.

In a previous post entitled “Lessons for ERISA Plan Fiduciaries From a District Court Case, Part II,” I noted that there is much for ERISA plan fiduciaries to be wary of in contemplating individual and class action lawsuits on behalf of plan participants. The aforementioned decision is a case which illustrates how not getting the proper advice and how not taking action in a timely fashion can end up with institutional investors losing out entirely from any recovery. The court notes:

Plaintiffs who choose, as is their right, to pursue separate litigation may not enjoy the benefits of that separate litigation without bearing its burdens. One of the burdens plaintiffs bear is the obligation to commence their actions within the applicable statute of limitations . . .Having chosen to pursue an individual action prior to a decision on class certification, the Alaska Plaintiffs are not protected by the American Pipe tolling doctrine. Since they failed to amend their pleading with the period provided by Section 13, the Alaska Plaintiffs’ claims against the Additional Underwriter Defendants and the Individual Defendants are time-barred and dismissed with prejudice.

In another twist to the story, the Securities Litigation Watch in this post links to this letter by lead plaintiff’s counsel in the In re WorldCom, Inc. Securities Litigation in which he argues that Individual Action plaintiffs whose claims will be dismissed as being time-barred (like the Alaska claims) should instead be allowed to participate in the Class Action instead of having their claims dismissed with prejudice as to the Class Action:

[T]here is a significant risk that the Individual Action plaintiffs who filed cases . . . may not have understood the risks associated with filing that action, including that such action could be time-barred. Indeed, the Court has already determined that counsel to certain Individual Action plaintiffs engaged in an active campaign to solicit plaintiffs to file individual actions by inducing confusion and misunderstanding regarding the benefits of an individual action and by derogating the class action option. . . This is further reason for fashioning an outcome which refrains from punishing these otherwise innocent investors for a decision that may have been the product of a misguided solicitation campaign.

On a related issue, the Securities Litigation Watch also has this article: “Puncturing the Myths of Opting Out.”

Also, the Securities Law Beacon refers to this press release–“WorldCom Investors and Employees Choose Arbitration Over Class Action“–in which it is announced that a law firm is “pursuing claims in excess of $50 million against Salomon Smith Barney, on behalf of present and former WorldCom investors and employees whose portfolios were concentrated in WorldCom stock and who do not wish to participate in any class actions.” The press release points to some helpful information for those institutional investors weighing litigation options against brokerage firms. You can access some information entitled “Understanding the Securities Arbitration Process” as well as “Securities Class Action Lawsuits Against Wall Street Brokerages vs. Securities Arbitration Claims: A Study to Determine the Appropriate Path for Securities Dispute Resolution.“