ERISA:The State of the Industry

Roberta J. Ufford

Groom Law Group, Chartered

April 7, 2008

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Litigation Trends Developing Regulation

– Delinquent Contributions– Undirected Balances– Investment Advice (IRAs) – Participant Disclosure

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Litigation Trends

401(k) Plan Fee Litigation– Class actions brought by:

Participants against plan sponsorsParticipants against sponsors and service

providersPlan sponsors against service providers

– Key issues: duty of prudence; duty to disclose; 404(c) as a defense; participant standing

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Litigation Trends

Participant Standing - Supreme Court ruled that individual 401(k) participants may bring a breach of fiduciary duty claim, even if the breach only affected the individual participant’s account.– LaRue v. Dewolff, Boberg & Assocs., Inc., 2008 WL

440748 (Feb. 20, 2008)

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Litigation Trends

404(c) Defense– Some courts have suggested that 404(c) is a defense to

claims that selection of plan investment options was imprudent.

E.g., Langbecker v. Elec. Data Sys. Corp., 476 F.3d 299 (5th Cir. 2007); Hecker v. Deere & Co., 496 F. Supp. 2d 967 (W.D. Wisc. 2007).

– Other courts disagree. See, e.g., Tussey v. ABB, Inc., 2008 WL 379666 (Feb. 11,

2008). See also Tittle v. Enron Corp., 248 F. Supp. 511 (S.D. Texas 2003)(whether 404(c) shields fiduciaries is a question of fact)

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Litigation Trends

IRA Rollover Desk - Former participants allege:Principal breached fiduciary duty by

encouraging participants to rollover their accounts to Principal IRAs with higher cost funds.

Principal is a plan fiduciary based on ability to change funds available to plans and advice provided to sponsors and participants

– Young v. Principal Financial Group, Civil Action No. 4.07-CV-386 (S.D. Iowa)(filed Aug. 8, 2007).

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Litigation Trends

In-House Plan Litigation - Recent lawsuits allege prohibited transactions and breach of duty of prudence in connection with in-house plan investments in plan sponsor investment products.

– Gipson v. Wells Fargo & Co., No. 07-1970 (D.D.C. filed Nov. 1, 2007).

– Leber v. Citigroup, Inc., 07-9329 (S.D.N.Y. filed Oct. 18, 2007);

– David v. Alphin, no. 07-0011 (W.D.N.C. filed July 1, 2007).

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Delinquent Contributions

DOL proposed new “safe harbor” for deposits of employee contributions.– Current rule: contributions must be transmitted as

soon as “reasonably segregated” but no later than 15th business day of the following month.

– Proposed rule: for pension and welfare plans with fewer than 100 participants, contributions will be timely if transmitted within 7 business days.

Comments are due by April 29. 73 Fed Reg. 11070 (Feb. 29, 2008)

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Delinquent Contributions

New FAB addresses “trustee” responsibility to collect delinquent contributions and plan documentation requirements.– Plan documents must assign responsibility for

collecting contributions; if documents are ambiguous, trustee may be responsible.

– A trustee may be liable as a co-fiduciary if trustee is aware that contributions are delinquent.

FAB 2008-01 (Feb. 1, 2008)

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Delinquent Contributions

Court cases re: responsibility for contributions.– Recordkeeper didn’t have duty to ensure plan was funded

or notify participants that employer did not contribute.– Wilkinson v. Haworth, 186 F. Supp. 2d 687 (S.D. Miss. 2002).

– TPA not liable where sponsor embezzled contributions.– CSA 401(k) Plan v. Pension Professionals, Inc., 195 F. 3d 1135

(9th Cir. 1999).

– Recordkeeper/investment manager could be liable as co-fiduciary where sponsor did not transmit assets.

– Silverman v. Mutual Benefit Life Ins. Co., 138 F. 3d 98 (2nd Cir. 1998).

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Undirected Balances andDefault Investments

ERISA § 404(c) relieves fiduciaries from liability if losses are a “direct and necessary” result of participants’ exercise of control.

DOL regulations require “affirmative” participant directions; fiduciaries must direct investments if participants do not.

“Undirected” participant account balances result from –– Auto-enrollment, because participants are not required

to provide investment instructions, and– Deleting plan investment options.

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Undirected Balances andDefault Investments

Current standard – Fiduciaries must invest undirected account balances “prudently,” giving “appropriate consideration” to relevant facts and acting accordingly. See ERISA § 404.

PPA offers protection to fiduciaries:– Section 404(c)(4) - For a “qualified change in

investment options” (i.e. mapping) – Section 404(c)(5) - For investments in “qualified

default investment alternatives”

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Undirected Balances - Mapping

New ERISA § 404(c)(4) – Participants are treated as “exercising control” over their accounts in a “qualified change in investment options” if participant provided prior instructions.

– Replacement options (including their risk and return characteristics) must be “reasonably similar” to replaced options.

– Notice to participants at least 30 days (but not more than 60 days) before change must compare options.

– Participants must have opportunity to give different instructions.

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Default Investments - QDIA

New ERISA § 404(c)(5) – A participant is treated as exercising control over his or her plan account “in the absence of a direction,” if the account is invested in a “qualified default investment alternative” according to DOL regulations.

DOL final regulations:– Define “QDIA” and establish conditions for QDIAs– Establish participant notice and disclosure

conditions– Establish other plan conditions

72 Fed. Reg. 60452 (October 24, 2007)

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Default Investments – QDIA

What qualifies as a QDIA? – Target retirement date funds - designed to provide

varying degrees of long-term appreciation and capital preservation though a mix of equity and fixed income exposures, based on the participant’s age, with the objective of becoming more conservative over time.

– Balanced funds - designed to provide long-term appreciation and capital appreciation through a mix of equity and fixed income exposures consistent with a level of risk appropriate for participants of a plan as a whole.

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Default Investments – QDIA

What qualifies as a QDIA? – Managed accounts – management service that

allocates assets of a participant’s account to achieve varying degrees of long-term appreciation and capital preservation through a mix of equity and fixed income exposures, though investment alternatives available under the plan, based on the participant’s age or target retirement date. Not required to take into account individual participant’s risk tolerance or other preferences.

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Default Investments – QDIA

What qualifies as a QDIA? – Temporary QDIAs – “Principal preservation funds” for

up to 120 days after a participant’s first contribution, if the plan allows auto-enrollees to withdraw contributions.

– Grandfather QDIAs – For amounts invested before Dec. 24, 2007 in a product or fund designed to guarantee principal and a rate of return consistent with intermediate investment grade bonds while providing liquidity for withdrawals and transfers by participants.

Unclear whether stable value collective trust funds are covered.

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Default Investments – QDIA

All QDIAs must meet conditions:– No employer securities (subject to exceptions)– Must be a mutual fund, or managed by an

investment manager or named fiduciary (exceptions for temporary and grandfather QDIAs)

– Diversified, based on generally accepted investment theories (except temporary and grandfather QDIAs)

– Transferability and fee restrictions

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Default Investments – QDIA

Transferability and Fee Restrictions– No restrictions against exchanges from a QDIA, and

no redemption or withdrawal fees, for 90 days after a participant’s first contribution.

– “Ongoing fees” for investment management, distribution services, 12b-1 and administrative fees are allowed.

– After 90 days, a QDIA may have the same transfer restrictions and withdrawal fees as apply when participants elect to invest in the QDIA (but transfers must be allowed at least once every 3 months).

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Default Investments – QDIA

Participant Notice and Disclosure– Notice 30 days before assets are invested in a

QDIA. Participant must have the opportunity to direct the investment of his or her account balance.

Regulation establishes detailed information requirements for notices.

– Annual notice, 30 days before each plan year.– Participants receive automatic and “upon request”

disclosures required by DOL regulations under ERISA section 404(c).

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Default Investments – QDIA

QDIA – Outstanding Issues– Fiduciary relief for existing assets– Plan “reset” transactions– Target Fund with 100% equity allocations– Participant opportunity to provide instructions

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Participant Investment Advice

New ERISA § 408(b)(14) exempts –– The provision of investment advice to a plan

participant by a “fiduciary adviser,” and– The adviser’s (or affiliate’s) receipt of direct or

indirect compensation (including sales commissions and other fees) as a result of plan investments pursuant to the advice.

Discretionary management programs and advice to plan sponsors (e.g., fund selection) are not covered.

Available after December 31, 2006.

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Participant Investment Advice

ERISA § 408(b)(14) – “Eligible Arrangements”– Two types of “eligible arrangements”

Level-fees: Adviser’s fees do not vary based on advice, or Computer Model: Adviser provides advice using a computer

model certified annually by an independent expert.

– Plan fiduciary must authorize arrangement for plan.– Detailed participant disclosure, including all program fees

and the fiduciary adviser’s compensation arrangement. (DOL required to issue model form).

– Annual independent audit of services is required.

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Investment Advice: DOL Guidance

FAB 2007-01 interpreted § 408(b)(14)– Fee Leveling – financial institution and individual

adviser is the “fiduciary adviser;” fiduciary adviser fees must be level, but fees of affiliates may vary.

– Existing DOL interpretations that allow participant advice programs are not disturbed.

– Plan sponsor duties are same where sponsor relies on other relief to engage a fiduciary adviser.

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Investment Advice: IRAs

Pending Guidance for IRAs– IRAs are subject to excise tax provisions under

the Code, but not subject to ERISA.– PPA directed DOL to study the “feasibility” of

applying computer models to IRAs.If DOL determines that computer model

conditions are not feasible to apply to IRAs, then it is directed to issue a class exemption for investment advice to IRAs.

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Investment Advice - IRAs

DOL Guidance - Predictions – DOL will make a finding that computer models are

not feasible for IRAs.– DOL may propose a class exemption or

regulation that could apply to ERISA plans and IRAs.

May allow additional flexibility on the level-fee requirement.

May address “off the model” advice.

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Pending RegulationParticipant Disclosure

DOL Request for Information – What information is relevant to participants– Format; cost of disclosure

72 Fed. Reg. 20457 (Apr. 25, 2007) DOL may consider

– Standards for all plans, not just 404(c) plans– Improve disclosure of plan fees and expenses– Role of electronic and on request information