BNA Pension and Benefits Blog

Are we Professionals Ruining Defined Contribution Plans?

    Even though defined benefit plans will not disappear completely, there is little doubt, at least in the private sector, that those employers who have the option are abandoning those plans in favor of defined contribution plans.  This trend is occurring for two primary reasons:  employers believe such plans are less expensive and that they impose less risk on the sponsor.

    Clearly the first reason is not valid for those plans which hold company stock.  It is also not proving to be valid for those plans whose fiduciaries ignore their fiduciary duties.  Here, I am referring to those sponsors who believed what they were hearing from some providers that ERISA section 404(c) protected them from fiduciary exposure.  Just set up a plan, let somebody else run it and you are home free.

     The new round for excessive fee cases is clearly proving (as though the stock drop cases hadn't already proved it) that 404(c) provides little meaningful protection.  We, as advisors, are a part of the problem in that we clearly oversold 404(c) protection to some of our clients (or at least failed to impress upon them what their responsibililty was).  I don't know of a single plan sponsor who wants to pay excessive administrative fees--even if those fees are coming out of the sponsor's pocket rather than the sponsors.  Many sponsors never knew to ask.  Likewise, I am not aware of a single plan professional who did not know--at least in general terms--that revenue sharing, commission arrangements, etc. were not common practices in the industry.  The indefensible breach of duty that most plan sponsors committed was not that they caused their plans to pay too much, but that they had no idea at all of how much their plans were paying.   

     Our conduct as professionals did not help much either.  Even when some of us tried to find out the true cost of our plans, we were met by an industry response that it was none of our business or that the prospectus contained everything we needed to know.  Until what we all knew was going on privately became public, it was all business as usual.

     And so, what is our response now?  If you lack expertize, hire an expert.  If there are design flaws in your plan, hire a consultant.  If your participants don't know how to invest, hire more educators and advisors (even though most education programs have not been models of success).  If you want to be procedurally prudent (which is the best way to avoid a lawsuit) hire more lawyers. etc. etc.

     The apparent answer to todays problems in the defined contribution world (ignore for purposes of this blog the main problem of DC plans not providing enough for retirement) is to hire more advisors, brokers consultants, and lawyers.  In fact, we are well on our way to making DC plans as complicated to run as DB plans. 

     I would submit a better answer might be to go the other way--toward simplicity, with fewer advisors and fewer costs.  For example, if a plan is big enough, hire a professional manager to invest ALL plan assets.  If a plan is not big enough, limit investment options to index funds and target date (or similar) funds.

        The fact is that most 401(k) plan participants neither want to nor are trained to handle their own investments.  Sponsors were led to believe their own risk was lessened by transfering investment responsibility to employees.  Let's face the fact that the opposite is true.  In most cases, I would submit, the safest course for sponsors as well as the best option for a majority of participants, is professional management.  The second is cheap, safe options like index funds.  Of course this would probably provide less opportunity for the advisor community, but maybe that wouldn't be such a bad thing. 

   

Fees

Trying to be somewhat current and topical, with a vote scheduled this week in the House Education and Labor Committee on Rep. Miller's 401(k) Fair Disclosure for Retirement Security Act bill (HR 3185) and the DOL moving forward with proposed rules addressing these issues, I just wonder what the ultimate impact will be at the participant level.  While there will be much gnashing of teeth at the disclosure pains by the investment and plan community, will participants perceive this as something beneficial and worth all the effort?  My guess is no.  Given my experience with most participants, their focus is first on a relatively safe investment (which is not necessarily good) and second on an acceptable rate of return.  While they may be interested in knowing what the true expenses of operating a plan might be and to what extent revenues from their investment decisions are being used to pay these amounts, it will probably have little impact on their investment decisions.  Granted there may be a focused minority of participants who will pay close attention to this and will alter their decisions based on what they perceive, but I suspect the majority will not do much.  I'm interested in what others may feel on this point.  Are wheels spinning for not that much good?

The Interaction of LaRue, Bruch, and MetLife v. Glenn

The Supreme Court seems to have an increasing interest in addressing some of the long-standing remedial and procedural issues under ERISA. It recently decided one case, LaRue v. DeWolff, and there was a BNA blog and several comments about that. I agree with much of what was written on the blog, but I take issue with an interpretation of either ERISA or the Supreme Court's decision that would undercut the application of the benefit disputes/claims administrative process to issues that emanate from the combination of plan provisions and apparent administrative errors (such as found in LaRue). Although a failure to follow plan provisions can indeed be a fiduciary breach because of the requirement of Section 404(a)(1)(D) that fiduciaries operate the plan in accordance with governing documents (something that obviously a fiduciary must do). However, taken to its extreme, that would mean that every benefit miscalculation claim could be turned into a fiduciary breach, raise a 502(a)(2) claim, and undercut the exhaustion requirement for 502(a)(1)(B) claims. The better interpretation is to require exhaustion in LaRue and similar matters unless the participant can show futility. Once the matter has been through the administrative claim process, if the participant is still unhappy because the claim has been denied in whole or part, then he/she can proceed to litigation and presumably raise both 502(a)(1)(B) and 502(a)(2), although defendants may challenge the latter claim. Now, the issue is what should the court's standard of review be. That leads to another case the Supreme Court is currently considering, MetLife v. Glenn.

In that case, the Court will evaluate and determine what the standard should be in situations where the administrator (who is deciding the claim and/or appeal) is both the decision maker and will pay for any benefit. That would be particularly relevant regarding insured welfare plans where the insurance company makes all the decisions as well as self-insured welfare plans and presumably qualified plans where the sponsor/administrator decides the claim and appeal, makes some or all of the contributions and would be fully or partially liable if the claim was granted. The Solicitor of Labor has filed an amicus brief in the MetLife case arguing that a conflict of an administrator should be weighed as a factor in determining the reasonableness of a benefit determination. The Solicitor argues that all the circumstances should be weighed in considering how much, if any, deference should be given to the administrator's denial of the benefit claim. In this particular case, the Solicitor concludes that MetLife did abuse its discretion and argues that the Sixth Circuit's decision in plaintiff's favor should be upheld. Forgetting the merits of the particular case, the effective standard for evaluating abuse or arbitrary and capricious conduct seems to make sense and certainly offers key procedural and substantive protections for participants. It also underscores why it makes sense under a remedial statute such as ERISA for LaRue type claims to first go through the administrative processes before pursuing litigation. If an administrative denial is based on a sound, objective process, then deference makes sense. If not, the Solicitor's argument and the Sixth Circuit's decision in MetLife reflect the expected procedural result of limiting deference.

Now some have argued that it is meaningless for LaRue type claims to have to exhaust administrative remedies because ultimately there is no one to fund the benefit regarding a claim for loss under a 401(k) plan. But that is not really the case. Assuming the sponsor administers the claim and appeal process, any favorable decision will be funded by the sponsor. Assuming some outside person or entity administers the process, the sponsor would still be required to fund the lost benefit (if the participant is upheld) in accordance with the administrator's determination of what the plan provides or requires (which should effectively bind the sponsor). If the participant's claim is denied, then a court will ultimately determine the scope of review (i.e. the application of deference or not) and whether the participant's claim is upheld.

The courts are already clogged with a myriad of litigation on countless subjects. It makes no sense to turn every benefit denial or administrative error immediately into a federal lawsuit without, at least, attempting to pursue participant rights through the administrative review process. If that process is not administered in an objective and responsible manner, then it should be reformed and its decisions will not be upheld by courts until it is. Undoubtedly, plan sponsors want participants to have to exhaust any administrative processes before pursuing litigation. Perhaps, sometimes this desire is motivated by a true intent to resolve the matter in what it considers to be a fair and responsible way consistent with plan documents, etc. And, perhaps, in other situations, this desire is to construct a better litigation defense. However, regardless of its motivation, if its process is not fair and responsible, its decisions are not likely to be accorded deference. On the other hand, presumably, plaintiffs' counsel would prefer not to have to pursue the claim and appeal process because, if it is administered as it should be and denies the claim, then courts will normally give deference to its decisions. And, quite frankly, that is as it should be under the ERISA scheme and years worth of court decisions post Bruch v. Firestone. LaRue should not be used to effectively or indirectly overrule Bruch.

ERISA Preemption

The house passed its version of ERISA in the fall of 1973. The Senate approved its version in February of 1974. There were many differences to be reconciled by the Conference, which got underway in April of that year. One of them, however, was not the preemption of state law rule, which was the same in both bills. It provided for "subject matter" preemption. States were precluded from legislating with respect to matters addressed in ERISA. For example, no state could have imposed a vesting standard for retirement income plans because ERISA had a vesting rule for retirement income plans. Likewise, the other minimum standards (participation, accrual) and the funding standards. And no state could have imposed fiduciary standards on any kind of employee benefit plan because ERISA's rules applied to all plans. But that preemption rule could not have been used to prevent states from regulating, e.g., health care plans, in areas in which ERISA does not regulate. It was believed by the ERISA drafters that subject matter preemption was sufficient to prevent states from regulating that which Congress was regulating, and thus gave plan sponsors protection against having to cope with a multitude of differing state schemes that sought to do so.

And you all remember your high school civics textbook explanation of the role of conference committees in Congress: they reconcile differences between the respective bills passed by each of the houses, but they don’t mess with provisions that are the same in both bills.

So how, then, did we wind up with the utterly different, and much broader, preemption rule that was in ERISA as enacted? And why does the enacted provision say, "(1) the term 'State Law' includes all laws, decisions, rules, regulations, or other State action having the effect of law, of any State," and "(2) the term 'State' includes a State, any political subdivision thereof, or any agency or instrumentality of either, which purports to regulate, directly or indirectly, the terms and conditions of employee benefit plans covered by this title"?

Late in the Conference, a delegation of big business and big labor clambered up the Hill and confronted the conferees. The subject matter preemption rule, they said, had to be dramatically broadened, and if the conferees wouldn't change it, they threatened to combine their forces and defeat the conference substitute when it was brought to the floor of each house. What had gotten them so exercised?

For big business, it was the Monsanto case, in which the Supreme Court of Missouri had just upheld the assertion by the Missouri Insurance Commissioner that he had authority to regulate a self-insured health care plan sponsored by Monsanto. The big companies saw the specter of 50 state insurance commissioners miring them in a swamp of inconsistent regulations. For the unions, it was the efforts of some of the state supreme courts, acting in their capacity as arbiters of the ethics of the bar licensed to practice in their states, to outlaw "closed panel" legal services plans. The unions liked closed panel plans because they were cheaper to operate and easier to manage, and they were incensed that the bars of various jurisdictions that wanted more expensive plans and didn't like the idea of being managed were thwarting their effort to bring affordable legal services to their members. Take note that among the strongest advocates of "open panel" plans—plans in which participants were free to use any lawyer licensed in the jurisdiction— was the Litigation Section of the American Bar Association.

Facing the double-whammy of big business and big labor, the conference principals caved and directed the staff to work something out. The staff, already shattered by marathon sessions with a cast of thousands trying to reconcile serious differences in the two houses' bills and facing the very real deadline of an impending impeachment of our 37^th President (all believed that there was going to be an impeachment by the late summer of '74, and all knew that, if the ERISA conference substitute was not adopted by both houses before that point, it would be put off until the next Congress, and the two houses then would have to start all over again, literally from the beginning). So staff did what we all do when our choices are narrowed and become painfully clear—they hastily drafted what the business and labor lobbyists told them to draft. The logic was overpowering—get it done quickly because there is much else to do and very little time in which to do it.

But here's the human interest story. On the day the conference substitute came before the Senate, staff of four of the key senators scripted a colloquy for them to explain the operation of the new preemption rule. The senators, however, botched it. Badly. So badly, that it came out sounding as though they had decided to revert back to the original subject matter preemption and call the bluff of the Bigs. Sitting in the gallery that afternoon were two ABA Litigation Section lawyers who had come out from Chicago to observe. They heard what they heard, were ecstatic, zipped out to National Airport, and hopped on a plane back to Chicago to report their victory.

In the meantime, the Senate staff kicked into action. They hustled into the clerk's office, where the stenographers' transcripts were being edited, and began a little editing of their own. In short order, they had unbotched the colloquy. The next morning, the ABA envoys eagerly tore the plain brown wrapper off their newly arrived Congressional Record. Quel surprise!  In their anguish, they called a Labor Department lawyer who they knew had also listened to the colloquy. "You heard it," they said. "This is the exact opposite of what the senators said." He replied, "Do you see the words in the Record? That's what you heard." Not without some sympathy, he added, "Don't you know that the victors always write the history books?"

And, to come full circle, it obviously is not true that conferees cannot mess with a provision that is alike in both bills. They cannot mess with it only if a member objects to their having done so when the bill comes up for final passage.

So, that's how a relatively modest preemption rule was replaced by a hastily drafted, much broader rule that may be the most litigated provision in the statute.

If you could draft a new ERISA preemption rule, what would it say?

Steve Sacher

Jones Day

April 2, 2008