Employee Benefits & Executive Compensation Blog

The View from Proskauer on Developments in the World of Employee Benefits, Executive Compensation & ERISA Litigation

Fifth Circuit Vacates DOL Fiduciary Rule

In a 2-1 decision, the U.S. Court of Appeals for the Fifth Circuit vacated the Department of Labor’s fiduciary rule, including the expanded definition of “investment advice fiduciary” and the associated exemptions. The decision nullifies the Department’s 2016 regulation—at least in the Fifth Circuit, which includes Texas, Louisiana, and Mississippi, and arguably nationwide—but is not likely to be the last word on this topic.  The case is U.S. Chamber of Commerce v. DOL, No. 17-10238, 2018 WL 1325019 (5th Cir Mar. 15, 2018).  In response to the Fifth Circuit’s decision, the Department announced that it will not enforce the fiduciary rule, pending further review.  However, the Department did not withdraw the rule or speak for the IRS.

Over the course of more than forty pages, the majority decision recounted the history of ERISA’s definition of fiduciary and concluded that the Department’s expansion of the definition reflected a policy decision that was beyond the Department’s authority.  In so holding, the Court explained that expansion of service providers’ obligations under the law and individuals’ ability to enforce the law in court requires an act of Congress rather than an unelected agency of the Executive branch.

The Court first determined that the statute’s definition of fiduciary was not ambiguous and must be interpreted consistently with the common law.  In particular, the Court highlighted a distinction in the common law between an “investment adviser,” who regularly gives advice that is the primary basis for investment decisions, and a broker-dealer, whose principal role is sales.  The Court concluded that the Department’s 1975 definition of “investment advice fiduciary”—the five-part test that the Department said was outdated and too narrow—properly reflected that distinction.  Although the Court left the door open for the Department to make changes to the definition, the Court rejected the Department’s justification for a complete rewrite:

That times have changed, the financial market has become more complex, and IRA accounts have assumed enormous importance are arguments for Congress to make adjustments in the law, or for other appropriate federal or state regulators to act within their authority.

Second, even assuming that the statute’s definition of fiduciary was ambiguous, the majority concluded that the Department’s expanded definition was not a “reasonable” interpretation of the statute.  The Court detailed a number of reasons for this conclusion, including the following:

  • The fiduciary rule ignores Congress’s decision in ERISA to subject employer-sponsored plans to a different regime than IRAs. In particular, the Court observed that the statute does not subject IRA fiduciaries to ERISA’s duties of prudence and loyalty or to ERISA’s private right of action.  The new Best Interest Contract Exemption would wipe away this distinction, because its conditions include a contractual commitment to the duties of prudence and loyalty that can be enforced by a private right of action.
  • By the Department’s own admission, the new definition of “investment advice fiduciary” could “sweep in some relationships that are not appropriately regarded as fiduciary in nature.” The Court rejected the Best Interest Contract Exemption as a solution to this defect because the exemption is conditioned on taking on the very fiduciary status, responsibility, and risk that the Department acknowledged may not have been intended.
  • The Best Interest Contract Exemption violates Constitutional separation of powers: only Congress may create privately enforceable rights of action. In addition, the exemption’s restriction of arbitration provisions (subsequently abandoned by the Department) violates the Federal Arbitration Act.
  • The fiduciary rule essentially outflanks Congressional initiatives under the Dodd-Frank Act to bestow oversight of broker/dealers upon the SEC. “Rather than infringing on SEC turf, DOL ought to have deferred to Congress’s very specific Dodd-Frank delegations and conferred with and supported SEC practices to assist IRA and all other individual investors.”

What does this all mean? The direct consequence of the Court’s decision is that the expanded definition of “investment advice fiduciary” is no longer enforceable, at least within the Fifth Circuit.  Pending review of the decision, the Department is not enforcing the fiduciary rule.  We do not expect this to be the final word, however.  The rule has not been withdrawn and the Department can still seek rehearing by the Fifth Circuit (either by the same panel or by the full Court) and/or review by the U.S. Supreme Court.

More indirectly, the decision articulates principles that could embolden the Trump administration’s general deregulatory agenda and might affect the Department’s review of the fiduciary rule.  Even if other courts continue to disagree with the Fifth Circuit’s conclusion (as the Tenth Circuit did most recently, discussed here), the decision further clears a path for withdrawing the fiduciary rule or a regulatory compromise that softens its impact—for example, by expanding the “seller’s” exception and eliminating the most onerous requirements for the Best Interest Contract Exemption.

In the coming months and years, we expect to see continued focus on the fiduciary standard in all three branches of government:

  • Challenges related to the Department’s authority (both to create the new rule and to scale it back) are likely to continue in the courts.
  • So far, the Department is continuing its review of the rule; and even if the Department puts it aside, a future administration could reopen the project.
  • Members of Congress are likely to continue proposing legislation going both ways—with one side of the aisle seeking to expand the definition of fiduciary legislatively and the other side seeking consistency between DOL and the SEC.

It is too soon to guess where things will end up, and probably premature to change compliance strategies dramatically.  Stay tuned.

Tenth Circuit Upholds DOL’s Authority to Impose New Conditions for PTEs and Leaves Door Open for Changes to Fiduciary Rule

The Tenth Circuit recently affirmed the Department of Labor’s authority to impose new conditions for exemption from prohibited transaction rules with respect to the sale of annuity contracts. The case related to the Department’s decision, as part of the 2016 “fiduciary rule,” to make sales of fixed indexed annuities ineligible for Prohibited Transaction Exemption 84-24, requiring instead that sales of those products satisfy the more onerous requirements of the new Best Interest Contract Exemption (“BIC Exemption”).

The plaintiff in the case, Market Synergy Group, alleged that the Department had not satisfied its obligation under the Administrative Procedure Act to provide advance notice of “either the terms or substance of the proposed rule or a description of the subjects and issues involved.” The Department’s proposed rule would have affected only “variable annuity contracts and other annuity contracts that are securities under federal securities laws.” Because they are not treated as securities under federal securities laws, fixed indexed annuities would not have been affected. But the Department requested comments on whether its proposal “[struck] the appropriate balance.”

The Tenth Circuit held that the Department’s request for comments on whether it had struck the appropriate balance was sufficient to satisfy the Department’s notice obligations. In light of the request for comments, the court reasoned that extending the new requirements to fixed indexed annuities was a “logical outgrowth” of the initial proposal.

In addition to holding that the Department had satisfied its notice obligation, the Court also ruled that:

  • It was not arbitrary to treat fixed indexed annuities like variable annuities (and less favorably than traditional fixed annuities), because the record established that the Department had sufficiently considered the products’ complexity and risk, and potential conflicts of interest in the sales process; and
  • The Department’s regulatory impact analysis sufficiently addressed the effect that the more onerous BIC Exemption requirements would have on the insurance market before concluding that fears of increased costs were (1) overstated and (2) counteracted by the benefit to investors.

Meanwhile, the more onerous BIC Exemption requirements that were the subject of the litigation remain on hold until July 2019, pending the Department’s review of the fiduciary rule. That review can still lead to a loosening of the conditions for the exemption, and possibly even a decision to put fixed indexed annuities back within the scope of PTE 84-24. The Court’s decision leaves the Department leeway to make a final decision through the administrative process.

The case is Mkt. Synergy Grp., Inc. v. United States Dep’t of Labor, No. 17-3038, 2018 WL 1279743 (10th Cir. Mar. 13, 2018).

Plan Participant Waived Remedy for Untimely Benefits Determination

The Seventh Circuit rejected a disability plan participant’s argument that an untimely decision denying his claim for long-term disability benefits warranted changing the standard of review from arbitrary and capricious to de novo.  In so ruling, the Court explained that had plaintiff filed suit once the time for a timely decision had passed (because his claim was deemed exhausted under applicable regulations), rather than pursue an administrative appeal, the court would have considered an appropriate remedy, e.g., whether the claim should be reviewed de novo.  By pursuing an administrative appeal, the Court concluded that the participant waived his right to a remedy for an untimely decision.  The case is Dragus v. Reliance Standard Life Ins. Co., No. 17-1752, 2018 WL 851164 (7th Cir. Feb. 14, 2018).

Third Circuit Analyzes Standing for ERISA Plan Management Claims

A recent Third Circuit decision reinforced the need for ERISA plaintiffs to plead injury-in-fact to establish Article III standing.  In Krauter v. Siemens Corp., No. 17-1662, 2018 WL 921542 (3d Cir. Feb. 16, 2018), the plaintiff was a beneficiary of four pension plans that had been sponsored by Siemens.  After the Plaintiff’s retirement, Siemens sold a division and transferred responsibility for Plaintiff’s benefit obligations to the buyer.  Plaintiff filed suit claiming that the transfer of his benefit obligation increased his risk of loss, although the Plaintiff never alleged that he was not paid the benefits he was owed. The Third Circuit held that the Plaintiff lacked standing:  (i) to pursue claims based on his participation in the defined benefit plans because allegations of a risk of future adverse effects on benefits were not sufficient to confer Article III standing; and (ii) to pursue claims based on his participation in the deferred compensation plan because allegations that fees increased and investment options changed did not sufficiently allege actual harm.  However, the Plaintiff did have standing to pursue a claim based on his participation in the 401(k) plan because he alleged that fees increased at the same time investment gains decreased, which, according to the Court, sufficiently alleged actual harm.  Nonetheless, the Court affirmed dismissal of the claim because plaintiff failed to sufficiently plead facts to sustain his claims.


Third Circuit Deepens Circuit Split Over Test for “Top Hat” Status Under ERISA

A Third Circuit decision, Sikora v. UPMC, 876 F.3d 110 (3d Cir. 2017), deepens a circuit split over whether a participant’s bargaining power is relevant to determining whether a plan qualifies for “top hat” status under ERISA.

Plans that qualify for “top hat” status are exempt from ERISA’s eligibility, vesting, funding, and fiduciary requirements. To qualify, a plan must be unfunded and must limit coverage to a “select group of management or highly compensated employees.”  In Sikora, a former employee sued to recover a pension benefit that he forfeited upon termination of his employment on the ground that the forfeiture violated ERISA’s vesting requirements.  To make his case, he argued that the plan did not qualify for “top hat” status — and therefore was not exempt from ERISA’s vesting requirements — because the participants in the plan did not have bargaining power with respect to the plan.  The Third Circuit held that bargaining power over plan design and operation is not relevant to determining whether a plan is limited to a “select group” of employees.  Instead, the Court ruled that the inquiry should focus on the number of participants who are eligible (it should be a small portion of the employee population) and participants’ compensation levels (to satisfy the “highly compensated” requirement). 

In this case, the Third Circuit evaluated the demographics and found that the plan qualified as a “top hat” plan. As a result, ERISA’s vesting requirements did not apply.

The Third Circuit’s test aligns with the First Circuit. In contrast, the Second, Sixth, and Ninth Circuits have interpreted a Department of Labor Opinion Letter from 1990 to mean that courts should inquire as to a plan participant’s bargaining power to determine whether s/he is a member of a “select group of management or highly compensated employees.” The Third Circuit disagreed with that interpretation, stating that the Opinion Letter merely “observ[ed] that participants in top-hat plans were deemed by Congress to possess bargaining power ‘by virtue of their position or compensation level.’”  According to the Third Circuit, “engraft[ing] a bargaining power requirement onto the elements of a top-hat plan” would be contrary to the plain text of the statute and the Opinion Letter.

The Sikora decision serves as a fresh reminder that there is no single test for determining top hat status.  The stakes are high: if an unfunded plan fails to qualify as “top hat,” the sponsor can be forced to pay benefits far in excess of what was anticipated; the sponsor can become subject to funding and fiduciary obligations; and plan participants can be exposed to significant (and unexpected) adverse tax consequences.  As such, it is worthwhile to review eligibility for unfunded plans and balance the desire to provide generous benefits against the risk of becoming subject to ERISA’s eligibility, funding, vesting, and fiduciary rules.

Tackett Redux: Ordinary Principles of Contract Interpretation Mean No Inference of Vesting

In an opinion released yesterday, the Supreme Court reaffirmed that collective bargaining agreements (CBAs) must be interpreted according to “ordinary principles of contract law.” CNH Industrial N.V. v. Reese, No. 17-515, 2018 WL 942419 (U.S. Feb. 20, 2018).  In so ruling, the Court again rejected the Sixth Circuit’s inference from silence that CBAs vested retiree benefits for life.

Three years ago, the Supreme Court decided M&G Polymers USA, LLC v. Tackett, 135 S. Ct. 926 (2015).  In that decision, the Court unanimously held that CBAs must be interpreted according to ordinary principles of contract law, and the Court rejected the Sixth Circuit’s so-called “Yard-Man” inference that if a CBA did not specify that retiree medical and other welfare benefits had a limited duration, the benefits were presumed to be vested.  The Court held that the Yard-Man inference was inconsistent with the application of ordinary principles of contract law and that the inference improperly placed a thumb on the scale in favor of vested retiree rights.

The present dispute arose between retirees and their former employer about whether an expired CBA created a vested right to lifetime health care benefits. In 1998, the Company agreed in a CBA to provide health care benefits to certain “[e]mployees who retire under the . . . Pension Plan.”  Under the CBA, “[a]ll other coverages,” such as life insurance, ceased upon retirement.  The health care benefit was “made part of” the CBA and “r[an] concurrently” with it.  The CBA contained a general durational clause stating that it would terminate in May 2004.  The CBA also stated that it “dispose[d] of any and all bargaining issues, whether or not presented during negotiations.”

After years of litigation, both before and after the Tackett decision, the Sixth Circuit concluded that the CBA’s general durational clause did not apply to retiree health care benefits.  In a split decision, the Sixth Circuit inferred from the CBA’s specific termination provisions for “other coverages” that the parties must have intended to vest health care benefits for life.

The Supreme Court unanimously reversed the Sixth Circuit, holding that the Sixth Circuit’s inference of vesting could not be squared with Tackett because it did not comply with Tackett’s direction to apply ordinary contract principles.  According to the Supreme Court, the CBA’s general durational clause applies to all benefits, unless the CBA provides otherwise.  Here, no provision specified that the health care benefits were subject to a different durational clause. The only reasonable interpretation of the CBA was thus that the health care benefits expired when the CBA expired.

The Supreme Court’s decision reaffirms that a court interpreting a CBA should not infer from silence that a retiree welfare benefit is vested for life. We expect that litigation over reductions to retiree medical benefits will continue (both for union employees and non-union employees), particularly in light of skyrocketing health care costs; but the Court’s decision affirms that retirees will bear the burden of demonstrating an intent to vest based on affirmative documentary evidence.

[Podcast]: Severance Pay Plans & ERISA

In a benefits law edition of The Proskauer Brief, senior counsel Anthony Cacace and partner Robert Projansky discuss how severance plans can be subject to ERISA. They also discuss the key advantages of having severance pay arrangements covered by ERISA and what employers can do to design plans that comply with the substantive and procedural requirements of ERISA, but also maximize the likelihood of benefiting from ERISA coverage. Whether a severance plan or arrangement is governed by ERISA is a rather fact-intensive analysis, so be sure to tune in for how those facts and circumstances can give rise to an ERISA plan.

Listen to the podcast.

Read the full transcript of the podcast on our Law and the Workplace blog.

The Bipartisan Budget Act’s Impact on Retirement Plans

On Friday, February 9, 2018, Congress passed, and the President signed, the Bipartisan Budget Act of 2018 (the “Budget Act”). The Budget Act contains a number of provisions that affect qualified retirement plans.  Plan sponsors should consider the impact of the Budget Act on their retirement programs.

  • Hardship Withdrawals. The Budget Act relaxes the rules related to hardship withdrawals applicable to qualified defined contribution plans (and likely to 403(b) plans because the 403(b) regulations incorporate the 401(k) plans by reference), beginning with plan years commencing after December 31, 2018, in three significant ways:
    • First, the Budget Act eliminates the requirement that a participant exhaust the opportunity to take loans under the plan before receiving a hardship withdrawal.
    • Second, the Budget Act allows a participant to take a hardship withdrawal from the participant’s elective deferral contributions, qualified nonelective contributions (“QNECs”), and qualified matching contributions (“QMACs”), as well as from earnings on each of those contribution sources.  Prior to the Budget Act, a participant could take a hardship withdrawal from elective deferral contributions but not from QNECs or QMACs nor from earnings on any of those deferrals or contributions.
    • Third, the Budget Act directs the Secretary of the Treasury to modify existing 401(k) regulations to the remove the rule prohibiting participants from making elective deferrals and other employee contributions to the plan from which the hardship withdrawal was taken and any other plans maintained by the employer (which includes other qualified retirement plans, 403(b) plans, and nonqualified deferred compensation plans) during the six-month period after taking a hardship withdrawal.  The guidance likely will also address what happens to participants who otherwise might be in the middle of a six-month contribution suspension period once the new rule eliminating that suspension becomes effective. Finally, it is noteworthy to consider the potential impact of this new rule on nonqualified deferred compensation plans subject to Code Section 409A. Under the Section 409A regulations a nonqualified deferred compensation plan is allowed to cancel a participant’s deferral election following a 401(k) hardship distribution (as well as an unforeseeable emergency distribution under the deferred compensation plan). Employers should consider whether they wish to continue the practice of cancelling deferred compensation plan deferrals after a 401(k) plan hardship distribution once the new 401(k) rule is in place.
  • California Wildfire Relief. The Budget Act contains special disaster-related rules for the use of retirement funds by an individual whose principal place of residence was in a Presidentially-declared California wildfire disaster area between October 8, 2017, and December 31, 2017, and who incurred an economic loss due to the wildfires (a “Qualified Individual”). This relief is similar to what was enacted last year for the victims of Hurricanes Harvey, Irma and Maria in 2017 as part of the Disaster Tax Relief and Airport and Airway Extension Act of 2017 (enacted on September 29, 2017) and also relief that was included in the Tax Cuts and Jobs Act for plan participants residing in Presidentially-declared disaster areas in 2016 (enacted on December 22, 2017).  Plans are not required to offer this special disaster relief. Plan sponsors who wish to offer this relief to participants impacted by the California wildfires may do so immediately, but their plan document must be amended to conform the terms of the plan to the plan’s operation.  The deadline for amending plans for this relief is the last day of the first plan year beginning on or after January 1, 2019 (i.e., December 31, 2019 for a calendar year plan).
    • A Qualified Individual can take a qualified wildfire distribution of up to $100,000. Qualified wildfire distributions are not subject to the 10% early withdrawal penalty, can be recontributed over a three-year period, and will be included in the participant‘s income ratably over three-years unless the participant elects otherwise.
    • The Budget Act increases the loan amount that a Qualified Individual can take from his account under a qualified retirement plan to the lesser of $100,000 or the full amount of the individual’s vested account balance. Qualified Individuals who have loans outstanding are permitted to delay loan repayments for up to one year.
    • A participant who took a distribution after March 31, 2017, and before January 15, 2018, to purchase or construct a home in the area where the California wildfires occurred is permitted to repay such distribution if the participant was unable to actually purchase or construct the home due to the California wildfires. Such repayment must occur no later than June 30, 2018.
  • Wrongful IRS Levy. If an amount was withdrawn from an IRA or an employer-sponsored retirement plan due to an IRS levy that was later determined to be wrongful, the Budget Act permits the affected individual to recontribute the amount returned (including interest) as a result of the wrongful levy. This provision is effective with respect to “amounts paid” after December 31, 2017, but it is not entirely clear whether this relates to the date that the wrongfully levied amounts were paid from an IRA or plan or the date that the amounts were returned to the affected individual.
  • Multiemployer Pension Plan Committee. To assist in addressing the funding and solvency issues faced by many multiemployer pension plans and the Pension Benefit Guarantee Corporation, the Budget Act establishes the “Joint Select Committee on Solvency of Multiemployer Pension Plans.” This committee is tasked with providing recommendations and legislative language by the end of November 2018 that will “significantly improve multiemployer pension plans and the Pension Benefit Guarantee Corporation.” The bipartisan committee will be composed of 16 members, appointed by party leaders, with an equal number of members from the Senate and the House of Representatives. The co-chairs of the committee must be named by party leadership no later than February 23rd.

Congress Delays the “Cadillac Tax” and Other ACA-Related Taxes and Fees

On January 22, 2018 Congress passed (and the President signed) the Federal Register Printing Savings Act (the “Act”), which temporarily (until February 8, 2018) continued funding federal government activity and appropriates funds to various health-related programs (e.g., the Children’s Health Insurance Program, Medicaid, and childhood obesity programs).  In addition to providing for appropriations, the Act also addressed the following taxes and fees established under the Affordable Care Act (“ACA”):

  • The effective date for the controversial 40% excise tax on high-cost health care (commonly referred to as the “Cadillac Tax”) was delayed until 2022.  The Cadillac Tax was originally scheduled to become effective in 2018, but in 2015 it was delayed (also in connection with budget legislation) until 2020.  At a minimum, the new two-year delay gives employers and plan sponsors more time to adjust health plan design to avoid the Cadillac Tax.  However, whether the Cadillac Tax ever becomes effective is certainly in doubt, as the tax is unpopular on both sides of the aisle.
  • A new moratorium on assessment and collection of the fee imposed on health insurers under Section 9010 of the ACA will be applied to 2019.  The fee, which was also subject to a moratorium in 2017, will still be assessed and collected for 2018.
  • The moratorium on application of the 2.3% tax on medical device sales was extended through 2019.  Absent future legislation extending the moratorium or repealing the tax, it will become effective on January 1, 2020.

The three taxes and fees described above were also targeted by the failed attempts at health care reform in 2017 (i.e., the American Health Care Act and the Better Care Reconciliation Act).  Those legislative attempts at health care reform also included delays or repeals of many other revenue-related provisions of the ACA.  As noted above, the Act only funds the federal government until February 8, 2018, so additional budget legislation will be considered by Congress soon.  It is possible that this future budget legislation will target other ACA-related provisions.