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Fiduciary Update

Fiduciary Update | August 2017

In this quarter’s Fiduciary Update, CAPTRUST’s Drew McCorkle provides an update on the uncertain future facing the DOL’s conflict of interest rule, plan reformation and fund change liability, insurance conversion, and other fee related litigation.

DOL Fiduciary Rule in Force—Uncertainty Remains

Following a delay imposed by the U.S. Department of Labor (DOL), the first parts of the DOL’s expanded definition of “investment advice fiduciary” became applicable on June 9. The “Fiduciary Rule” is currently slated to be fully in force on January 1, 2018, with the interim being a transition period. However, at President Trump’s direction, the DOL is reevaluating the rule. As part of that reevaluation, on June 29, the DOL issued a request for information (RFI) seeking feedback on the rule and any suggested adjustments. Among other things, the RFI seeks input on whether the transition period should be extended beyond January 1, 2018. Changes to the Fiduciary Rule are nearly certain; however, the form of those changes is anything but certain.

Editor’s Note on Fee Litigation and Committee Governance

For the last several years, we have reported on fee litigation, which has expanded to include challenges to fund selection, monitoring, and replacement. In the early days, we reported on significant pre-trial settlements by plan fiduciaries and sponsors, with a number of settlements in the tens of millions of dollars.

More recently, fiduciary breach lawsuits have made their way through the courts, with positive outcomes for plan fiduciaries. In recent quarters, we reported on Chevron and Walt Disney’s successful challenges to the suits brought against them. A common theme in these successful plan fiduciary defenses is the presence of sound and thorough governance processes that form the basis for fiduciary decisions, including decisions to not act.

Stable Value Fund Manager Did Not Invest Too Conservatively

One recent theme in 401(k) plan litigation has been to challenge the use of a money market fund rather than a stable value fund as a plan’s capital preservation option. The argument is that—because stable value funds have had higher returns than money market funds—plan fiduciaries who selected money market funds created losses equal to the difference in returns. As mentioned, fiduciaries for the Chevron 401(k) plan successfully defended a claim of this type.

Following similar logic, fiduciaries of the CVS defined contribution plan and the plan’s stable value manager, Galliard, were sued. The investment manager was sued for investing too conservatively and holding too much cash, resulting in “losses” to plan participants. CVS plan fiduciaries were sued for failing to properly monitor the investment.

The complaint in this case alleged that the conservative investment allocation of the Galliard strategy was a “severe outlier and categorically imprudent” when compared to a sample of stable value funds. The court summarized the claim as, “With the benefit of 20/20 hindsight, the Plaintiffs assert…that if the Fund’s allocation to cash had been invested in the same manner as the Fund’s other assets, the Fund would have earned more.” Because there were no allegations that Galliard invested imprudently—or that it deviated from its conservative investment objective—the case was dismissed. Emphasizing the legal standard to be followed in cases of this type, the court said, “It is well established…that the test of prudence is one of conduct and not a test of the result of the performance of the investment.” Barchock v. CVS Health Corporation (D. RI 4-18-17).

Appeals Courts Affirm Plan Reformation and Fund Change Liability

In the previously reported case of Osberg v. Footlocker, Inc., an employer changed its traditional pension plan to a cash balance plan. Implementation of the change effectively froze some participants’ benefit accruals for a period of time. However, all participant communications lauded the benefits of the change and made no mention of the practical reduction in benefits. The district court characterized the participant communications as “disingenuous” and “false and misleading.” In a solution called “reformation,” the district court rewrote the pension plan, giving participants the better characteristics of the old plan and the new plan. On appeal—following a recent Supreme Court decision and rejecting a variety of grounds for appeal—the court of appeals approved reformation. Osberg v. Footlocker, Inc. (2nd Cir. 7-6-17).

The case of Tibble v. Edison has been reported on several occasions. A key element of that case was the plan sponsor’s replacing the Vanguard Wellington Fund, a 60 percent equity/40 percent fixed income balanced fund, with the Fidelity Freedom Funds. The problems were that:

  • The change was motivated by revenue sharing paid by Fidelity on the Freedom Funds and used by the plan sponsor to pay for non-plan-related expenses, and
  • The process of selecting the Freedom Funds did not follow the plan’s investment policy statement.

Initially, liability for this breach was set at more than $18 million. Then, the court of appeals directed a different calculation of liability, which the district court determined to be zero. In a recent appeals court decision, the third in this case, the case was sent back to the district court to reevaluate the amount of liability. Tibble v. Edison (9th Cir 12-16-16).

This case is better known for the Supreme Court decision in 2015 holding that plan fiduciaries have an ongoing duty to monitor plan investments.

Participants’ Unreasonable Compensation Claim against a Recordkeeper Fails

Participants in the Nestle 401(k) plan sued Voya and its affiliates alleging that the recordkeeper earned excessive fees from participant-level investment advisory services provided by Financial Engines. Participants claimed that—although Financial Engines provided the service—an affiliate of Voya received significant compensation in connection with the offering. The case was dismissed because the court found that neither Voya nor its affiliates were fiduciaries to the Nestle 401(k) plan. As a result, they did not have a duty to charge reasonable fees. Patrico v. Voya Financial Inc. (S.D. NY 6-20-17). Plan participants were given the opportunity to file an amended complaint.

Plan Sponsor Failed to Inform Participant of Insurance Conversion

Although the Fiduciary Update focuses primarily on retirement plan issues, we occasionally cover fiduciary responsibility issues in health and life insurance plans. Few of these plans are funded at the employer level, so investment issues are rare. More common are issues with participant communications.

In Erwood v. Life Insurance Company of North America (W.D. PA 4-13-17), a plan participant with $1 million of life insurance coverage was diagnosed with terminal brain cancer. Policy terms gave him the right to convert his group policy to an individual policy, so that he could continue coverage after his employment terminated. Unfortunately, this conversion opportunity was not communicated to the employee.

He stopped working a few months before he died. During this time, his group coverage lapsed, and his wife’s eventual effort to collect the life insurance proceeds was unsuccessful.

As the employee and his wife planned for his imminent death, they reached out to his employer to be sure they had their employee benefits issues in order. Through the course of conversations with the employer’s human resources department, the employee and his wife were not informed of the steps necessary to convert his group life insurance to an individual policy. They were informed of the right to accelerate the payment of death benefits in the event of a terminal illness diagnosis, which they exercised, collecting $250,000.

Finding the employer liable for $750,000 in lost life insurance coverage for failing to notify the employee and his wife of their conversion rights, the court made the following observations:

  • “The fiduciary has an obligation to convey complete and accurate information material to the beneficiary’s circumstance, even if that information comprises information about which the beneficiary has not specifically inquired.”
  • “The responsibility encompasses not only a negative duty to not misinform, but also an affirmative duty to inform when the [fiduciary] knows that silence might be harmful.”

The court discounted the effectiveness of including life insurance conversion information in a Family and Medical Leave Act notice and in the summary plan description that is provided to all participants to make them aware of their benefits. The court said,

“A notice of the right to convert is inadequate where it fails to clearly state the time within which a severely ill and mentally compromised employee must apply for conversion…Merely making an SPD available on its portal does not satisfy the disclosure obligations of WellStar, the Plan Administrator, especially in light of the fact that…access to the portal was terminated [following termination of employment].”


  • Defense Costs Wear Away Coverage on Fiduciary Claim—A current litigation involves alleged fiduciary breaches. The fiduciaries have insurance coverage of $1 million for the alleged breaches, and the case is proceeding. Separately, the insurance company filed an action to get a ruling that defense costs paid by the insurance company will deplete the total insurance coverage available to satisfy any fiduciary liability. Even though the insurance policy clearly provides that the $1 million coverage limit would be reduced by defense costs, the district court held otherwise, finding there to be a public policy basis to ignore the contract. The appellate court reversed, holding that the clear unambiguous language of the contract must be followed. Federal Insurance Company v. Singing River Health System (5th Cir. 2017). Insurance issues like this are subject to state law. Given the considerable expense that can be involved in defending fiduciary claims, whether defense costs are included in policy limits should be kept in mind as fiduciaries consider coverage levels.
  • Ambiguous Beneficiary Designation? Let the Court Decide—Sometimes a plan administrator is presented with conflicting beneficiary designations. That was the situation with a deceased employee who designated his mother to be his primary beneficiary in 1991. Later, he submitted an undated form designating his fiancée as his primary beneficiary and his mother as contingent beneficiary.

When presented with these conflicting beneficiary designations, the plan administrator filed a lawsuit referred to as an interpleader, which names both potential beneficiaries as parties. This placed the matter before a court to decide the outcome. After initiating such an action, the plan administrator awaits a decision by the court after the potential recipients have presented their cases. Alternatively, if the plan administrator handled the matter on its own and decided incorrectly, it could be required to make a double payment. In this case, the judge used real estate records and the addresses of the employee and beneficiaries during the relevant period to determine that the fiancée was the proper beneficiary. The Johns Manville Hourly Employee 401(k) Plan v. Reiman (N.D. OH 4-26-17).