Dodd S. Griffith

Published on : 2008-03-05

In LaRue v. DeWolff, Boberg & Associates, Inc., the U.S. Supreme Court held that an employee could sue his employer for investment losses which the employee claimed were caused by the employer’s failure to make requested changes to the investments in his 401(k) account. This decision serves as a wake-up call to many employers who sponsor 401(k) plans and comparable defined contribution plans (i.e. 403(b) and 457 plans, and as other retirement plans that give participants individual investment accounts), since employees can now recover losses from the employer that sponsors their 401(k) plan if they can prove that the losses were caused by the employer’s failure to promptly implement investment changes requested by the employee.

The 401(k) plan sponsored by DeWolff, Boberg & Associates, Inc. allowed plan participants to direct the investment of their 401(k) plan accounts. Mr. LaRue claimed that his employer breached its fiduciary duty to him by not making changes to the investments in his individual account after being directed by him to do so. He claimed that this omission caused his 401(k) account to lose approximately $150,000.

Until the LaRue case was decided, it had been thought that employers who sponsored 401(k) and other pension plans were immune from lawsuits brought by plan participants seeking individual damages for breach of fiduciary duty. This was because a prior U.S. Supreme Court case, Massachusetts Mutual Life Insurance Company v. Russell, 473 U.S. 134 (1985), held that individual plan participants were not permitted to recover damages if the plan sponsor breached its fiduciary duty. Damages for breach of fiduciary duty were recoverable only for the benefit of the plan as a whole, and could not be recovered by any individual plan participant.

The U.S. Supreme Court said that the decision in the earlier case was inapplicable because Russell dealt with a defined benefit plan, and not a defined contribution plan.   In a traditional defined benefit pension plan, participants do not have individual investment accounts and the benefit paid under the plan is fixed in advance. Thus, the employee is not responsible for investment decisions, and need worry only about whether the plan as a whole is sufficiently solvent at retirement to pay the agreed benefit. In contrast, in a defined contribution plan such as a 401(k) plan, participants have individual investment accounts that can go up or down based on the employer’s and employee’s contributions to the account, and the performance of the investments held in the account.   There is no fixed benefit. Thus, the employee must be concerned with how his individual investment account performs over time. Not surprisingly, the performance of an employee’s defined benefit plan account (i.e. 401(k) or similar account), can be significantly affected by whether the employer promptly implements changes requested by the employee. Thus, the Court concluded that a breach of fiduciary duty that affected only one participant’s account was significant in the context of a defined benefit plan such as a 401(k) plan.

The Court also noted the prevalence of 401(k) plans and similar defined contribution plans, and that such plans had largely replaced traditional defined benefit pension plans. The Court’s comments in this regard suggests that it now has a heightened concern that workers whose retirement savings are tied up in 401(k) and similar defined contribution plans be adequately protected. Thus, while the DeWolff case leaves many issues unclear, one thing that is clear is that the Supreme Court has evidenced an intent to protect employees who must depend on their 401(k) and similar defined contribution plans for their retirement income.

What Should Employers Do Now to Protect Themselves from Claims?

The threat of increased litigation by individual plan participants provides a wake-up call to employers to pay attention to the day-to-day operation and administration of their defined contribution plans. While the DeWolff case involved a 401(k) plan, there are a variety of other types of defined contribution plans that could be impacted by this decision, including 403(b) and 457 plans sponsored by non-profit employers, and other plans where employees are permitted to direct plan investments.

It is important to note that the Supreme Court did not determine whether the employer violated its fiduciary duty to Mr. LaRue by failing to make the investment changes requested by Mr. LaRue. The Court merely stated that the claimed failure on the part of the employer was sufficient grounds for a damage claim by Mr. LaRue. The case was sent back to the lower court to determine whether or not the employer had breached its duty to Mr. LaRue. The lower court will have to determine whether the 401(K) plan had adequate procedures for processing requests for investment changes submitted by plan participants; and whether the employer as plan administrator failed to comply with those procedures.

There are a few simple measures that an employer can take today in order to try to avoid a claim of the type brought in the LaRue case, and to best ensure the likelihood of success if sued. These include:

1. Conducting a self-audit of all defined-contribution retirement plans sponsored by the employer.

• Review the terms of your plans to make sure you understand what your plans require you to do.
• Determine whether you are actually following the procedures required by your plans.
• Ensure that the people in your organization that are in charge of administering the plans are following the procedures; and that the procedures actually work in a reasonable fashion.
• If the plan procedures are not being followed, or they don’t work, then you should take prompt corrective action, before there is a claim.

2. Thinking critically about the procedures currently in place.

• Keep an eye out for areas where you may need to amend procedures in order to minimize risk.
• Be vigilant about minimizing potential errors or misunderstandings. For example, procedures should clearly prohibit verbal requests to implement investment changes (i.e. requests made at the coffee machine, copier, water cooler, etc.).
• Protect the plan sponsor using appropriate documentation; and make sure your procedures include a mechanism to show they were followed. For example, you may require an employee’s written submission include his/her signature. Make clear that the submission has not been accepted until the authorized recipient has acknowledged receipt. In addition, documentation should appropriately and sufficiently tracks any changes made to a participant’s account.
• Review notice procedures to employees. Make sure uniform procedures are in place to notify participants of required disclosures, and other communications regarding their accounts.

3. Review contractual relationships with the vendors who administer your plans.

• Although many employers have only a limited role in the administration of their 401(k) plans, they are almost always plan fiduciaries. This means that they are likely to be responsible for claims by plan participants, even if they rely on third parties to administer the plans.
• Consequently, employers who use third party providers should review the agreements they have with those providers, paying specific attention to the extent of the employer’s own responsibility (and the responsibility of the third party provider) if the provider were negligent.
• Employers should also be familiar with any right they may have to indemnification from the third party provider, and any indemnification they are required to give to the third party provider.
• Likewise, employers should determine whether third party provider agreements cap or otherwise limit damages that can be recovered by the employer in the case of negligence or other breach on the part of the third party provider.

By conducting a self-audit before a claim arises, and by promptly correcting any deficiencies, you should be able to avoid, or significantly diminish the impact of, any claims by plan participants. Moreover, you can provide a better benefit to your employees.

For additional information on this topic, please contact Dodd Griffith.

* Dodd Griffith is admitted in New Hampshire.