Happy Anniversary, ERISA!

Because summer is a popular time for weddings, it’s also a time of many anniversaries.  2014 marks an important anniversary that is unrelated to marriage but most certainly marks an important commitment to fidelity.  2014 is the 40 anniversary of the Employee Retirement Income Security Act of 1974, or ERISA as it has come to be known. ERISA is the statutory foundation for the regulation and rules that retirement plans must follow to qualify for the tax benefits employers receive when they offer qualified retirement plans to their employees. 

Given the amount of criticism that has been directed at the private sector retirement system recently, some might ask whether ERISA’s 40th anniversary is something to celebrate.  We can certainly find imperfections.  But when we judge something as complex as this body of law, we should view it not with the eye of a perfectionist, but the eye of a realist.  That’s not much different than having a reasonable perspective on interpersonal relationships.  If we’re looking for perfection we are likely to be disappointed.

Very few who are working in the retirement industry today were “in the business” in 1974, the year of ERISA’s enactment.  But an objective look at the state of retirement plans before that time leads to the inescapable conclusion that things have changed for the better.  There may be shortcomings in the implementation and operation of plans under the ERISA umbrella.  But these shortcomings generally have little to do with the intent of its provisions. 

Human weakness and error, intentional or inadvertent, can lead to such failings as unsatisfactory investment choices, inappropriate fees, conflicted investment advice, fiduciary abuses like diverting retirement assets for other business purposes; even such outright crimes as embezzlement.  But such miscarriages of ethics or justice should not unfairly taint the concept of ERISA retirement plans.  There will always be vultures, scavengers and scalawags looking for opportunities to enrich themselves at others’ expense.  That’s not the fault of ERISA. In fact, ERISA is the safeguard to prevent or address these failings.  And, at least in my opinion, ERISA has addressed these pretty well.

Some bemoan the fact that we do not have in place a national retirement program that ensures lifetime benefits to all American workers, benefits like those available to the fortunate minority with defined benefit plans.  As desirable as that might be, in the private sector there are competitive economic forces that play a huge role in determining what benefits an employer can provide to employees and still remain solvent.  And taxpayer funding of such a national program and the accompanying “mandate” is certainly not politically viable at this time.

ERISA has, without question, improved the retirement security prospects of American workers.  Prior to ERISA it was not unusual for profit sharing plans to require 10 or 15 years to reach full vesting, or for defined benefit plan vesting to be reached only at normal retirement age, or upon plan termination.  There were no controlled group rules to prevent abusive business structures that favored the delivery of retirement benefits to a limited group of owners or employees at the expense of others.

There also was no insurance program like today’s Pension Benefit Guarantee Corporation (PBGC) for defined benefit plan.  An example of the consequences of this was the 1963 closure of the Studebaker automobile plant in Indiana.  Its underfunded pension plan left thousands of workers with little, if any, retirement benefits.  There was also no EBSA to ensure that defined contribution plan fiduciaries met their responsibilities of fairness to rank and file employees. 

It was more than a decade – and numerous committees, commissions, surveys and reports later – when Congress finally acted.  Some believe that ERISA legislation only got the support needed for enactment when private businesses became fearful that the states would act individually, creating a patchwork of dissimilar rules that would have made compliance difficult.  Whether such support was motivated by generosity or self-interest, the result – ERISA – was a greater degree of predictability and equity than had existed before.

U.S. retirement plans are at a crossroads.  They are considered a federal budget luxury by some who are more concerned about their perceived impact on tax revenues than they are concerned about our citizens’ retirement security.  Conversely, they are considered by others to be not generous enough, and to provide insufficient guarantees of a dignified retirement. 

Those in the middle of this political and policymaking tug-of-war are most apt to appreciate today’s ERISA-governed retirement plans for the giant positive stride in employee benefits that they represent.   There is more work to be done to lead more Americans to a secure retirement.  But ERISA is the path that has taken us a long, long way toward a highly desirable destination.

Dudenhoeffer Dust Will Take Time to Settle

The U.S. Supreme Court has spoken.  In a June, 2014, decision the Court held in Fifth Third Bank v. Dudenhoeffer that fiduciaries of a retirement plan designed to offer employer securities – an ESOP – are not entitled to a special presumption of prudence in offering employer securities as plan investments.  Specifically at issue was whether such a plan’s fiduciaries are duty-bound to restrict or remove such an investment option when the employer’s financial health is in question, and the value of its securities may be in doubt.

In the background behind the ESOP specifics of this case was the broader issue of whether offering employer securities in any qualified plan should be presumed to be prudent.  Under such a presumption, referred to as the “Moench presumption” for the case after which it is named, the burden of proof that offering employer securities is inappropriate rests with the plaintiff alleging a fiduciary breach.  But, not only did the Court rule that plans designed to offer employer securities have no special presumption of prudence, it rejected the Moench presumption out of hand.  This finding is contrary to several Appeals Court rulings that supported in principle such a presumption of prudence.    

Some have seen the Supreme Court’s ruling as a blow to fiduciaries of plans offering employer securities, expecting a rash of new stock drop lawsuits.  We, as consultants and as retirement plan recordkeepers, have already been asked by some plan sponsors how they might gracefully and in a compliant, participant-friendly manner remove employer securities as plan investments.  Although the selection of prudent investments is clearly the province of a plan’s fiduciaries, we would caution plan sponsors not to react in knee-jerk fashion and blindly remove what might be a prudent option from its investment lineup.

A close look at the Court’s ruling may conclude that it actually raised the bar and made it more difficult for stock drop cases to be brought successfully.  The Court stated in its opinion that it would not be enough for a plaintiff to allege that a fiduciary armed with publicly available information should have recognized that the employer securities being held and offered to participants were over-valued.  To successfully bring a cause of action a plaintiff would also have to plausibly present that

 - a fiduciary could have acted on its knowledge of the business’s solvency and its securities’ value – for example ceasing to offer, or liquidating, plan investments in employer securities – without  violating insider trading laws, and

 - a prudent fiduciary in the same circumstances would not have viewed such actions as more likely to harm the investment fund than to help it; meaning, that market reaction to the fiduciary’s investment changes could actually cause the value of existing investments to drop, to the detriment of participants holding those investments.

Some ERISA litigation analysts are of the opinion that these will be formidable obstacles for a plaintiff, or a class of plaintiffs, to overcome in order to prevail in a stock drop lawsuit.  It will be no surprise if we initially see a spike in the number of lawsuits alleging impropriety in offering employer securities as plan investments.  But it may be that only when lower courts have applied the standards in the Supreme Court’s opinion that we can draw conclusions about the prospects for the success of such litigation in the future.