Supreme Court Narrows ERISA Plan Fiduciaries' Defenses in Employee Class Actions

Author: Marta Moakley, XpertHR Legal Editor

June 25, 2014

A unanimous Supreme Court in Fifth Third Bancorp v. Dudenhoeffer has reversed the 6th Circuit Court of Appeals - with ramifications for employers that offer a defined-contribution retirement savings plan with investment options in an "employee stock ownership plan" (ESOP). In its decision, the Supreme Court resolves a split among the federal circuits regarding whether a plan administrator's actions are presumed to be reasonable at the earliest stages of an employee's lawsuit. However, it did so by eliminating the special presumption of prudence to which ESOP fiduciaries had been entitled.

In Fifth Third Bancorp, former employees and retirement plan participants had filed a class action lawsuit under the Employee Retirement Income Security Act of 1974 (ERISA) claiming that their former employer's plan fiduciaries had breached their duty of prudence. The ESOP fiduciaries had invested in the company's stock, the price of which dropped 74 percent over a two-year period. The employees claimed that the stock was overpriced and excessively risky (pleading what is commonly called a stock-drop case).

ERISA requires plan fiduciaries to act prudently in managing the plan's assets.

The employees argued that the plan fiduciaries should have known that the stock was risky based on (i) publicly available information and (ii) inside information available to the fiduciaries in their roles as corporate officers. The employees argued that the plan fiduciaries should have taken some action in response to a risky stock (e.g., selling off the stock or refraining from purchasing additional stock).

The trial court had dismissed the employees' complaint for "failing to state a claim" under ERISA. The trial court, like other federal courts, had applied a high legal standard at the earliest stages of a lawsuit: the employees would have to prove that the plan fiduciaries "abused their discretion" in administering an ESOP. However, on the employees' appeal, the 6th Circuit concluded that ESOP fiduciaries are entitled to a "presumption of prudence" that is different from other ERISA fiduciaries. The 6th Circuit ruled that the presumption is not available at the earliest stages, but must be applied after evidence has been collected in a case.

The Supreme Court reversed, holding that ESOP fiduciaries are not entitled to any special presumption of prudence that is different from other ERISA beneficiaries. The Court read the statute to include only one difference between ESOP and other ERISA fiduciaries: ESOP fiduciaries are not liable for losses that result from a failure to diversify assets (as are other ERISA fiduciaries) because an ESOP by its very nature involves specific company stock - the employer's.

José M. Jara, a Principal and National Practice Leader at Buck Consultants, considers the Court's focus on the ERISA statute itself to be troublesome. "The Court failed to consider the policy considerations in developing a presumption. Presumptions have been created in other areas of the law, not based on statute. ERISA fiduciaries in managing the plans are the experts and should have been given some deferential treatment in their judgment."

Although the decision does not explicitly side with the employees in the case, but instead remands the case to the 6th Circuit for further proceedings under specified pleading standards, Jara warns that the "decision will discourage anyone from becoming a fiduciary."

ERISA claims, including class action employer stock claims, continue to be litigated in the federal courts. Jara predicts that this case may have consequences for employers defending these types of claims: "This decision will make it easier for plaintiffs to plead a breach of fiduciary duty case and litigation costs will certainly rise."