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Guest Article

(From the January 7, 2008 issue of Deloitte's Washington Bulletin, a periodic update of legal and regulatory developments relating to Employee Benefits.)

Supreme Court Examines Whether 401(k) Plan Participants Can Sue for Lost Profits Caused by Fiduciary's Failure to Execute Investment Directions

The U.S. Supreme Court recently heard oral arguments in LaRue v. ________ on whether a 401(k) plan participant, who suffered losses to his individual account because a plan fiduciary failed to execute his investment directions, could sue the fiduciary to recover the lost profit under ERISA §502(a)(2). The case involves the interplay between ERISA §§ 502(a)(1)(B), 502(a)(2) and 502(a)(3), and revisits the uncertain area of what constitutes "equitable relief" available under ERISA. Amicus briefs were filed in support of the participant by the U.S Departments of Justice and Labor, and in support of the fiduciary by the American Council of Life Insurers and the ERISA Industry Committee. LaRue v. ________, No. 06-856 (U.S. S.Ct.)

Factual Background

James LaRue (the "Participant") participated for several years in the 401(k) plan sponsored by his employer (the "Fiduciary"). He resigned employment in 2001 but did not take distribution of his account. In 2001 and 2002 he made changes to his investment allocations that were not implemented. In 2004 he brought suit against the Fiduciary claiming a breach of fiduciary duty for failing to follow the investment directions. The Participant claimed that the breach caused his account to be depleted by approximately $150,000 and requested that he be "made whole" by the Fiduciary. In 2006, while the case was still working its way through the courts, the Participant took distribution of his account from the plan.

The Fiduciary claimed that the relief sought by the Participant was not available under ERISA, and the District Court agreed. The Fourth Circuit affirmed that decision, and denied the Participant's request for a rehearing. (See 450 F.3d 570 and 458 F.3d 359.) The U.S. Supreme Court granted certiorari to review the decision.

Overview of the ERISA Issues

ERISA § 502(a)(2) allows a participant to bring suit for appropriate relief under ERISA § 409, which provides that:

"Any person who is a fiduciary with respect to a plan who breaches any of the responsibilities, obligations, or duties imposed upon fiduciaries by this subchapter shall be personally liable to make good to such plan any losses to the plan resulting from each such breach, and to restore to such plan any profits of such fiduciary which have been made through use of assets of the plan by the fiduciary, and shall be subject to such other equitable or remedial relief as the court may deem appropriate, including removal of such fiduciary."

ERISA § 502(a)(1)(B) allows a participant to bring suit "to recover benefits due him under the plan, to enforce his rights under the terms of the plan, or to clarify his rights to future benefits under the terms of the plan."

ERISA § 502(a)(3) allows a participant to bring suit "to enjoin any act or practice which violates any provisions of this subchapter or the terms of the plan, or ... to obtain other appropriate equitable relief."

Fourth Circuit's Analysis in Brief

The Participant brought suit under § 502(a)(2) seeking to hold the Fiduciary personally liable for the losses his 401(k) suffered as a result of the Fiduciary's failure to make the requested investment changes. He also sued under §502(a)(3) seeking the Fiduciary to "make whole" his 401(k) account for the losses it incurred on account of the breach. The Fourth Circuit held that neither claim was actionable -- that §502(a)(2) provides remedies only for "losses to the plan" and not to individuals, and § 502(a)(3) provides only equitable relief and a request to be "made whole" is not equitable relief.

The Participant's Argument Before the Supreme Court in Brief

Together with the U.S. Departments of Labor and Justice, the Participant argued that ERISA should not be construed to leave a participant in his circumstance without an effective remedy. They argued that the Participant could sue under either §§ 502(a)(2) or 502(a)(3) because:

§502(a)(2) authorizes a participant to sue for "any losses to the plan" that result from the breach of fiduciary duty. In a defined contribution plan, any losses will by their nature be attributable to individual accounts, but the loss still remains a "loss to the plan."
§502(a)(3) authorizes "appropriate equitable relief," which means relief that was typically available in the courts of equity in the days of the divided bench. The remedy of "surcharge," by which a trustee was required to restore losses caused by his mismanagement of a trust, was typically available in equity and is essentially the relief the Participant now seeks.

The Fiduciary's Argument Before the Supreme Court in Brief

The Fiduciary argued that the Fourth Circuit decision should be upheld and the Participant not be permitted to bring an action under either §§ 502(a)(2) or 502(a)(3) because:

§502(a)(2) requires that suit for lost profits be brought for "the benefit of the plan as a whole" and not individual participants, according to a prior holding of the Supreme Court. The Supreme Court should reaffirm and clarify its prior holding.
- The Participant would not be without a remedy, since §502(a)(2) otherwise provides effective equitable relief in the form of an injunction.
- If the Participant's claim for lost profits is permitted, it will create an untenable "wait-and-see" option by which participants can elect to wait and bring suit only if the error ultimately causes a loss.
- Allowing a remedy for money damages under §502(a)(2) could upset the careful design of ERISA by making participants ineligible for the equitable relief explicitly provided them under §§502(a)(2) and 502(a)(3). This is because the availability of a damages remedy is a traditional defense to a claim for equitable relief.
§502(a)(3) only authorizes equitable relief, which does not include claims for money damages. The Participant's claim for "surcharge" is an attempt to re-characterize a prohibited claim for money damages into an equitable remedy. Even if re-characterized, surcharge was only occasionally -- and not typically -- available in the courts of equity, so would not be available under §502(a)(3).

The American Council of Life Insurers further cautioned against the recognition of a claim to be "made whole" as an equitable remedy under §502(a)(3) because it:

Essentially allows a claim for consequential damages. This could have undesirable consequences in the broader context of ERISA plans. It may allow a claim for consequential damages for a fiduciary's denial of benefits under a welfare plan. Historically, a participant's claim for money damages has been limited to actions under §502(a)(1)(B), which only allow the participant "to recover benefits due him under the plan." A decision now interpreting ERISA to allow a claim for consequential damages may expose fiduciaries to such claims retroactively.
Is based on faulty analysis of the nature of "surcharge." Surcharge only applied in the context of trust cases and not to all claims in equity. Since surcharge was limited to only a subset of cases, it was not typically available in equity and therefore is not available under §502(a)(3). In fact, many ERISA plans do not incorporate the trust concept. ERISA explicitly exempts insurance policies and the assets of insurance companies from the trust requirement.

The ERISA Industry Committee argued that a claim under §502(a)(1)(B) is the appropriate -- and exclusive -- avenue for the Participant to seek a remedy in this circumstance. It reasoned:

ERISA requires each plan to provide procedures by which a participant whose claim for benefits has been denied can get a full and fair review. See ERISA §503(2))
- If a claim is denied under the procedures, the participant can then bring suit under §502(a)(1)(B). ERISA implicitly requires that the procedures be exhausted before a participant can sue under §502(a)(1)(B).
- Individuals in circumstances similar to the Participant have sued under §502(a)(1)(B). The cases demonstrate that monetary relief is available where a participant establishes that he did not receive the benefits to which he was entitled under the plan.
§502(a)(3) is not available to the Participant. It is a "catch all" provision for injuries that are not adequately remedied elsewhere in §502, according to the Supreme Court. Courts have uniformly held that a claim can not be brought under §502(a)(3) when adequate relief can be obtained under§502(a)(1)(B).
§502(a)(2) is not available to the Participant. It has language similar to §502(a)(3) that authorizes only "appropriate relief," and so should be read consistently to prohibit a claim when adequate relief can be obtained under§502(a)(1)(B).
Allowing the Participant to bring a claim under §§502(a)(2) or 502(a)(3) instead of under §502(a)(1)(B) will:
- Allow participants to circumvent the plan's claims review procedures and the exhaustion requirement, and proceed directly to court by recasting any claim for benefits as a fiduciary breach.
- Cause litigation costs to escalate.
- Harm employers and employees by discouraging the formation of new plans, encouraging the termination of existing plans, and, for the plans that remain, require the allocation of a greater percentage of plan resources to legal fees and costs than to providing benefits.

The information in this Washington Bulletin is general in nature only and not intended to provide advice or guidance for specific situations.

If you have any questions or need additional information about articles appearing in this or previous versions of Washington Bulletin, please contact: Robert Davis 202.879.3094, Elizabeth Drigotas 202.879.4985, Mary Jones 202.378.5067, Stephen LaGarde 202.879-5608, Erinn Madden 202.572.7677, Bart Massey 202.220.2104, Mark Neilio 202.378.5046, Martha Priddy Patterson 202.879.5634, Tom Pevarnik 202.879.5314, Sandra Rolitsky 202.220.2025, Tom Veal 312.946.2595, Deborah Walker 202.879.4955.

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