Over the past year, we have kept you apprised of evolving trends involving putative class action lawsuits alleging that plan fiduciaries violated their duties of prudence and loyalty under Title I of ERISA by applying forfeitures to reduce employer contributions instead of to reduce administrative expenses borne by plan participants. The complaints also allege that applying forfeitures to reduce employer contributions violates ERISA’s anti-inurement provision and constitutes a prohibited transaction under ERISA Sections 406(a) and (b).[1] To date, we know of 19 putative class action lawsuits filed against large plan sponsors alleging such violations of ERISA.
On September 5, 2024, United States District Court Senior Judge Trenga, Eastern District of Virginia, issued the fourth substantive ruling on a motion to dismiss in a forfeiture case, granting BAE Systems, Inc.’s motion. See Naylor v. BAE Systems, Inc., 24-cv-00536 (E.D.Va. 9/5/24).[2] The claims in the Amended Complaint against BAE included allegations that the BAE Plan fiduciaries breached their duties under ERISA Sections 404(a)(1)(A) and (B) (violation of duties of loyalty and prudence); Section 403(c)(1) (breach of ERISA’s anti-inurement provision); and Sections 406(a)(1) and (b) (prohibited transactions). As noted above, these claims are similar to those raised in the other actions in which other district courts have ruled on motions to dismiss.
Those other district courts (the Intuit, Qualcomm and HP Inc. courts) all found that forfeiture amounts were plan assets and that plan fiduciaries acted in a fiduciary capacity when they allocated forfeited amounts to reduce employer contributions rather than to pay plan expenses. See Intuit decision, p. 7 (“[B]y the Plan’s own terms [Intuit] was making decisions about the management and disposition of plan assets. As such, it acted in a fiduciary capacity when making those decisions”); HP Inc. decision, p. 8 (“The Court finds that the decision to allocate forfeited amounts is a fiduciary, as opposed to a settlor, function”); and Qualcomm decision, p. 13 (“Nonvested contributions fall within the functional definition of assets of the pension plan”).
The BAE decision breaks somewhat from this line of reasoning. In particular, the BAE Court concluded that the facts before it were distinguishable from the factual predicates underlying the other cases in which other courts have issued rulings on motions to dismiss. In the eyes of the BAE court, the particular language in the BAE plan did not provide plan fiduciaries with discretion to apply forfeitures to pay plan expenses ahead of employer contributions:
[T]he Plan requires, without any discretion reserved to the Defendant, that forfeitures be directed towards restoring employer contributions for returning employees and offsetting contributions pursuant to Sections 2.4(C)(1), 4.1(A)(1), and 4.1(B)(1), and if forfeitures exceed contributions in a given payroll period, such “excess shall not be allocated but shall be carried forward and included with Employer Contributions during the next succeeding payroll period until such excess has been depleted” pursuant to Section 4.1(D)(6). [Doc. Nos. 471, 47-2]. Thus, it is unclear how under these Plan provisions any forfeiture amount during the relevant years could have been directed towards any other purpose than offsetting contributions when the employer contribution amount each year exceeded the available forfeiture amounts.
BAE decision, p. 10. On that basis, the district court concluded that the BAE Plan fiduciaries lacked discretion over the use of forfeited amounts and, therefore, were not acting in a fiduciary capacity when they used those amounts in compliance with the terms of the BAE Plan document. The BAE Court also rejected arguments raised by Plaintiffs that the fiduciaries were required by ERISA to disregard the terms of the Plan and use forfeiture amounts instead to pay plan expenses. Such use, the BAE Court concluded, would result in “a windfall to Plan participants, a proposition uniformly rejected by the courts.” BAE decision, p. 11.
The district court also rejected arguments that the Plan’s use of forfeitures to fund employer contributions violated ERISA’s anti-inurement provisions. In that regard, the court noted, forfeiture amounts were being used to provide benefits to participants “by guaranteeing that forfeitures are used first to restore returning employee accounts and then to supplement future employer contributions” and on that basis found that forfeitures were used solely for the purpose of providing “benefits to participants or defraying reasonable expenses of administering the plan.” BAE decision, p. 12.
Finally, the district court rejected the prohibited transaction claims because, the Court concluded, if there was no “predicate fiduciary act, there is not a basis for concluding there was a prohibited transaction”). BAE decision, p. 13.
Thoughts:
The recent decision in BAE undoubtedly provides welcome news for defendants already facing two other district court decisions rejecting motions to dismiss. Time will tell whether other courts accept the BAE court’s conclusions that (a) plan language like that found in the BAE Plan effectively relieves fiduciaries of discretion over how forfeitures are allocated; (b) using forfeitures to fund plan expenses could constitute an inappropriate “windfall” for participants; and (c) as long as forfeitures are used to provide benefits to participants and/or fund plan expenses, ERISA’s anti-inurement provisions are not violated even where such use also relieves employers from their responsibility to fund employer contributions.
While the decision certainly muddies the waters for plaintiffs who believed they would have an easier time moving past the motion to dismiss stage as the case law developed, it does not appear to provide clear relief or guidelines for defendants seeking to avoid the increasing risk of forfeiture misuse claims in the future. Undoubtedly, it will take additional indications from the courts – and maybe from the Department of Labor and/or the IRS as well – before plan fiduciaries and plan sponsors will have some sense of certainty of how best to proceed moving forward.
In the meantime, we believe this latest ruling, as well as the additional forfeiture complaints filed in the last month, continue to serve as signals for plan sponsors to review the forfeiture provisions of their defined contribution plans to determine what, if any, actions might be advisable to reduce the risk of litigation. As we have noted in past articles, consideration should be given to whether fiduciary decisions relating to forfeitures could be seen as relieving the employer of an obligation to the plan and imposing additional costs on participants and whether action should be taken now that might mitigate litigation risk going forward.
If you have concerns about the language in your tax-qualified defined contribution plan(s) and the fiduciary duties raised in the forfeiture cases, we would be happy to discuss with you the ways in which existing plan language could be modified to protect the plan’s fiduciaries and sponsor. Contact us online or call 617-357-5200.
[1] See https://www.wagnerlawgroup.com/blog/2023/12/longstanding-internal-revenue-service-position-called-into-question/ (discussing initial forfeiture challenges); https://www.wagnerlawgroup.com/blog/2024/06/district-court-denies-motion-to-dismiss-forfeiture-complaint/ (discussing first ruling on motion to dismiss forfeiture action denying Qualcomm’s motion); https://www.wagnerlawgroup.com/blog/2024/07/district-court-grants-motion-to-dismiss-forfeiture-complaint/ (discussing order granting HP Inc’s motion to dismiss); https://www.wagnerlawgroup.com/blog/2024/08/forfeiture-cases-update/ (discussing court order denying Intuit’s motion to dismiss).
[2] In the same ruling, the district court also granted BAE’s motions to dismiss (a) claims of fiduciary breach alleging that the BAE plan paid excessive recordkeeping fees; (b) claims alleging breaches of the duty to monitor relating to forfeitures and recordkeeping fees; and (c) Plaintiff’s motion to disqualify Defendant’s counsel.
