7th Circuit Panel Limits Ruling’s 404(c) Effects

Faced with pressure to take another look at its February 2009 decision in a widely watched 401(k) excessive fee case, a federal appellate court has turned down the rehearing request but issued an addendum sharply limiting the earlier ruling’s scope on the issue of 404(c) protections.

While the three judge panel at the 7th U.S. Circuit Court of Appeals refused to disturb the court’s earlier holding in Hecker v. Deere & Co., Circuit Judges Daniel A. Manion, Diane P. Wood and John Daniel Tinder made clear the Hecker decision was not intended as a sweeping statement to be broadly applied to all similar fee disputes.

The court ruled in the earlier decision that a lower court was right in throwing out all allegations that heavy equipment maker Deere & Co. and its investment manager Fidelity Management Trust Co. violated the Employee Retirement Income Security Act (ERISA) by charging participants excessive fees (see “Appellate Court Backs Revenue-Sharing Case Dismissal“).

The decision helped spark an industry debate over the applicability of 404(c) protections in disputes such as that in the Hecker case.

Proper Deference to the DoL

Much of the addendum was taken up with the 7th Circuit panel’s response to a friend of the court brief filed by U.S. Department of Labor (DoL) lawyers. Among other issues, the DoL brief complained the appellate court had not given the agency’s holding due consideration on the applicability of Section 404(c) protections in cases where imprudent investment option selection was alleged (see “IMHO: ‘Second’ Opinion“).

“In her brief, the Secretary explains that she presently ‘interprets her regulation to mean that, even if the plan otherwise qualifies as a section 404(c) plan, the fiduciary is not relieved by 404(c) from liability for plan losses resulting from the imprudent selection and monitoring of an investment option offered by the plan,'” the 7th Circuit panel wrote, noting that the DoL sentiment comes from a footnote to the preamble of a DoL regulation, which it said does not command the same legal weight as a formal rule.

DoL Secretary Hilda S. Solis has the power to change that, the judges pointed out. “It should go without saying that the Secretary is free to propose and enact new regulations addressed more specifically to the way in which choice of investment options in a plan relates to the safe harbor provision, if she believes that this would be appropriate,” the panel asserted.

The overall legal issue was left “open for future development, whether on the basis of a different set of pleadings, or on the basis of a regulation directed to this issue,” the court said. In fact, the panel contended, it had taken pains not to overreach on the issue to give courts the flexibility to decide differently on the basis of evidence in another case or in light of a new DoL regulation.

“The panel did defer to the Secretary’s concerns, to the extent that it refrained from making any definitive pronouncement on ‘whether the safe harbor applies to the selection of investment options for a plan.'” the jurists wrote. “Instead we left this area open for future development, whether on the basis of a different set of pleadings, or on the basis of a regulation directed to this issue.”

Future Use Problems?

The problem, according to the 7th Circuit panel: The DoL feared jurists in other cases would use the Hecker ruling to justify any manner of plan sponsor misdoings found in some future case.

“Her real quibble is with the panel’s alternate holding that the complaint the court was evaluating contained enough information to warrant the conclusion that Deere was entitled to the safe harbor defense,” the judges argued. “In our view, the Secretary’s concern is more hypothetical than real. She fears that some case in the future may arise in which a plan fiduciary acts imprudently by selecting an overpriced portfolio of funds, and that this opinion will somehow immunize the fiduciary from accountability for that decision.”

The judges concluded: “The panel’s opinion, however, stands for no such broad proposition. (The Feburary ruling) was limited to the complaint before the court, as supplemented by the materials the panel found were properly before the district court.”

Even further, the appellate court asserted, its Hecker ruling was specifically not intended to give plan sponsors permission to simply dump large numbers of investment options on participants in an effort to reap 404(c) immunity.

“The Secretary also fears that our opinion could be read as a sweeping statement that any Plan fiduciary can insulate itself from liability by the simple expedient of including a very large number of investment alternatives in its portfolio and then shifting to the participants the responsibility for choosing among them. She is right to criticize such a strategy,” the court asserted. “It could result in the inclusion of many investment alternatives that a responsible fiduciary should exclude. It also would place an unreasonable burden on unsophisticated plan participants who do not have the resources to pre-screen investment alternatives. The panel’s opinion, however, was not intended to give a green light to such ‘obvious, even reckless, imprudence in the selection of investments’ (as the Secretary puts it in her brief). Instead, the opinion was tethered closely to the facts before the court.”

The latest 7th Circuit ruling is available here.