Fiduciary Breaches by Others

Art by Tim BowerADVISER QUESTION: I am a financial adviser who works with 401(k) plan committees. My primary responsibility is to educate them about the investment process and to give them information about investments. Am I subject to liability if I learn that a one of these committees is about to commit a fiduciary breach or engage in a transaction prohibited by the Employee Retirement Income Security Act [ERISA].

ANSWER: You could be subject to liability. But there are steps you can take to avoid this result.

For example, if you are an ERISA fiduciary to a particular committee, because you give it investment advice, you could be liable for damages resulting from the committee’s fiduciary breach under ERISA’s co-fiduciary liability rule. According to that rule, the circumstances under which you would be liable are if you:

• Knowingly participate in the breach;
• Conceal the breach;
• Enable the breach by failing to carry out your own fiduciary responsibilities; or
• Are aware of the breach and fail to make reasonable efforts to remedy it.

In other words, you have a duty to act when you know that another fiduciary commits a breach. That’s because, as a fiduciary, you have a duty of loyalty to the participants.

What action should you take? There is no one answer; it will depend on the violation.

The Department of Labor (DOL) in Field Assistance Bulletin (FAB) 2004-03 said that “reasonable efforts” to remedy a fiduciary breach may include notifying other plan fiduciaries or the DOL. While this may not be appropriate in all instances, one thing is certain: You need to take some action. If you don’t try to remedy the breach, you could be sued along with the fiduciary who engaged in it, even if it involved responsibilities beyond the scope of your services.

In one recent case, a court found that a plan fiduciary responsible for selecting plan investments could be sued for violating his co-fiduciary responsibilities because he was aware of the plan administrator’s decision not to pay benefits according to the plan terms and he took no action to remedy it.

In another case, the fiduciaries of a qualified plan were taking large loans from it. The loans were prohibited transactions. The DOL filed a lawsuit, asserting that the fiduciary investment adviser breached his fiduciary responsibilities by failing to make reasonable efforts to prevent these transactions and to protect the participants. In an out-of-court settlement, the advisory firm agreed to restore more than $170,000 to the pension plans and to provide additional training to its fiduciary investment advisers.

Even if you are not a fiduciary, there still is a risk of liability.

For example, the Supreme Court has held that a nonfiduciary service provider could be sued for participating in a prohibited transaction. In the lawsuit evoking this ruling, a broker/dealer (B/D) that provided services to a qualified pension plan purchased interests in certain properties, at the direction of an unrelated fiduciary, in an arrangement that constituted a prohibited transaction.

In another case, a court found that a nonfiduciary financial planner could be sued under ERISA even though he was not a service provider or other party-in-interest to the plan. Here, the financial planner encouraged his clients to become participating employers in a multiple employer welfare benefit plan under which they would contribute toward the payment of premiums under insurance policies selected by an administrator. The financial planner was compensated by the administrator out of commissions it received from the insurance company that issued policies under the plan. The court found that the financial planner could be sued for knowingly participating in the administrator’s fiduciary violations.

As these cases suggest, both fiduciary and nonfiduciary advisers need to have a basic understanding of the fiduciary and prohibited transaction rules. Then, once an adviser learns of a fiduciary’s breach or of a prohibited transaction, he needs to determine what steps should be taken to protect the participants; this may require help from an experienced ERISA attorney.

Fred Reish is chair of the Financial Services ERISA practice at the law firm Dirnker, Biddle & Reath. A nationally recognized expert in employee benefits law, Reish has written four books and many articles on the Employee Retirement Income Security Act (ERISA), Internal Revenue Service (IRS) and Department of Labor (DOL) audits, as well as pension plan disputes. Joan Neri, who has been associated with the firm since 1988, is counsel on the Employee Benefits and Executive Compensation Practice Group. Her practice focuses on all aspects of employee benefits counseling.