Fiduciary Insurance For Advisers

In this era of complex financial products and ongoing emphasis on disclosure and reasonable plan fees, lawsuits and regulatory attention to 401(k)s and similar plans are, unfortunately, not likely to abate. The Department of Labor (DOL) is focusing its enforcement efforts on service provider compensation disclosure, while law firms continue to file new claims on behalf of plans and plan participants alleging that plan fees are undisclosed and unreasonable.

Even if not directly responsible, plan advisers are likely to become defendants in a lawsuit or targets of a regulatory investigation whenever there are significant losses from a failed investment, administrative or operational errors, or even errors in fee disclosures. Whether or not a plan adviser is ultimately liable for wrongdoing, the legal and other costs associated with involvement in litigation or a governmental investigation can be a substantial drain on his resources.

How can plan advisers limit their exposure to such legal costs? Quality work—providing advice consistent with the prudent expert standard—is a baseline. However, quality work does not necessarily circumvent every lawsuit or DOL investigation, because plan success also depends on performance by others—such as plan sponsors, investment vendors and recordkeepers—not within the plan adviser’s control.

Plan advisers also mitigate exposure by seeking contractual indemnifications from plan sponsors and other entities to cover legal and other expenses when the adviser is not at fault, but indemnifications also have limits. For example, indemnification may not cover legal costs until after a matter is resolved, or an indemnifying entity might not—after a matter is resolved—have sufficient assets to pay all of a plan adviser’s expenses.

A further step to limiting exposure for costs in connection with potential litigation is to consider Employee Retirement Income Security Act (ERISA) fiduciary insurance, designed specifically for legal expenses—and, in the worst case, settlement fees—that result from claims under ERISA. The first thing to understand about ERISA fiduciary insurance is that it is not the same as directors and officers (D&O) or errors and omissions (E&O) insurance.

Indeed, often clients believe they have coverage for ERISA claims under standard D&O and E&O policies, but in fact, these policies usually specifically carve out ERISA claims. Plan advisers should look carefully at their insurance products. If they are not provided for under ERISA fiduciary claims, advisers should ask the broker that arranged for the D&O and E&O coverage whether it is possible to obtain a rider to add ERISA fiduciary liability insurance to the existing policy or to create a new contract.

When considering new or existing insurance coverage for ERISA claims, look carefully at the terms. Focus on the claims coverage period as well as what happens if there is a change in insurance carriers. Because claims in ERISA litigation and DOL investigations can relate to activities many years past, make sure there is coverage for prior years—whether through an old-fashioned “occurrence” policy, a “claims made” policy with “tail” coverage or a current claims made policy that covers prior acts. Advisers should ask whether coverage may be available for legal and other costs that may be incurred if a lawsuit or regulatory investigation is expected but not yet formally initiated.

Also, consider whether the coverage amount is reasonable and whether a “choice of counsel” clause is offered. An insurance broker can be helpful with this evaluation. Just as plan advisers offer unique expertise to their sponsor clients, a good insurance broker can be invaluable to a plan adviser making decisions about fiduciary insurance.

Once ERISA fiduciary coverage is in place, it is important to keep track of the requirement to notify the insurance carrier of possible claims. Usually, coverage depends on making a timely report if there is a potential lawsuit, or if the DOL or another regulator initiates an inquiry. Failing to comply with policy notice requirements could result in a loss of some or all of the benefits of the fiduciary coverage.