Are They Legally Binding?

Are mandatory arbitration clauses and class action waivers in the plan documents of plans governed by the Employee Retirement Income Security Act enforceable?

The use of these clauses has grown in recent years, says Mark Boyko, a plaintiff’s ERISA attorney and a partner in Bailey Glasser LLC in St. Louis. This trend is partially attributable to a decision from the 9th Circuit, in Michael F. Dorman v. The Charles Schwab Corporation, et al. (2019), Boyko says.

Dorman held that mandatory arbitration—i.e., participant breach of fiduciary claims must be resolved in arbitration, participant by participant, and the option for class action waived—is enforceable for ERISA-governed plans because the Supreme Court, in American Express Co. v. Italian Colors Restaurant (2013), wrote that arbitrators may review federal law and are competent to do so. The legal tide is turning against this interpretation, though, and, because four other circuits—the 2nd, 6th, 7th and 10th—ruled against mandatory arbitration and class action waivers, the 9th Circuit decision is “becoming increasingly an outlier,” Boyko says.

Kimberly Jones, a partner in Faegre Drinker in Chicago and an ERISA defense attorney, acknowledges this losing streak for defendants. “Most courts so far have found [these procedures] to be unenforceable. They say [arbitration requirements] violate ERISA by taking away substantive rights from the participants.”

The Case

The most recent case to side against a plan fiduciary on this issue is Marlow Henry v. Wilmington Trust, et al. (2022). 

Marlow Henry was a participant in an employee stock ownership plan sponsored by BSC Ventures, a custom envelope manufacturer. Wilmington Trust, an investment manager, was the plan’s trustee. Since BSC’s stock was not publicly traded, it had to be valued—a service that Wilmington Trust performed—before it could be used in an ESOP.

The ESOP was created in 2015, and Henry was employed by BSC from 2012 to 2019. In 2017, the plan amended its plan document to add a mandatory arbitration provision and a class action waiver. The two provisions were tied together, meaning that, if a court found the class action waiver to be invalid, then the arbitration provision would also be voided.

… if a court found the class action waiver to be invalid, then the arbitration provision would also be voided.

Henry brought a suit in the U.S. District Court for the District of Delaware in 2019 and alleged that Wilmington Trust was overvaluing the price of the ESOP’s BSC stock. The complaint argued that the institution violated its fiduciary duties to the plan by buying BSC stock at an inflated price and by over-relying on financial data produced by the self-interested executives of BSC. The stock price also did not account for what Henry described as a flawed business model.

The complaint further argued that the arbitration and waiver provisions prevented Henry from seeking planwide relief, a statutory remedy provided by ERISA.

The District Court sided with Henry on the basis that he had not consented to the arbitration agreement, because it was added unilaterally. But the court did not rule separately on the validity of the class waiver and mandatory arbitration provisions. The defendants appealed to the 3rd Circuit.

The 3rd Circuit upheld that decision but with very different reasoning. The court ruled that planwide relief—meaning a remedy that addresses all affected members of the plan—is protected by ERISA. An individual may not waive a statutory remedy for a plan, because it is not the individual’s right to waive; it is the plan’s right. The court did not rule separately on the consent issue, because, by voiding the waiver provision, the arbitration provision was automatically voided per the text of the plan document.

The Discussion

Boyko says, “Most courts are not allowing defendants to escape planwide relief through arbitration agreements and other plan terms” and are ruling that “it is unlawful to have a waiver for a statutory right or remedy.”

Still, that has not stopped plans from adding these clauses to their plan document, especially in light of the 9th Circuit decision. Boyko explains that “it is very common” for plans with these provisions to pair them together, meaning if one is rendered unenforceable then the other is also, automatically. 

This prevents a “nightmare” scenario for defendants where a class waiver is voided, either by a court or an arbitrator, but the arbitration clause remains intact, he says. In such a scenario, the arbitrator would potentially be able to rule in favor of an entire class—i.e., in the place of a judge—rather than an individual, as, if the two provisions were not tied together and the class waiver were voided, the mandatory arbitration would remain and therefore go forward.

Even an individual arbitration would be problematic for a plan sponsor if the arbitrator awards relief, such as removal of plan fiduciaries, or makes a finding about the prudence of a particular plan investment.

The crux of these decisions, says Boyko, is not that arbitration as such is unlawful; it is the pairing with a class action waiver or a prohibition of relief that goes beyond the plaintiff’s own account. Mandatory arbitration is not a per se violation of ERISA, but when paired with a class action waiver, it amounts to an individual waiving rights that belong to the plan.

Courts have ruled that “the plan can agree to arbitration, but the plan can’t agree and limit the award to one individual” through a class waiver. “You can waive your procedural right to go to court” says Boyko, “but not your statutory right to planwide remedies.”

Jones disagrees, saying she believes the 9th Circuit was essentially correct. She argues that the Supreme Court has upheld arbitration agreements, and “there is nothing special about ERISA.” Participation in a plan is like a contract, and if it contains a class action waiver, then you agreed to waive that right by participating.

Jones adds that participants are waiving only their right to sue on behalf of the plan, but are not waiving rights that belong to others, because other participants still retain their individual right to bring suit separately and win an individual judgment for their own account.

The notion that individuals may not waive class action rights because those rights justly belong to the plan and are therefore not theirs to waive “is a plaintiff-driven concept” because “you can waive your right to bring a representative action. I don’t think you’re waiving other people’s rights when they can bring their own case,” Jones says.

She adds that many plaintiffs are awarded tiny sums of money in class action settlements, sometimes lower than $100, and these cases are “just an easy way to get a settlement for copycat plaintiff attorneys.”

Boyko counters that, by requiring individuals to proceed as an individual in arbitration or in court, plans can limit the damage done to them, even if the harm inflicted on participants is greater. 

Individual cases also reduce the incentive for ERISA plaintiff attorneys to take cases because a suit brought by an individual would have a lower judgment amount than one brought by a class, he says. If no individual has a strong incentive to bring a case, though, then imprudent sponsors inflicting small to moderate amounts of financial harm on many individuals will not be held accountable, even if the aggregate harm is great. 

In other words, a class action waiver creates a collective action problem intended to prevent any litigation from taking place, Boyko argues. “ERISA provides that a participant’s case is on behalf of the plan, meaning a collective action for all. Rule 23 [class actions] is there to provide due process protections to the other members of the class. There is no good reason to argue the other members of the class are better-protected by eliminating their class action rights.”

Boyko says it is possible the Supreme Court will take up the issue, but “it is more likely to see the 9th Circuit coming down and changing the 2019 decision, to avoid a conflict between the circuits, but it could go to the Supreme Court.”

Jones is more bullish on the possibility of these cases to  be resolved by SCOTUS and favorably for defendants. “I do think the Supreme Court might take this up,” she says, noting that at least one case has requested a hearing by the court and this request is still pending.