News coverage of failed pension plans and the resulting Pension Protection Act brought the once seldom-used fiduciary liability insurance to the forefront. It has become an important management liability product–a must-have coverage for companies of all sizes seeking to protect their executives.

But many questions still remain about who these policies cover, and why companies need coverage for this liability.

The quick answer is that fiduciary liability helps protect executives who may be found personally liable for losses to a company-administered benefit plan that resulted from their failure to act in the best interests of benefit plan participants. But as with many issues requiring government intervention, the issue is more complex.

Long before the Pension Protection Act was passed in 2006, the Employee Retirement Income Security Act of 1974 was enacted to protect employee benefit plan assets. ERISA defined the role and responsibilities of a fiduciary as any person exercising discretionary authority or control in managing a retirement plan.

Plan fiduciaries include anyone offering investment advice concerning plan assets for a fee. These can include:

o A third-party administrator.

o A chief financial officer administering a plan on a company's behalf.

o A human relations manager who processes plan enrollment paperwork for an employee or group of employees.

o An outside investment company making investment choices for a plan.

o Members of a benefit plan's investment committee.

Under ERISA, all fiduciaries are required to act prudently and in the best interests of benefit plan participants. For example, a plan trustee must ensure that fees charged by plan service providers are reasonable and not excessive.

ERISA also assigns personal liability to the fiduciary for failure to perform any of these duties, whether the failure was intentional or not. The personal liability is absolute and unlimited. Personal liability for a fiduciary inevitably extends to the corporation because the plaintiffs' attorneys frequently name both the fiduciaries and the corporate entity as the deep pocket.

ERISA is applicable to several categories of retirement plans: defined benefit pension plans, profit-sharing plans such as 401(k)s, stock bonus plans, employee stock ownership plans, and even medical-dental, life and disability plans.

ERISA gives plan participants and their families the right to sue for breaches of fiduciary duty and loss of benefits. While most claims for breach of fiduciary duty are brought by past or present employees or their families, claims can also be in the form of an investigation by a regulatory body such as the Department of Labor.

Four case studies illustrate the breadth of responsibility that ERISA imposes on fiduciaries.

o Concentration of company stock in pension plans:

Employee benefit plan participants frequently file class action lawsuits alleging that investment in company stock is an imprudent investment. These suits typically follow securities class-action lawsuits against the company and its directors and officers when there is a steep decline in the company's stock price.

In these suits, participants usually allege that the fiduciaries of the plan, including the directors of the company, breached their fiduciary duty by allowing company stock to be an investment option in the plan and at the same time requiring that matching contributions be invested in company stock with little or no diversification rights.

These suits also often allege that when directors and officers make false or misleading statements to employees, shareholders or the public, they have violated responsibilities within the framework of ERISA.

Because many directors and officers policies exclude coverage for ERISA actions, a fiduciary liability policy is the only source of protection.

o Defined benefit plan converts to cash balance plan:

Companies are also exposed when they decide to convert their traditional defined benefit pension plans into cash balance plans. Under a traditional defined benefit plan, the employer guarantees a specified benefit at retirement. In a cash balance plan, each employee has a hypothetical account to which contributions and interest payments are credited.

Plan participants have increasingly filed class-action suits against their employers alleging breaches of fiduciary duty resulting from inappropriate use of actuarial assumption rates in calculating the lump-sum cash-out values. Plaintiffs have also alleged that the conversion fails to consider the longer service time of certain employees and consequently decreases their accrued benefits in violation of ERISA.

o Benefit plans, pre- and post-merger or acquisition:

Sometimes companies face fiduciary claims when they are involved in merger or acquisition activity. If one company acquired by another has its benefits plan replaced by the acquiring company, those employees may file suit, claiming there was a reduction in benefits because the new plans are less beneficial than the old plans.

o HR Administrative error:

Even the human resources department can become liable for a fiduciary claim when the same employee also advises company employees about their enrollment in certain benefit plans.

If this individual wrongfully advises an employee of plan benefit eligibility, this unintentional denial of benefits can be considered a breach of fiduciary duty.

In fact, in a past case, a court ruled that an HR employee was liable for denying another employee's eligibility for a particular benefit plan, even though the HR employee contended he did not have the proper authority over benefit plan decisions.

The court ruled that his actions gave the impression that he was acting as a fiduciary and, therefore, he should be held personally liable.

Many of these fiduciary lawsuit examples are inevitable and can be very expensive. It is not uncommon for defense costs of a claim to run up to $1 million.

Businesses should thoroughly review their fiduciary liability exposure and discuss various methods of protection with their brokers. There are plenty of resources available in the marketplace to ensure that no company goes unprotected.

Being prepared is not only prudent risk management, it makes sound business sense.

Special Reports /

Pension Woes Raise Fiduciary Coverage Need

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