Qualified Default Investment Alternative Safe Harbor Upheld

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[authors: R. Randall Tracht, Brian J. Dougherty, Lisa H. Barton, and George Y. Tsai]

Sixth Circuit finds that plan fiduciaries did not breach their duties when participants' investments were transferred to the plan's default fund without their explicit consent.

The U.S. Court of Appeals for the Sixth Circuit affirmed that a Section 403(b) plan administrator did not breach its fiduciary duty to plan participants when it changed the plan's default investment fund and automatically transferred participants' investments to the new default fund without first receiving actual investment elections from the participants.[1] In Bidwell, the Sixth Circuit upheld the U.S. District Court for the Western District of Kentucky's April 17, 2011, decision that the Department of Labor's (DOL's) Qualified Default Investment Alternative (QDIA) safe harbor protected a plan fiduciary from liability stemming from losses suffered following a transfer of participant accounts to the plan-selected default investment vehicle, provided adequate notice and other procedural requirements were satisfied.

Background on QDIA

The QDIA safe harbor was enacted as part of the Pension Protection Act of 2006 (PPA) to provide plan fiduciaries with the opportunity to preserve the relief available under Section 404(c) of the Employee Retirement Income Security Act of 1974, as amended (ERISA), for participant-directed investments. Section 404(c) provides that the fiduciary of an individual account plan (e.g., a 401(k) or 403(b) plan) will not be responsible for investment losses stemming from a participant's investment election so long as certain procedural requirements are satisfied. Under the DOL's enabling QDIA regulations, plan fiduciaries can preserve Section 404(c)'s safe harbor even in situations where a participant fails to make an affirmative election and the participant's account is defaulted into a particular investment alternative. To qualify for the QDIA safe harbor, a plan must satisfy certain procedural requirements and offer a default investment alternative that is recognized by the QDIA regulations.

Factual Background and the District Court's Decision

Following the issuance of the QDIA safe harbor regulations in 2008, the University Medical Center, Inc. (UMC), changed the default investment in its 403(b) plans from the Lincoln stable value fund to the comparatively more aggressive Lincoln Retirement Services life cycle fund. In making this change, UMC decided to transfer all amounts already invested in the Lincoln stable value fund to the Lincoln life cycle fund. Because UMC did not have records distinguishing between participants who had elected to participate in the stable value fund and participants who had simply been placed there by default, UMC sent notice to all plan participants that their investments in the stable value fund would be transferred to the life cycle fund unless they elected otherwise.

The plaintiffs were participants who had affirmatively elected to invest in the stable value fund. The plaintiffs claimed that they never received notice of the transfer, and that, as a result, their investments were transferred to the life cycle fund without their knowledge, resulting in significant losses while invested there. The plaintiffs filed suit, alleging that UMC and Lincoln, as fiduciaries, breached their duties under ERISA by transferring their accounts to the life cycle fund involuntarily.

In a ruling supporting QDIAs, the district court held that neither UMC nor Lincoln was liable for a breach of fiduciary duty.[2] The court concluded that Lincoln was not a fiduciary of the UMC 403(b) plans, and that while UMC was acting in a fiduciary capacity, it complied with the QDIA safe harbor and, therefore, did not breach its fiduciary duties under ERISA. Notably, the district court found that UMC's notice to participants satisfied the QDIA notice requirements, and that following the participants' failure to opt out of the transfer, UMC operated within the scope of the QDIA regulations in transferring the participant accounts to the new default investment. The district court also rejected the plaintiffs' argument that UMC's actions contradicted the terms of the UMC plans' summary plan descriptions (SPDs), finding that despite inconsistencies among the SPDs, the plan document, and the QDIA notice, the language in the governing plan documents and the SPDs gave UMC the necessary authority and discretion to alter the plaintiffs' prior investment elections.

The Sixth Circuit Affirms

On appeal to the Sixth Circuit, the plaintiffs argued that the QDIA safe harbor provision does not insulate UMC as a plan fiduciary against claims by participants who had affirmatively elected the stable value fund as their investment choice because the safe harbor provision covers only employer-selected, not employee-selected, investment vehicles.[3] The Sixth Circuit rejected this argument, noting that in adopting the final QDIA regulation, the DOL explicitly stated that "the final regulation applies to situations beyond automatic enrollment," including "[w]henever a participant or beneficiary has the opportunity to direct the investment of assets in his or her account, but does not direct the investment of such assets," provided that the other safe harbor provisions are satisfied. The court went on to hold that the "DOL was clear also that the 'opportunity to direct investment' includes the scenario where a plan administrator requests participants who previously had elected a particular investment vehicle to confirm whether they wish for their funds to remain in that investment vehicle." Deferring to the DOL's reasonable interpretation of its own regulation, the Sixth Circuit rejected the plaintiffs' claim.

The plaintiffs further argued that UMC's transfer of their investments was (i) outside the scope of the DOL's QDIA regulations and (ii) a breach of the terms of the UMC 403(b) plans. With respect to the first argument, the court noted that the plain language of the DOL QDIA regulation extends to acts of a fiduciary in transferring funds from an investment vehicle to a QDIA and, in fact, covers such scenarios in its illustrative examples. With respect to the second argument, the court affirmed the district court's conclusion that the transfer was authorized under the powers granted to the plan administrator through the plan's terms.

Although the plaintiffs did not appear to specifically raise this issue, the Sixth Circuit also evaluated whether UMC complied with the QDIA notice requirements. The court held that while UMC could have demanded more proof of delivery (e.g., individual delivery confirmation), UMC's notice via first-class mail was "reasonably calculated to ensure actual receipt" and thus complied with the QDIA notice requirements.

Implications

The Sixth Circuit's affirmation in Bidwell is a positive outcome for plan sponsors and fiduciaries. It is another reminder, however, that plan sponsors and fiduciaries should take steps to ensure that their QDIAs, plan terms, and design features relating to default investments and transfer of investments, as well as related administrative and notice processes, comply with the DOL's QDIA requirements.


[1]. Bidwell v. Univ. Med. Ctr., Inc., No. 11-5493 (6th Cir. June 29, 2012), available here.

[2]. A more detailed description of the district court decision may be found in our April 29, 2011, LawFlash, "U.S. District Court Finds No Fiduciary Breach for Change in Qualified Default Investment Alternative," available here.

[3]. The plaintiffs waived appeal of the district court's decision in favor of Lincoln by failing to raise arguments regarding Lincoln upon appeal.