Supreme Court Allows Fiduciary Breach Claim for Failure to Follow Investment Instructions

February 22, 2008

The U.S. Supreme Court held on Wednesday that ERISA allows recovery for breaches of fiduciary duty that reduce a participant’s individual retirement account. LaRue v. DeWolff, Boberg & Associates, Inc., No. 06-856 (Feb. 20, 2008). This decision overruled the U.S. Court of Appeals for the Fourth Circuit, which had denied relief based on prior law that losses were not recoverable unless they affected a benefit plan as a whole.

James LaRue, a participant in a § 401(k) plan, alleged that in 2001 and 2002 he directed his employer to change his plan investments, but his instructions were not followed, and his plan balance was “depleted” by $150,000 as a result. The Fourth Circuit evaluated LaRue’s claim as one for breach of fiduciary duty under ERISA § 502(a)(2), 29 U.S.C. § 1132(a)(2). Relying on Massachusetts Mut. Life Ins. Co. v. Russell, 473 U.S. 134 (1985), the Fourth Circuit found that this section provides remedies only for plans as a whole, not for individuals, and that LaRue’s claim was individual for that purpose.

The Supreme Court found, to the contrary, that Russell’s requirement that relief benefit the entire plan presumed a defined benefit plan. Justice Stevens, writing for the Court, found that the relief suffered by LaRue “created the kind of harms that concerned [ERISA’s] draftsmen.” He also noted that ERISA § 404(c), which bars fiduciary liability for participants’ investment decisions, would serve no purpose if relief were not available for losses to a participant’s individual account. The Court thus found Russell inapplicable to a defined contribution plan like LaRue’s § 401(k) plan, and therefore that LaRue could pursue a claim under ERISA § 502(a)(2).

All the Justices agreed on the result, but there were two concurrences.

Chief Justice Roberts, joined by Justice Kennedy, wrote to stress that the Court had not considered whether relief under § 502(a)(2) might be barred by the availability of relief on an ordinary claim for benefits under the terms of the plan. He noted that a benefit claim would be subject to a requirement for exhaustion of administrative remedies, and would normally be subject to a discretionary standard of review, but that LaRue’s claim threatened to evade both those rules. (The Court expressly did not decide whether LaRue was required to exhaust administrative remedies on his claim under § 502(a)(2).)

Justice Thomas, joined by Justice Scalia, concurred on the ground that participant accounts in a § 401(k) plan are merely bookkeeping entries for plan assets that are legally owned by the plan trustee, such that a loss to the participant account is also a loss to the plan as a whole.

In our view, this case offers lessons in how not to litigate an ERISA claim. Mr. LaRue could have made a benefit claim under the administrative claim procedures provided by his 401(k) plan, with no question that a remedy would be available. That procedure would have created a record as to whether the administrator in fact failed to follow LaRue’s investment instructions. Instead, LaRue sued for breach of fiduciary duty and the administrator chose to challenge the sufficiency of LaRue’s pleading, rather than develop a record of what really happened.

Because no record existed, the Court was required to assume that LaRue’s allegations were true. The Supreme Court therefore had to decide whether ERISA afforded a meaningful remedy to the blatant fiduciary violation alleged by LaRue. The result was not a surprise. After all this litigation, the case now goes back to U.S. District Court to determine whether LaRue’s allegations are true.

Employers faced with a claim similar to LaRue’s should consider processing the claim through the plan’s ERISA claims procedure. Such processing builds a factual record that may avoid or reduce the expense of a subsequent lawsuit. LaRue also emphasizes, of course, the importance of careful administration and employee training so that errors do not occur in the first place.