The Supreme Court recently issued a decision regarding the pleading standards for ERISA prohibited transactions claims in a case involving Cornell’s 403(b) plan to resolve a federal circuit court split. Under the Supreme Court’s decision, plaintiffs will only need to allege that the plan engaged in a prohibited transaction. The plaintiffs will not need to also allege the absence of a prohibited transaction exemption.
The Supreme Court’s decision could have far-reaching consequences because most transactions a retirement plan enters into with a service provider—such as a recordkeeper, investment advisor, or investment manager—constitute prohibited transactions with a party-in-interest (for which a prohibited transaction exemption typically applies). Plaintiffs may now be able to file lawsuits containing prohibited transaction claims capable of surviving motions to dismiss even though the allegations are meritless or frivolous. For example, the transaction subject to a claim may clearly fit within a prohibited transaction exemption, such as making reasonable arrangements for services for a reasonable price. This could be the case even if the plaintiff’s related ERISA breach of fiduciary duty claims that are part of the lawsuit are unable to survive a motion to dismiss.
The Supreme Court appeared to acknowledge the potential challenges caused by its decision as they suggested that lower courts could consider:
- requiring plaintiffs file a reply to the defendant’s answer;
- dismissing claims in which the plaintiffs have failed to allege concrete injury for lack of standing;
- requiring the plaintiff to pay defendant’s attorneys fees if the litigation is frivolous;
- imposing Rule 11 sanctions when the applicable prohibited transaction exemption is obvious with no good faith basis for disagreement; or
- allowing limited discovery.
While it is not yet certain how district courts will address the Supreme Court’s decision, going forward it may become even more important for plan fiduciaries to maintain documentation of the service provider selection process and ongoing evaluation to ensure that they can demonstrate that the arrangement with the service provider fits within a prohibited transaction exemption. In addition, plan sponsors may want to consider whether it makes sense for the sponsor to pay certain plan expenses rather than charging them to the plan so that it is less likely the plaintiffs can plausibly allege they have been harmed.
