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Shoulda, Coulda, Woulda: 4th Circuit Adds a New Fiduciary Twist

With the ERISA fiduciary community still absorbing the impact of the Supreme Court’s rejection of the presumption of prudence standard for company stock in retirement plans, a federal appellate court has introduced a new and potentially complicating aspect to consider. 

The traditional standard of review has been whether a prudent fiduciary could have made the same decision as the case under consideration. But the 4th U.S. Circuit Court of Appeals, in Tatum v. RJR Pension Investment Committee, et al., held out a different standard — whether a prudent fiduciary would have made the same decision. 

This new — and higher — standard would appear to require not only that a prudent fiduciary might have made the decision in question, but that, considering all circumstances known to the plan fiduciaries, the decision is one that more prudent fiduciaries than not would also make. Said another way, it would seem to require that the challenged decision is the one that the most prudent fiduciary would have made.

Background

The case was a “reverse” stock drop case in which the employer (RJR) was sued for dropping two company stock funds from the plan. The 1999 spin-off of the R.J. Reynolds Tobacco Company from Nabisco resulted in the creation of a new RJR 401(k) plan (which was spun off from the existing RJR-Nabisco 401(k) plan). This new plan contained both an RJR common stock fund and a Nabisco stock fund from the predecessor plan. 

The plan document said that the Nabisco stock fund was to remain as a frozen fund in the RJR plan after the plan spin-off, but approximately six months after the corporate transaction, the RJR plan fiduciaries liquidated the Nabisco stock fund at a point when its shares had declined significantly in value from the time of the corporate spin-off. Within a year of that decision, a takeover bid for Nabisco sparked a bidding war that drove the price of the now-liquidated Nabisco stock up dramatically. So, in this case, participants were suing not because the stock had been held as an imprudent investment, but because of the decision to remove the stock as an investment option.

A complicating factor was that the decision to eliminate the Nabisco stock fund from the spun-off RJR plan wasn’t formally investigated and approved by the benefits committee as required by the plan document, nor was the plan was properly amended to remove the relevant stock fund. According to the record, testimony of company executives and benefits committee members indicated that more thought was given to the effect of the decision on the company than on the plan participants. It was ultimately this series of procedural missteps that led to the case moving past the pleadings stage, for an actual evaluation of the prudence of the decision to remove the fund.

The Decision(s)

The U.S. District Court for the Middle District of North Carolina issued an opinion and final judgment ruling in favor of defendant R.J. Reynolds Tobacco Company, holding that the plan fiduciaries had breached their fiduciary duty in deciding to liquidate the plan’s holding of Nabisco stock without undertaking a proper investigation into the prudence of doing so. 

However, the court said that the breach did not result in losses, since the decision to liquidate the stock was one that a reasonable and prudent fiduciary could have made after performing a proper investigation.

The appellate court agreed that there was a breach, but reversed the district court’s holding with respect to the harm caused by the decision — because it found that the proper standard for evaluation was not whether a reasonable and prudent fiduciary could have made the same decision, but rather whether a reasonable and prudent fiduciary would have made the decision.

The dissent argued that the “would have” standard is unreasonable and unworkable because it would require fiduciaries to make the best possible decision rather than simply a prudent decision, a “with the benefit of hindsight” standard that has not previously been imposed. The 4th Circuit’s majority saw the modification was modest, and that nothing in the holding requires fiduciaries to make decisions that hindsight will prove was the best decision.

The Implications

For plan fiduciaries — and advisors who work with them — the case is a reminder of the importance of adhering to plan documents, documenting that adherence, and bearing in mind not only the requirements of prudence on the decisions, but that those decisions are to be made with the interests of the plan participants and beneficiaries foremost in mind. 

There is, of course, a potential Catch-22 here worth acknowledging — the double-edged risk of either being sued for keeping an investment that proves to be imprudent option, or for imprudently dumping an investment option. 

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