How to Prevent a Lawsuit Over Retirement Plan Forfeitures

There has been a rash of lawsuits recently challenging how forfeitures are used in retirement plans. (Forfeitures are the amounts remaining when the unvested portion of a participant’s account is forfeited.) The novel theory in these suits — a purported misuse of discretion in the application of forfeitures — has recently gained some steam and legitimacy after surviving a motion to dismiss in Perez-Cruet v. Qualcomm. Employers with retirement plans that provide discretion over the use of forfeitures should consider making a simple plan design change to avoid being a litigation target.

The following excerpt from the complaint in Qualcomm illustrates the type of claim that is being brought:

At the discretion of Defendants, forfeited nonvested accounts may be used to pay the Plan’s administrative expenses or reduce the Company’s contributions to the Plan. Although Defendants have discretion to use the forfeited funds to pay Plan administrative expenses, and thereby reduce or eliminate the amounts charged to the participants’ individual accounts to cover such expenses, Defendants have consistently declined to use any of these Plan assets for such purposes over the class period. Instead, Defendants have consistently chosen to utilize the forfeited funds in the Plan exclusively for the Company’s own benefit, to the detriment of the Plan and its participants, by using these Plan assets solely to reduce Company contributions to the Plan.

The district court in Qualcomm refused to dismiss this claim finding that the plaintiff “plausibly claims that the Defendants breached their fiduciary duty to Plan participants by making a choice that put the employer’s interests above the interests of the Plan participants.” The crux to the claim is that the plan administrator has discretion to choose how forfeitures are used and makes a choice that is arguably not in the best interest of participants. Generally, if a plan administrator is acting with discretion, it is acting in a fiduciary capacity. Where the plan administrator has no discretion, it is generally acting in a ministerial capacity.

An employer (acting as a settlor, not a fiduciary) should therefore be able to eliminate this type of claim by amending the plan prospectively to specify how forfeitures must be used. Doing so would effectively convert the plan administrator’s fiduciary act into a ministerial act. The plan document could, for example, provide an ordering rule where forfeitures will be used to pay plan expenses only to the extent any forfeitures remain after first being used to offset employer contributions or for other permitted purposes, such as restoring conditionally forfeited accounts. The key is that the plan administrator cannot be faulted for making a choice it does not have, and, from the perspective of many employers, does not really need.

If you have any questions about the use of forfeitures in retirement plans, please contact one of the attorneys in the Employee Benefits & Executive Compensation Practice Group at Bradley.