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Tenth Circuit Issues Significant Post-Amara Ruling on Disclosure Requirements in Connection with Cash Balance Conversions

Wednesday, September 7, 2011

by Bridgit M. DePietto, Proskauer Rose LLP

Tomlinson v. El Paso Corp., No. 10-CV-1385, 2011 BL 208212 (10th Cir. Aug. 11, 2011)

Just three months after the Supreme Court's decision in CIGNA Corporation v. Amara, 131 S. Ct. 1866 (U.S. 2011), the Tenth Circuit issued an opinion inTomlinson v. El Paso Corp., No. 10-CV-1385, 2011 BL 208212 (10th Cir. Aug. 11, 2011), which addresses the disclosure issues under ERISA §§ 102 and 204(h), 29 U.S.C. §§ 1022 and 1054(h), that arise when employers convert traditional defined benefit plans to cash balance plans. Importantly, the Tenth Circuit held that ERISA does not require notification of wear-away periods so long as employees are informed and forewarned of plan changes. The Court also held, consistent with Amara, that a plaintiff seeking injunctive relief under ERISA § 502(a)(3), 29 U.S.C. § 1132(a)(3), with respect to a SPD disclosure violation need not prove that he detrimentally relied upon the defective SPD, but instead must show actual harm caused by an ERISA violation.

El Paso's Cash Balance Plan Conversion

Prior to 1996, the El Paso Corporation offered its employees a traditional defined benefit plan. Under that plan, employees received retirement benefits equal to a percentage of their final average monthly earnings multiplied by their years of service. In 1996, El Paso converted the plan into a cash balance plan. Under the new plan, each participating employee received a hypothetical account and earned quarterly pay credits based upon a percentage of the participant's salary, which increased with an employee's age and years of service, and interest credits based upon the yield of a five-year U.S. Treasury Bond.

The new plan provided for a transition period from January 1, 1997, through December 31, 2001. At the beginning of this transition period, El Paso credited employees' cash balance accounts with an amount that was purportedly equivalent to the lump sum value of their accrued benefit payable upon retirement under the old plan. The cash balance account thereafter increased with pay and interest credits. During the transition period, participants also accrued benefits under the terms of the old plan. At the conclusion of the transition period, participants ceased accruing benefits under the old plan formula. However, their cash balance accounts continued to grow.

Upon retirement, participants in the new plan were entitled to choose the greater of the "minimum benefit," defined as the participant's accrued benefit under the old plan at the end of the transition period, or the cash balance account benefit. As it turned out, the minimum benefit was higher than the value of the cash balance account for many participants at the conclusion of the transition period. For some participants, the value of their cash balance account did not exceed the value of their minimum benefit for several years. This period, during which the participant's cash balance account caught up to the minimum benefit under the old plan, is referred to as a "wear-away period." Older employees were more likely to experience wear-away, and their wear-away periods tended to be longer than younger employees' wear-away periods.

Plan Communications

In January 1996, El Paso informed its employees of its decision to convert the traditional defined benefit plan into a cash balance plan, noting that employees would earn future benefits at a lower rate than under the old plan. In another communication issued in the beginning of October 1996, El Paso warned its employees that the new plan was "no longer at the top of the range," that "the hard truth is that those who are not prepared may have to postpone retirement," and that after the transition period "the current pension plan formula will be frozen for [some] participants and they will not earn any additional benefits under the current plan." El Paso issued another communication at the end of October 1996, which summarized the terms of the new plan and described the conversion as "no risk" and advised employees that they "can't lose" under the new plan and their "account can only go up."

In 2002, the plan administrator furnished participants with a Summary Plan Description (SPD), which explained in detail certain provisions of the new plan, including the calculation of benefits, the transition period, and the greater-of formula. Neither the 2002 SPD nor the 1996 communications contained any explicit reference or warning regarding "wear-away periods" described as such. Two of the three plaintiffs failed to read the SPD, and the third consulted the SPD to find certain information.

Procedural History

In December 2004, plaintiffs filed a purported class action complaint asserting four claims: (1) the relatively longer wear-away period for older El Paso employees violated Section 4 of the ADEA, 29 U.S.C. § 623, which, among other things, prohibits employee pension benefit plans from reducing the rate of an employee's benefit accrual because of age; (2) the wear-away periods violated Section 204(b) of ERISA, 29 U.S.C. § 1054(b), which prohibits employers from "backloading" pension benefits by structuring a pension plan in such a way that participants accrue the bulk of their benefits when they approach retirement; (3) El Paso's notice of plan changes violated ERISA § 204(h), which requires the plan administrator to provide written notice of a plan amendment that significantly reduces the rate of future benefit accruals; and (4) the 2002 SPD failed to comply with ERISA § 102, which requires the SPD to be written in a manner "calculated to be understood by the average plan participant," and "sufficiently accurate and comprehensive to reasonably apprise" participants of plan rights and obligations.

On March 19, 2008, the district court granted defendants' motion to dismiss plaintiffs' anti-backloading and notice claims under ERISA §§ 204(b) and 204(h), respectively, for failure to state a claim. On January 21, 2009, the district court granted defendants' motion for summary judgment dismissing plaintiffs' SPD claim on the merits and the ADEA as untimely. Plaintiffs moved to alter or amend the district court's judgment reviving the ADEA claim based on the Lilly Ledbetter Fair Pay Act of 2009, Pub. L. 111-2, which the district court granted. However, on July 26, 2010, the district court dismissed plaintiffs' ADEA claim on the merits. Plaintiffs appealed the dismissal of their claims.

Tenth Circuit Affirms Dismissal of Claims

ADEA Claim. Plaintiffs appealed the dismissal of their ADEA claim, arguing that, even though younger employees received the same pay and interest credits as older employees, older employees were more likely to experience wear-away periods that tended to be longer in duration. El Paso argued that the ADEA is satisfied as long as El Paso treats older and younger employees equally with respect to credits to their cash balance accounts, even if such treatment results in longer wear-away periods for older employees. The Tenth Circuit agreed. Joining every circuit court that has considered the issue, the Court held that a meritorious claim under ADEA § 4(i)1 or its ERISA counterpart must be based on discriminatory inputs rather than outputs. Here, the Court found that the pay and interest credits were the relevant inputs, which were distributed in a nondiscriminatory manner. Further, the pay credit, which was the only input that varied with age, actually increased as the employee got older. Thus, the Court held that "[a]s long as younger and older employees receive credits to their accounts in a non-discriminatory manner, the plan complies with § 4(i)."

The Court dismissed plaintiffs' argument that it should ignore the pay and interest credits because during the wear-away period participants do not actually earn any inputs under the new plan. The Court stated that a participant will receive the frozen accrued benefit under the old plan only if it is greater than the value of the participant's cash balance account, and it could not hold that an otherwise permissible plan discriminates against older employees merely because the older employees are more likely to qualify for a greater benefit. The Court also stated that the transition structure built into the plan did "not render the cash balance credits illusory. Employees in a wear-away period accrue pay and interest credits in their hypothetical accounts; those benefits are simply displaced by a larger benefit available under the old plan."

ERISA Backloading Claim. ERISA § 204(b)(1) prohibits employers from "backloading" pension benefits by structuring plans in such a way that participants accrue the bulk of their benefits when they are close to retirement. A pension plan must satisfy one of three anti-backloading tests in Section 204(b)(1) to comply with ERISA. The Court tested the El Paso plan under the "133 1/3% rule," which mandates that the amount a participant accrues in any given year "is not more than 133 1/3 percent of the annual rate at which he" accrued benefits in the previous year. Plaintiffs argued that the El Paso plan failed to satisfy the 133 1/3% rule because participants in a wear-away period experienced zero accrual during the wear-away but experienced years of positive accrual after the wear-away period ended.

The Tenth Circuit affirmed the lower court's holding that the new plan did not violate Section 204(b) of ERISA, finding that a participant's election of the minimum benefit under the old plan was not relevant to ascertaining whether the new plan satisfied the 133 1/3% rule. Instead, the Court looked only at the new plan formula as if it had been in effect for all years, which it found not to be backloaded. Moreover, the Court observed, to the extent that, during the transition period, participants continued to accrue benefits under the old plan with the higher accrual rate, for purposes of applying the "greater-of" benefit, the benefit accruals were actually frontloaded, not backloaded.

ERISA § 204(h) Claim. Plaintiffs also appealed the district court's finding that El Paso complied with the notice requirements of ERISA § 204(h). In 1997, when the new plan became effective, ERISA provided that a plan "may not be amended so as to provide for a significant reduction in the rate of future benefit accrual, unless, after adoption of the plan amendment and not less than 15 days before the effective date of the plan amendment, the plan administrator provides a written notice, setting forth the plan amendment and its effective date. . . ." As the Court observed, the applicable regulations did not require El Paso to "explain how the individual benefit of each participant . . . will be affected by the amendment," but they did require El Paso to include either the plan amendment or a summary of the plan amendment "written in a manner calculated to be understood by the average plan participant."

Plaintiffs argued that the Court should not consider the communication furnished in early October 1996 because it was circulated before the plan was adopted. The Court disagreed, finding that plaintiffs failed to explain how receiving notice slightly beforehand harmed them, and declined to invalidate the plan "based on such a de minimis technicality" absent a showing of actual harm. The Court also determined that the content of El Paso's October 1996 communications complied with Section 204(h) because: the first communication distributed in October 1996 contained the effective date of the new plan, warned participants that the new plan would be less generous than the old plan, and informed participants that "the current pension plan formula will be frozen for [some] participants and they will not earn any additional benefits under the current plan;" and the second communication issued in October 1996 explained the calculation of benefits and the transition period. The Court found that these two communications together gave employees notice of the wear-away period because they informed participants that: (1) their benefits under the old plan, the minimum benefit, would be frozen, and (2) they would receive the greater of the frozen minimum benefit or the new, more slowly-growing cash balance benefit. The Court also found that the communication issued at the end of October 1996, combined with the January 1996 communication which directly explained the potential downsides of the transition, provided adequate notice under ERISA § 204(h).

ERISA SPD Claim. Finally, plaintiffs argued that because the 2002 SPD failed to include information regarding wear-away periods and benefit reductions, the district court erred in holding that it complied with ERISA Section 102. Defendants contended that: (1) the district court correctly concluded that because plaintiffs never read the SPD, they could not have been injured by any reliance upon allegedly inadequate information contained therein, especially when they received information regarding the plan conversion from other sources, and (2) ERISA § 102 does not require disclosure of wear-away periods and benefit reductions.

Citing Amara, the Tenth Circuit held that for the injunctive relief sought, plaintiffs need not "meet the more rigorous standard implicit in the words 'detrimental reliance,'" but instead must show "actual harm" "caused by El Paso's breach of ERISA § 102. . . ." For that reason, the Court did not uphold the district court's first rationale for dismissing the SPD claim. The Court nevertheless concluded that plaintiffs' SPD claim failed for "a more fundamental problem—under our precedent it is clear that wear-aways need not be explicitly disclosed in the SPD." Citing its recent ruling in Jensen v. Solvay Chemicals, Inc., 625 F.3d 641(10th Cir. 2010), the Court stated that "[a]bsent a finding of deceit on the part of the employer or a failure on the part of the employer to explain how benefits are calculated, we will not invalidate an SPD that neglects to inform employees of a wear-away period." The Court dismissed the plaintiffs' argument that the SPD and surrounding notices were "somewhat confusing," finding that a confusing SPD is not tantamount to a deceitful SPD or one that fails to explain the manner of conversion to cash balance accounts.

Proskauer's Perspective

The Tenth Circuit's ruling reflects a trend among several courts to avoid findings of onerous liability based on expansive or hyper-technical constructions of ERISA's disclosure rules. The Tenth Circuit appeared to be less concerned than other courts which have addressed the issue that participants might have been confused as to the impact of wear-away. In the Tenth Circuit's view, whether or not the plan communications could have been more forthcoming on this issue, the communications did not amount to statutory disclosure violations that would trigger potential invalidation of the amendments or other expansive forms of relief.

The Court's view on the burdens of proof for recovery of relief in the event of a finding of liability is less clear. In reversing the lower court ruling, insofar as it conditioned relief on a showing of detrimental reliance, the Court parroted the Supreme Court's pronouncement in Amara. But because, like Amara, the Court did not consider what type of showing of "actual harm" would suffice, we are left not knowing whether plaintiffs would ever have been able to satisfy the conditions for relief. The El Paso decision thus helps to frame the relief issue for future cases, without purporting to resolve it.

Ms. DePietto is an associate in Proskauer's Employee Benefits, Executive Compensation & ERISA Litigation Practice Center, resident in Proskauer's Washington, DC office.

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