When a company is in bankruptcy or facing financial hardship, at some point it might have to face the question of whether to terminate its defined benefit pension plans. This is a difficult decision, and hard as a plan sponsor tries, termination might turn out to be the only option.
But there is a related question that frequently does not get the same level of attention, much to the detriment of the plan's participants. In the event the plan is terminated with insufficient funds, who should serve as the trustee of the terminated pension plan, ensuring the remaining plan assets are fairly distributed to the plan's participants?
Congress passed the Employee Retirement Income Security Act of 1974 as a way to address a number of perceived flaws in the pension system, including termination of pension plans leaving participants without the pensions upon which they had been depending. Title IV of ERISA established the Pension Benefit Guaranty Corp. to administer a mandatory government pension insurance program, guaranteeing pension payments of underfunded terminated plans up to legal limits. In addition to the insurance guarantee, ERISA provides another layer of protection for employees by allowing for the appointment of a successor trustee to administer the plan.
The successor trustee has a number of critical fiduciary responsibilities, including exercising a broad array of powers over the remaining plan assets and how they are distributed to participants, serving as the eyes and ears of the plan participants, investigating and identifying potential financial claims that might be brought on behalf of the plan, bringing lawsuits in connection with those claims when appropriate and generally ensuring that the participants receive as large a share as possible of the benefits they earned.
ERISA establishes a framework for the appointment of the successor trustee, making clear the federal agency responsible for insuring the failed pension — the PBGC — “may request” its own appointment. But the statutory scheme, and particularly the provision authorizing compensation for the trustee, also suggests Congress did not expect the PBGC would routinely act as the trustee. Nonetheless, since its creation in 1975, the PBGC invariably has sought and secured the role of trustee in connection with the terminated pension plans it insures, almost always by agreement with the prior plan administrator. In most cases, plan administrators readily agree to the PBGC's appointment, probably assuming they have no choice in the matter, and that the PBGC will be a competent trustee.
In the past decade, the problems of allowing the PBGC to serve as plan trustee have become increasingly apparent. Two fundamental problems are evident.
The first is that serving in this dual role — as both the federal agency responsible for guaranteeing pensions and as the fiduciary trustee of the participants of the terminated plan — has imposed overwhelming administrative burdens on the PBGC that are, unfortunately, beyond its ability to handle. The PBGC serves as the trustee for more than 4,300 terminated plans and 1.5 million beneficiaries. Predictably, the logistics associated with such large numbers has proved too much for a single trustee, with the agency taking up to a decade to make its final benefit determinations as to plan asset allocations in the larger and more complicated plans. Because participants may not challenge their share of the asset allocation until the benefit determinations are finalized, these excessive delays impose a significant hardship on plan participants, and it is common for a plan participant in a larger plan to pass away well before the PBGC finalizes his benefit determination. Even then, the determinations are not only slow, but rife with errors, often as a result of the PBGC outsourcing the work to unqualified contractors. These errors have been the subject of numerous critical reports by the PBGC's inspector general, who recently described the PBGC's audit process as “seriously deficient,” noting that problems originally detected in 2007 continue unabated.
The second problem with agreeing to the appointment of the PBGC as the plan's trustee is that the PBGC has an inherent conflict of interest. ERISA makes clear the statutory trustee is a “fiduciary,” whose guiding concern is supposed to be the welfare of plan participants. But the PBGC's insurance program is funded by plan sponsor insurance premiums, and because of this lack of public funding, the PBGC is often concerned with its own fiscal bottom line. This can create a conflict because there are many times in the process where the best interests of the participants are completely counter to the financial interests of the agency. One good example of this is when it comes time to estimate the remaining plan liabilities and assets. A true fiduciary would want as accurate an estimate as possible, in order to ensure the participants get every conceivable penny out of the funds that were contributed by the sponsor for their benefit. The PBGC, however, has the exact opposite incentive; any underestimation of plan assets, or overstatement of plan liabilities, works to the PBGC's benefit, at the direct expense of the participants' rightful share of plan assets.
The PBGC's conflicts and limitations as successor trustee were on full display in February as the agency fought against its removal as trustee for the US Airways Pilots Plan. After the PBGC issued formal benefit determinations in the US Airways Plan in 2007, participants contacted the PBGC to ask that it investigate potential claims that might exist on the plan's behalf. In 2009, the union representing the US Airways pilots sued the PBGC in federal court, alleging the PBGC had failed meaningfully to investigate or prosecute claims on behalf of the plan, and asking the court to replace the PBGC with an independent fiduciary. In February, the court held a three-day bench trial on the pilots' allegations, during which the court heard testimony from a number of witnesses regarding the agency's practices in dealing with its trusteed plans. The court also heard testimony from the PBGC's expert witness (a former general counsel of the agency) who sought to defend the PBGC by arguing that, because of the PBGC's conflicting interests, its fiduciary obligations as a statutory trustee are less than the obligations of other fiduciaries. Indeed, the crux of her argument was that while independent trustees must act solely in the interests of a plan's participants and beneficiaries, the PBGC by definition cannot do so because it has competing statutory obligations, and that its fiduciary obligations must therefore be less. The court has not yet issued its ruling, and the plaintiffs have offered a significant amount of legal authority to dispute the notion that the PBGC's fiduciary obligations are less than those of other trustees; nonetheless, it is clear that however the court rules, plan administrators are now on notice that the PBGC believes that it cannot and will not afford plan participants and beneficiaries with the same level of fiduciary care that an independent fiduciary would render.
These concerns were likely why Congress made the appointment of the PBGC as trustee merely optional, and did not envision its uniform and routine appointment. They also illustrate why the current practice of appointing the PBGC as trustee in every case should be revisited. An independent fiduciary will not suffer these same distractions or conflicts.
It is accordingly important that, when a pension plan's termination is considered, the administrator of the current plan considers whether it truly is in the best interests of the participants to agree to the PBGC's appointment as statutory trustee. Great care should be given to whether the appointment of a different trustee would better serve the participants. In fact, the current plan administrator's failure to at least consider the option of appointing an independent trustee can open a fiduciary up to potential liability during the plan termination process.
However, there is some indication that plan administrators are beginning to question the wisdom of such action. For example last year, as the law firm Dewey & Leboeuf LLP began the process of liquidation, the PBGC sought the firm's agreement to have the plan terminated and have itself appointed as the successor trustee. Firm management (the named administrator of the plan) refused, initially opting to appoint an independent fiduciary to deal with the plan's administration. Ultimately, the PBGC was able to convince Dewey to agree to its appointment as successor trustee as part of a broader settlement, but the fact that the trusteeship issue was part of the settlement discussions at all suggests that prudent plan administrators are beginning to see that the question cannot just be taken for granted.
While the level of compensation for a trustee is not specified in the statute, ERISA does anticipate that successor trustees will need to be compensated, and indeed the statute's only requirement is that both the PBGC and the court play a role in setting the compensation level to ensure that plan assets are not unnecessarily depleted. In larger plans with significant assets, the revenue that the plan assets generate (post-termination) is more than sufficient to fund a reputable independent fiduciary. While the PBGC currently uses the investment returns from trusteed plans for its own operations, a fiduciary could certainly conclude those returns could be put to better use in retaining a dedicated independent fiduciary who did not face the same conflicts and institutional inefficiencies that plague the PBGC.
A plan administrator, acting as a fiduciary, will want to undertake with great care the responsibility of implementing a decision to terminate a plan to ensure the termination process ultimately chosen does the least harm possible to employees who have earned their pensions over the course of a lifetime.
Timothy O'Toole is a member and Michael Khalil is counsel at the law firm of Miller & Chevalier Chartered, Washington.
Editor’s note: Miller & Chevalier Chartered is representing retired US Airways pilots in a lawsuit (Thomas G. Davis, et al., plaintiffs, vs. PBGC) accusing the Pension Benefit Guaranty Corp. of unlawfully depriving benefits to the group. Mr. O'Toole is a counsel in that case. The law firm isn’t involved in the case mentioned in this commentary.
