More Harm Than Good? Considering Pleading Standards in ERISA Duty-of-Prudence Litigation

BACKGROUND

The Employment Retirement Income and Security Act (ERISA) was passed in 1974 to regulate private pension plans. Among other things, ERISA establishes standards of conduct for retirement plan fiduciaries (those who hold a legal relationship of trust with the plan participants), including a duty of prudence.

Wells Fargo’s fraudulent scheme to open fake customer accounts has been well documented and robustly litigated. In addition to consumers and regulators, Wells Fargo has faced legal pressure from many of its own employees. Specifically, Wells Fargo employees brought action against the company for alleged breach of the duty of prudence under ERISA in the management of the company’s 401k retirement plan. Plaintiffs argue that, in failing to disclose the ongoing fraud, Wells Fargo had artificially inflated the value of its own stock and thus the value of the employee retirement accounts which were invested in the company stock.

ISSUE

Could a reasonably prudent fiduciary, who is required under ERISA to manage their plans with “care, skill, prudence, and diligence” under 29 U.S.C. § 1104(a)(1)(B) have concluded that earlier disclosure of fraud would have been more beneficial than harmful to the employees’ stock plan?

THE SPLIT

            The relevant standard for duty of prudence in this case comes from the Supreme Court decision in Fifth Third Bancorp v. Dudenhoefer (2014). In that case, the Supreme Court created a high pleading standard for plaintiffs alleging a breach of duty of prudence under ERISA when such duty comes into conflict with securities law.

The  Fifth, Sixth, and Ninth Circuits

            In Martone v. Robb (5th Cir. 2018), a former employee of Whole Foods sued the company over a breach of duty of prudence when the company plan fiduciaries continued to invest in the company stock, which was alleged to be “artificially inflated due to a widespread overpricing scheme.” In dismissing the plaintiff’s claim, the Fifth Circuit held that the plaintiff could not successfully argue that disclosing the overpricing scheme would not have resulted in more harm than good to the company’s retirement plan.

            The Sixth and Ninth Circuits came to similar conclusions in, respectively, Graham v. Fearon (6th Cir. 2018) and Laffen v. Hewlett-Packard Company (9th Cir. 2018). In Graham, participants in the Eaton Corporation’s retirement plan alleged a breach of duty of prudence when the plan fiduciary bought and held Eaton stock while the company was engaging in fraud. The Sixth Circuit applied Dudenhoefer and affirmed the district court’s grant of defendant’s motion to dismiss. The court wrote

            Applying [Dudenhoefer’s] pleading standard to the facts alleged in Plaintiff’s Complaint, we conclude that the district court properly determined the Complaint does not propose an alternative course of action so clearly beneficial that a prudent fiduciary could not conclude that it would be more likely to harm the fund than to help it.

            The Ninth Circuit Court also applied Dudenhoefer’s pleading standard in Laffen, stating that “[A] prudent fiduciary in the same circumstances as Defendants-Appellees could view Laffen’s proposed alternative course of action as likely to cause more harm than good without first conducting a proper investigation.”

The Second Circuit

            The Second Circuit Court of Appeals has held otherwise. In Jander v. Retirement Plans Committee of IBM (2nd Cir. 2018), plaintiffs sued plan fiduciaries at IBM for breach of duty of prudence when the fiduciaries bought and held IBM stock when a particular division of the company was overvalued. The U.S. District Court for the Southern District of New York dismissed the plaintiff’s claim, but the Second Circuit reversed. The plaintiff in Jander argued that the defendant plan fiduciary could have disclosed the overvaluation earlier along with regular SEC reporting, and the Second Circuit accepted that argument. Applying Dudenhoefer, the Second Circuit determined that a fiduciary could plausibly find that early disclosure of the division overvaluation would be more beneficial than harmful to the plan:

[K]eeping in mind that the standard is plausibility – not likelihood or certainty – we conclude that Jander has sufficiently pleaded that no prudent fiduciary in the Plan defendants’ position could have concluded that earlier disclosure would do more harm than good. We therefore hold that Jander has stated a claim for violation for ERISA’s duty of prudence.

The Eighth Circuit

            The Eighth Circuit’s holding in Allen v. Wells Fargo & Co. is consistent with past holdings of the Fifth, Sixth, and Ninth Circuits. In Allen, and in Dudenhoefer, the plaintiff’s complaint states that the plan fiduciary did not act prudently in light of critical inside information. At the court noted in Dudenhoefer,

To state a claim for breach of the duty of prudence on the basis of inside information, a plaintiff must plausibly allege an alternative action that the defendant could have taken that would have been consistent with the securities laws and that a prudent fiduciary in the same circumstances would not have viewed as more likely to harm the fund than to help it.

            In Allen, Francesca Allen, among other plaintiffs, brought a suit against Wells Fargo that was ultimately dismissed by the United States District Court for the District of Minnesota for failure to state a claim. Allen appealed, and the Eighth Circuit Court of Appeals affirmed that Allen did not meet the pleading standards set forth in Dudenhoefer. In other words, the Eighth Circuit determined that Allen could not plausibly argue that disclosing the fraudulent activity would be more beneficial than harmful to the company retirement plan (or at least not more likely to harm than help). If Wells Fargo had disclosed such information, the company stock would almost certainly have plummeted and wiped out the wealth of plan participants.

Looking Forward

            Allen has not yet filed a petition for writ of certiorari, and it is not clear that she will. The Supreme Court did issue a per curiam opinion in Jander in January 2020, but the case was vacated and remanded on other grounds than those argued in the Second Circuit. When remanded, the Second Circuit decided the case the same as they had before. On November 9, 2020, the Supreme Court denied certiorari on the question of whether allegations that the harm of an inevitable disclosure of alleged fraud increases over time satisfies the “more harm than good” standard in Dudenhoefer. Thus, the Court declined the opportunity to lower the bar slightly for plaintiffs to bring imprudence claims.

 

Further Reading

For further reading, see: https://columbialawreview.org/content/the-duty-to-inform-in-the-post-dudenhoeffer-world-of-erisa/.

That’s Not My Job: Is the Determination of ‘Scope of Employment’ in the FTCA a Merits Issue or a Jurisdiction Issue?

Background

The Federal Torts Claim Act (FTCA) grants federal courts jurisdiction to hear claims against the government for torts committed by government employees acting within the scope of their employment. 28 U.S.C. § 1346(b)(1). The scope of employment issue is dispositive of both the federal court’s subject matter jurisdiction and the merits of the underlying tort claim. Thus, when a defendant wants to raise the defense that the employee was not acting within the scope of their employment, is it proper that they file a motion to dismiss for lack of subject matter jurisdiction (Rule 12(b)(1)), or a motion to dismiss on the merits (Rule 12(b)(6) or Rule 56)? The implications are huge in determining the plaintiff’s likelihood of success.

To survive a defendant’s 12(b)(1) motion to dismiss for lack of subject matter jurisdiction, the burden of proving subject matter jurisdiction (here specifically, the burden of proving that the defendant was acting within the scope of their employment) lies with the plaintiff. This can be a particularly difficult burden given that the discovery process has not begun yet at this stage. Moreover, trial courts have the discretion to independently evaluate factual issues for purposes of determining subject matter jurisdiction. On the other hand, for a plaintiff to survive a 12(b)(6) motion for failure to state a claim (a merit-based motion), the plaintiff’s pleaded facts are assumed to be true, and dismissal is only proper if the alleged facts fail to lay out a valid claim. The plaintiff then gets the benefit of the discovery process, allowing them to acquire otherwise private evidence of those facts, before having to prove them to the court.

The Split

The Fourth, Fifth, Ninth, and Eleventh Circuits all have held that when such a factual determination is inextricably tied to both the question of federal subject matter jurisdiction and the merits of the underlying case, the federal trial court is to assume jurisdiction, in order to evaluate the factual issue at the merits stage. The Fifth Circuit provided cogent reasoning for this stance:

No purpose is served by indirectly arguing the merits in the context of federal jurisdiction. Judicial economy is best promoted when the existence of a federal right is directly reached and, where no claim is found to exist, the case is dismissed on the merits. This refusal to treat indirect attacks on the merits as Rule 12(b)(1) motions provides, moreover, a greater level of protection to the plaintiff who in truth is facing a challenge to the validity of his claim: the defendant is forced to proceed under Rule 12(b)(6) . . . or Rule 56 . . . both of which place greater restrictions on the district court’s discretion. Montez v. Dep’t of the Navy (5th Cir. 2004) (citing Williamson v. Tucker (5th Cir. 1981)).

The Second and Third Circuits have held that the proper way to raise the dispute as to scope of employment is at the outset—in a rule 12(b)(1) motion—citing structural implications in the FTCA as well as procedural ways to ameliorate the concerns cited above by the Fifth Circuit. The Third Circuit reasoned:

The scope-of-employment requirement of the FTCA appears in the same sentence as Congress’s grant of jurisdiction. See 28 U.S.C. § 1346(b)(1). “[J]urisdiction” in § 1346(b)(1) suggests that each clause of that provision represents a limitation on Congress’s waiver of sovereign immunity and thus a limitation on federal courts’ jurisdiction.

* * *

[W] here jurisdiction is intertwined with the merits of an FTCA claim, that a district court must take care not to reach the merits of a case when deciding a Rule 12(b)(1) motion . . Rule 12(b)(1) does not provide plaintiffs the procedural safeguards of Rule 12(b)(6), such as assuming the truth of the plaintiff’s allegations. Thus, when faced with a jurisdictional issue that is intertwined with the merits of a claim, district courts “demand less in the way of jurisdictional proof than would be appropriate at a trial stage.” CNA v. United States (3d Cir. 2008) (citing Gould Elecs., Inc. v. United States (3d Cir. 2000)).

Looking Forward

Do the normative concerns cited by the Fifth Circuit overshadow the textualist reasoning accepted by the Third Circuit? Does the Third Circuit’s claim that district courts will “demand less in the way of jurisdictional proof than would be appropriate at a trial stage” alleviate any of the concerns raised by the Fifth Circuit? For a detailed argument in favor of the Second and Third Circuit jurisdictional approach, check out Erin Murray Watkins’ article for George Mason Law Review, THE SCOPE OF EMPLOYMENT REQUIREMENT OF THE FEDERAL TORT CLAIMS ACT: THE IMPROPRIETY AND IMPLICATIONS OF THE MONTEZ DECISION, AND THE SUPERIOR JURISDICTIONAL PRIMA FACIE APPROACH.