Last week, the U.S. Solicitor General filed an amicus brief in Fifth Third Bancorp v. Dudenhoeffer, a case in which the Supreme Court will decide whether fiduciaries of an employee stock ownership plan are entitled to a presumption that their decision to invest in employer stock complied with their duties under ERISA. This is an issue we follow closely on this blog. The Solicitor General's position is that ESOP fiduciaries are not entitled to any presumption of prudence.
While nominally supporting the decision by the U.S. Court of Appeals for the Sixth Circuit under review in Fifth Third, the Solicitor General's brief actually argues for a far broader conclusion than the Sixth Circuit itself reached. The Sixth Circuit in Fifth Third revived a lawsuit challenging ESOP fiduciaries' decision to remain invested in employer stock despite their alleged knowledge that the employer's exposure to subprime lending risks artificially inflated its stock price. The district court dismissed the lawsuit, finding that the plaintiffs had failed to plead facts to overcome the presumption of prudence. The Sixth Circuit reversed. Although the Sixth Circuit recognizes a weak version of the presumption of prudence, the court held that the presumption should not be applied at the motion to dismiss stage. Rather, the Sixth Circuit concluded, a plaintiff challenging ESOP fiduciaries' investment decisions should be permitted to survive a motion to dismiss simply by plausibly alleging that the fiduciaries' decisions were imprudent, just as any other ERISA plaintiff would have to do with respect to any retirement plan.
The Sixth Circuit's approach to the presumption of prudence differs from that of other circuits in two significant respects. First, as applied in other circuits, the presumption requires the plaintiff to meet a steep burden, such as showing that fiduciaries knew, or should have known, that the employer was on the verge of collapse or the stock was in imminent danger of becoming worthless. The Sixth Circuit requires only that the plaintiff show that a prudent fiduciary would have made a different decision, such as divesting the plan's investments in employer stock. Second, unlike the Sixth Circuit, most courts hold that the presumption applies at the motion to dismiss stage, so that the plaintiff must plausibly plead facts rebutting it in the complaint.
While the Sixth Circuit's approach is less stringent in these respects, the Solicitor General's brief nevertheless maintains that even its weak version of the presumption is "inconsistent with ERISA," because it still creates a "demanding burden" at the summary judgments stage or at trial.
In the Solicitor General's view, the presumption of prudence arose out of courts' misunderstanding of the exemption from the duty to diversify plan assets that ERISA grants to ESOP fiduciaries. According to the Solicitor General, the "diversification exemption merely absolves ESOP fiduciaries from the ordinary obligation to reduce risk by spreading plan assets among multiple prudent investments. It does not permit them to concentrate plan assets in an imprudent investment, such as employer securities the fiduciary knows or should know are materially overvalued." In short, the Solicitor General concludes, ERISA "obligates the fiduciary of a plan that includes an ESOP option to depart from the plan's requirements if the initial investment options are no longer prudent."
The Supreme Court will hear arguments in the Fifth Third case on April 2, and will likely decide it before the end of the current term in June. We will report on any developments in the case immediately.
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