I. Categories of Liability Faced By Third Party Administrators and Consultants

A. ERISA Liability For Breach of Fiduciary Duty

1. "Named" Fiduciaries

a. "Administrator" - Defined by ERISA §3(16)(A):

"The term 'administrator' means --

(1) the person specifically so designated by the terms of the instrument under which the plan is operated;

(2) if an administrator is not so designated, the plan sponsor; or

(3) in the case of a plan for which an administrator is not designated and a plan sponsor cannot be identified, such other person as the Secretary may by regulation prescribe."

"Administrator" should not be confused with third party administrator or other consultants. [Note, however, that plaintiffs' attorneys who are not experienced in ERISA litigation frequently allege that TPAs are the plan "administrator". Consider stating, in your engagement letter, and having client acknowledge, that you are not the "administrator" as defined by ERISA.]

b. Trustees

c. Investment managers: Defined by ERISA §3(38):

"The term 'investment manager' means any fiduciary (other than a trustee or a named fiduciary, as defined in section 402(a)(2)) -

(1) who has the power to manage, acquire, or dispose of any asset of a plan;

(2) who (i) is registered as an investment adviser under the Investment Advisers Act of 1940 [15 U.S.C. 80b-1 et seq.]; (ii) is not registered as an investment adviser under such Act by reason of paragraph (1) of section 203(A)(a) of such Act, is registered as an investment adviser under the laws of the State (referred to in such paragraph (1)) in which it maintains its principal office and place of business, and, at the time the fiduciary last filed the registration form most recently filed by the fiduciary with such State in order to maintain the fiduciary's registration under the laws of such State, also filed a copy of such form with the Secretary; (iii) is a bank, as defined in that Act; or (iv) is an insurance company qualified to perform services described in subparagraph (A) under the laws of more than one State; and

(3) has acknowledged in writing that he is a fiduciary with respect to the plan."

2. "Functional Fiduciaries"

a. ERISA §3(21)(A): (A) Except as otherwise provided in subparagraph (B), a person is a fiduciary with respect to a plan to the extent (i) he exercises any discretionary authority or discretionary control respecting management of such plan or exercises any authority or control respecting management or disposition of its assets, (ii) he renders investment advice for a fee or other compensation, direct or indirect, with respect to any moneys or other property of such plan, or has any authority or responsibility to do so, or (iii) he has any discretionary authority or discretionary responsibility in the administration of such plan. Such term includes any person designated under section 1105(c)(1)(B) of this title.

3. DOL Regulations - Q&A Regarding Fiduciary Liability:

Q: "Is an attorney, accountant, actuary or consultant who renders legal, accounting, actuarial or consulting services to an employee benefit plan (other than an investment adviser to the plan) a fiduciary to the plan solely by virtue of the rendering of such services, absent a showing that such consultant (a) exercises discretionary authority or discretionary control respecting the management of the plan, (b) exercises authority or control respecting management or disposition of the plan's assets, (c) renders investment advice for a fee, direct or indirect, with respect to the assets of the plan, or has any authority or responsibility to do so, or (d) has any discretionary authority or discretionary responsibility in the administration of the plan?

A: No. However, while attorneys, accountants, actuaries and consultants performing their usual professional functions will ordinarily not be considered fiduciaries, if the factual situation in a particular case falls within one of the categories described in clauses (a) through (d) of this question, such persons would be considered to be fiduciaries within the meaning of section 3(21) of the Act.

Q: Are persons who have no power to make any decisions as to plan policy, interpretations, practices or procedures, but who perform the following administrative functions for an employee benefit plan, within a framework of policies, interpretations, rules, practices and procedures made by other persons, fiduciaries with respect to the plan:

(1) Application of rules determining eligibility for participation or benefits;

(2) Calculation of services and compensation credits for benefits;

(3) Preparation of employee communications material;

(4) Maintenance of participants' service and employment records;

(5) Preparation of reports required by government agencies;

(6) Calculation of benefits;

(7) Orientation of new participants and advising participants of their rights and options under the plan;

(8) Collection of contributions and application of contributions as provided in the plan;

(9) Preparation of reports concerning participants' benefits;

(10) Processing of claims; and

(11) Making recommendations to others for decisions with respect to plan administration?

A: No. Only persons who perform one or more of the functions described in section 3(21)(A) of the Act with respect to an employee benefit plan are fiduciaries. Therefore, a person who performs purely ministerial functions such as the types described above for an employee benefit plan within a framework of policies, interpretations, rules, practices and procedures made by other persons is not a fiduciary because such person does not have discretionary authority or discretionary control respecting management of the plan, does not exercise any authority or control respecting management or disposition of the assets of the plan, and does not render investment advice with respect to any money or other property of the plan and has no authority or responsibility to do so.

However, although such a person may not be a plan fiduciary, he may be subject to the bonding requirements contained in section 412 of the Act if he handles funds or other property of the plan within the meaning of applicable regulations.

4. Thomas, Head & Griesen Employees Trust v. Buster, 24 F3d 1114 (9^th Cir. 1994). In this case, a broker of junior deeds of trust was held to be a fiduciary in connection with his sales to a retirement plan sponsored by a CPA firm. In finding against the broker/defendant, the court held:

a. The broker provided individualized investment advice, meaning advice "based on the particular needs of the plan regarding such matters as, among other things, investment policies or strategy, overall portfolio composition, or diversification of plan investments."

b. The advice was given pursuant to a mutual understanding;

c. The advice was provided on a regular basis (the parties met frequently to discuss investment strategy and diversification, as well as the criteria by which the notes would be selected);

d. The advice pertained to the value of the property or consisted of recommendations as to the advisability of investing in certain property;

e. The advice was rendered for a fee -- commissions, and the "spread" (difference between price at which he purchased deeds of trust, and price at which he sold to the plan trust) were the fees he received for what court considered "investment advice".

f. Factors relied on by the Buster court:

(1) Relationship lasted over nine years;

(2) Involved the investment of over $700,000, and affected over 40 percent of the Trust's assets.;

(3) The Trust acted promptly on Buster's recommendations.

(4) The Trust purchased 61 deed of trust notes from Buster over a nine and one-half-year period.

(5) Buster provided information to the Trustees as to the value of various deed of trust notes by virtue of the yield calculations, mortgage analyses, and price information.

g. Court found fiduciary status despite the following facts:

(1) Buster worked on a commission basis and recommended the purchase of his company's "products" only. He did not recommend or even discuss purchase of other types of investments.

(2) The trustees knew that Buster didn't know what assets the plan held other than the deeds of trust which Buster sold to the trust.

(3) Other circuits have held brokers not to be fiduciaries under similar circumstances. (See, e.g., Farm King Supply, Inc. v. Edward D. Jones & Co., 884 F.2d 288 (7th Cir.1989).)

5. Reich v. Lancaster, 55 F3d 1034 (5^th Cir. 1995): Lancaster and his corporation sold series of individual whole life insurance policies to welfare benefit plan. Two and one-half years after Lancaster became plan consultant, the plan had paid nearly $1 million in premiums - of that, Lancaster received more than $550,000 in premiums. In some instances, he billed a higher premium amount than what he remitted to the insurance carrier, keeping the difference for himself. Secretary of Labor sued for breach of fiduciary duty and prohibited transactions under ERISA (for disgorgement of alleged excessive compensation Lancaster received). The DOL alleged that Lancaster extracted excessive premiums, and wrongly sold the plan individual whole life policies when less expensive group term life policies were better suited to the plan participants.

a. Holding: The district court found Lancaster and his companies breached their fiduciary duties to the plan, and ordered them to pay the plan trust over $750,000, consisting of losses to the plan and prejudgment interest; over $550,000 in commissions received, and over $120,000 in excessive consulting fees, commissions, and "premium differentials." The Fifth Circuit Court of Appeals affirmed.

b. Significance: Lancaster argued he was merely a salesman, and in making his recommendations, he did not cause the Fund Trustees from relinquishing their independent discretionary decision-making authority regarding investment of plan assets.

c. The court held that "in some situations, an advisor's influence may become so great that it confers effective discretionary authority".

d. The court noted that every recommendation Lancaster made regarding health, medical, and life insurance, and recommendations as to how to invest the Fund's money, was accepted by the trustees.

e. The court placed great emphasis on the fact that the trustees ". . . were unsophisticated in insurance, were dependent upon Lancaster's special expertise, and uncritically accepted his recommendations." [NOTE: The fact that the trustees "uncritically" accepted his recommendations suggests that there was a basis for finding that the trustees breached their own fiduciary duties to the trust.]

f. Lesson: The more gullible the client, the more likely that an investment product vendor (especially one who profits greatly) will be found to be a fiduciary, and therefore have personal liability to the plan, even if the client is an acknowledged fiduciary.

B. ERISA Liability for "Knowing Participation In A Prohibited Transaction"

1. ERISA §406(a)(1) provides as follows: "A fiduciary with respect to a plan shall not cause the plan to engage in a transaction, if he knows or should know that such transaction constitutes a direct or indirect -

a. sale or exchange, or leasing, of any property between the plan and a party in interest;

[NOTE: "Party in interest" is defined to include persons providing services to a plan. ERISA §3(14)(B).]

b. lending of money or other extension of credit between the plan and a party in interest;

c. furnishing of goods, services, or facilities between the plan and a party in interest;

d. transfer to, or use by or for the benefit of a party in interest, of any assets of the plan; or

e. acquisition, on behalf of the plan, of any employer security or employer real property in violation of section 1107(a) of this title.

2. ERISA §406(b) provides in part: "A fiduciary with respect to a plan shall not -

a. deal with the assets of the plan in his own interest or for his own account,

b. in his individual or in any other capacity act in any transaction involving the plan on behalf of a party (or represent a party) whose interests are adverse to the interests of the plan or the interests of its participants or beneficiaries, or

c. receive any consideration for his own personal account from any party dealing with such plan in connection with a transaction involving the assets of the plan."

3. By its terms, ERISA §406(b) applies only to fiduciaries.

a. However, in Reich v. Rowe, 20 F.3d 25 (1st Cir. 1994), the court acknowledged in dicta that a non-fiduciary may be liable for participation in a prohibited transaction. Other circuits have also held that a claim is available against non-fiduciary parties in interest for participation in prohibited transactions. See, Herman v. South Carolina National Bank, 140 F.3d 1413 (11^th Cir. 1998); Reich v. Stangl, 73 F.3d 1413 (10^th Cir. 1995); Landwehr v. Dupree, 72 F.3d 726 (9^th Cir. 1995); Reich v. Compton, 57 F.3d 270 (3^rd Cir. 1995).

b. Harris Trust And Savings Bank v. Salomon Brothers, Inc., 184 F.3d 646 (7^th Cir. 1999) reached a different result. In Harris Trust, the court found that Salomon Brothers could not be held liable for equitable relief under ERISA for engaging in a prohibited transaction. In that case, Salomon Brothers, acting as seller and as a broker dealer, sold a portfolio of participation interests that it owned in motel properties to a pension plan trust. The trust suffered a significant loss on its investment, and sued Salomon Brothers, seeking to hold it liable for the loss. The 7^th Circuit court held that ERISA §502(a)(3) -- which allows plaintiffs to sue for "appropriate equitable relief," does not expand the scope of ERISA liability to non-fiduciaries. ERISA §406 -- the prohibited transaction provision -- by its terms governs only the conduct of fiduciaries, and not that of non-fiduciaries. [Note: A petition for certiorari to the United States Supreme Court has been filed in Harris Trust.]

c. ERISA §502(i): The Secretary of Labor may assess a penalty of up to 5% of the transaction amount if the party in interest agrees to correct; if the party in interest does not agree within 90 days of notice from the Secretary of Labor, the Secretary may impose a penalty up to 100% of the transaction amount. The penalty applies for each year in which the transaction is not corrected.

4. In Lockheed Corp. v. Spink, 517 U.S. 882, 889 n.3 (1996), the United States Supreme Court acknowledged that several federal courts had relied on dicta in Mertens v. Hewitt Associates, 508 U.S. 248 (1993) regarding ERISA §406(a) in holding that a party in interest can be held liable under ERISA for participating in a prohibited transaction, and the Court declined to retreat from that dicta. To the extent a non-fiduciary could be held to have unlawfully participated in a knowing transaction, the remedy for that violation would be under ERISA §502(a)(3), allowing "appropriate equitable relief" to redress violations of Title I of ERISA. An award of "money damages" would not be appropriate, given the holding in Mertens. However, the effect would be to require the non-fiduciary to disgorge any benefit obtained by virtue of participation in the prohibited transaction.

C. Liability Under State Law Theories

1. Breach of Contract

a. Only the contracting party (frequently the corporate entity) can be held liable.

b. Need for sound engagement letter to limit scope of contract, and to describe what functions TPA will, and will not, perform.

2. Negligence

a. Any person or entity who is found to have acted negligently, including individual administrators/consultants, can be found liable.

3. NOTE: Unlike liability under ERISA, the Secretary of Labor has no authority to pursue service providers under state court theories such as negligence or breach of contract. Therefore, in order to have any power over service providers, the Secretary of Labor must establish either (1) that the service provider is a fiduciary, and has breached its fiduciary duty, or (2) that the service provider is subject to liability under ERISA for participation in a prohibited transaction. [See, attached ASPA ASAP regarding DOL action against service provider.]

II. EXAMPLES OF TPA LAWSUITS

A. Failure to Diagnose Top Heavy Status of Plan

1. "Damages" flowing from plan sponsor's obligation to make matching contributions on behalf of non-highly compensated employees;

2. Questionable damages in light of benefit to partners of plan sponsor;

3. Resolution.

4. Theory can go either way - either (1) benefits professional fails to advise sponsor that plan is top heavy, or (2) benefits professional advises plan it is top heavy when, in fact, it is not.

B. Failure to Review Plan Document In Connection With Preparation of Restated Plan Document

1. Responses to census information request failed to notify TPA that sponsor employed employees covered by collective bargaining agreement;

2. Prior plan excluded employees covered by collective bargaining agreement;

3. Restated plan did not contain exclusion for union employees;

4. Resolution.

5. Lack of insurance

III. INSURANCE ISSUES