Originally published on the Employer's Law Blog

The recent financial crisis has generated numerous claims against sponsors and fiduciaries of employee benefit plans that offer employer stock as an investment option. The Second Circuit Court of Appeals recently issued a favorable decision for sponsors and fiduciaries in the case of In re: Citigroup ERISA Litigation. The court held that the decision to offer employer stock in a 401(k) Plan will be given a presumption of prudence that may be overcome only by proving that the employer was in a "dire situation" that was objectively unforeseeable by the plan sponsor.

Plaintiffs were participants in two 401(k) plans (the "Plans") sponsored by Citigroup, Inc. and Citibank, N.A. (collectively "Citigroup"). The Plans gave participants discretion to invest their accounts in the investment options available under the Plans. The Citigroup Common Stock Fund, which was comprised of shares of Citigroup common stock, was mandated by the Plans to be included as an investment option. In 2008, following a sharp drop in the price of Citigroup stock, plaintiffs filed a class action complaint, claiming that the Plans' fiduciaries breached their duties of prudence and loyalty by refusing to divest the Plans of Citigroup stock, even though (plaintiffs alleged) it was an imprudent investment option. Plaintiffs also alleged a fiduciary breach resulting from the fiduciaries' failure to provide complete and accurate information to participants regarding the stock's exposure to the risks associated with the subprime mortgage market.

The Employee Retirement Income Security Act ("ERISA") requires that fiduciaries act in accordance with the documents governing the plan insofar as such documents are consistent with the provisions of ERISA. The Second Circuit adopted the standard applied in the Third, Fifth, Sixth and Ninth Circuits, holding that a fiduciary of a 401(k) plan that offers employer stock as an investment option is entitled to a presumption that it acted consistent with ERISA by virtue of that decision. A plaintiff may overcome that presumption by establishing that the fiduciary abused its discretion by offering employer securities as an investment option. It explained that although proof of an employer's impending collapse may not be required to establish liability, mere stock fluctuations, even those that trend downhill significantly, are insufficient to establish the requisite imprudence to rebut the presumption. Rather, only circumstances placing the employer in a dire situation that was objectively unforeseeable by the plan sponsor could require fiduciaries to override the Plans' terms. In applying the abuse of discretion standard, the court concluded that plaintiffs failed to allege facts sufficient to show that the Plans' fiduciaries either knew or should have known that Citigroup was in the sort of dire situation that required them to override the Plan terms in order to limit participants' investments in Citigroup stock. Plaintiffs were therefore unable to state a claim for breach of ERISA's duty of prudence based on the inclusion of the Citigroup stock in the Plans. In addition, the court held that fiduciaries have no duty to provide plan participants with non-public information that could pertain to the expected performance of plan investment options.

As a result of the economic climate, there has been an increase in "stock-drop" class litigation. When drafting investment option language in plan documents, employers should consider the amount of discretion given to fiduciaries regarding company stock. Although the determination is fact sensitive, this recent Second Circuit case shows that 401(k) plan fiduciaries generally will be provided with a presumption of prudence that is difficult to overcome.

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