Thursday, December 26, 2013

Frommert Redux Again

ERISA is a funny law. I guess there are other funny laws as well, but I haven't worked with most of them as often as I have worked with ERISA. Consider the somewhat curious ERISA litigation patterned as Frommert v Conkright (you can read the most recent verdict here.

I'm not quite certain when the original case was brought, but I am certain that I was not yet eligible to make 401(k) catch-up contributions and I started making them in 2007. Since then, the 2nd Circuit Court of Appeals has heard the case three times (well, it hasn't always been exactly the same case). If it follows the pattern that it has thus far, it may even make it to the Supreme Court for a second time. Frankly, I don't know how often that happens, but it doesn't feel like it happens a lot.

So, why is ERISA a funny law? Much like lots of other American laws (and the Constitution for that matter), it was written in a somewhat different era. You know how that goes. As time moves on and creative minds are brought to bear, stuff happens. Not everything that happens could have been contemplated when the law was written.

You need an example? There are a lot of people out there in legal land who refer to the US Constitution as a nearly perfect document (I have heard it referred to that way virtually ever since I knew it existed). In fact, it's only been amended 17 times since the Bill of Rights and one of those amendments was passed to repeal an earlier amendment. So, one could argue that with an average of one amendment being passed and left in roughly every 15 years, it was pretty good.

Okay, what did the Constitution say about the internet? I was pretty sure it was silent on the matter, but I checked (ctrl-F lets you do that pretty quickly). It's not in there. So, how do courts rule on matters related to the internet. They use this legal mumbo-jumbo known as a precedent and then they often construe a relationship from one case to another. And, at the end of the day, it seems to this non-attorney that a judge or panel of judges will determine what they think is the correct answer and then leave it up to a smart, young law clerk to find them a rationale.

At its core, Frommert is about something known to retirement plan experts as a floor-offset plan. Essentially, a participant is entitled to a minimum benefit (the floor) and company defined contributions represent an offset. Since one piece of the benefit (DB) is expressed as an annual annuity and the other an account balance, performing the offset calculation requires that an administrator convert one piece of the calculation to be parallel with the other. This is done using a concept known as actuarial equivalence.

The concept of actuarial equivalence allows us to convert an account balance to an annuity or conversely. So, there's only one way to do this, right? Wrong!

The actual conversion depends on a set of actuarial assumptions, in this case the discount rate and the rate of mortality. Said differently, an account balance will pay you a different amount of money annually for the rest of your life depending upon how long you live and what interest rate is earned on the money.

The math in a floor-offset arrangement is funny, in much the same vein as ERISA is funny. Calculations, even when performed in the fairest sense possible produce unexpected results. One thing about them is certain, however, they tend to provide, relatively speaking, much larger benefits for the higher paid employees than for the lower ones. And, there is nothing in ERISA that specifically tells an administrator how to address every possible situation.

How funny are they? In Frommert (III), the court found a situation where it considered two virtually identical employees. Each retired in 2005 with the same final average earnings. Each had been hired in 1980. Employee A, however, was a rehired employee, having also worked for the company from 1960 to 1970. Employee B was a new hire in 1980. Solely because of that earlier period of employment, Employee A had a smaller benefit than Employee B. That is, Employee A was essentially penalized for his earlier period of employment.

Among other things, the court found that if this was a result of the offset calculation methodology that the method of offset was unreasonable and violated ERISA. Further, it found that the notices provided by the employer (Xerox) to employees about this plan were insufficient. So, the case is remanded (yet again) to the District Court where it will be re-heard, undoubtedly re-appealed regardless of the verdict and will very possibly once again wind up at the Supreme Court. I wonder how many of the plaintiffs will still be alive by the time this case is finally put to rest.

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