How Much Weight Do You Give to Ignorance Risk?

Yesterday, I was reading the judge's opinion in Ruppert v Alliant Energy Cash Balance Pension Plan. It may not be the adjective that you are expecting me to toss out, but I was amused.

First, I backtrack. The biggest issue in the case was the use of a proper interest crediting rate and lump sum basis to satisfy "whipsaw". Whipsaw essentially was (it was repealed prospectively by the Pension Protection Act (PPA)) a required technique for calculating lump sums in cash balance pension plans which usually resulted in a lump sum distribution that was larger than the participant's cash balance.

In my opinion, the phenomenon occurred because the framers of Code sections such as 417 did not contemplate cash balance plans when Section 417(e)(3) was added to the Internal Revenue Code. Just like many other provisions of the Code, this one did not (as it couldn't have) contemplate new defined benefit plan designs. So, when new designs start appearing, nobody is sure how to handle every last issue, and some eventually get decided by the courts.

Now, I am not going to question the intelligence of our judiciary, but I'm willing to bet that you can't find me a single United States judge who is an expert in all matters ERISA, or even in all matters pension. They are not accustomed to interpreting such things and, over time, they have made some rulings that I find incredible.

So, why am I blabbing about this? I take you back to a post from December: http://johnhlowell.blogspot.com/2010/12/two-key-words.html in which I suggested that clients are not looking for a combination of home runs and strikeouts from their consultants, but rather consistent singles. In other words, give us consistent results that keep us out of trouble.

Let's assume that Alliant Energy fully considered what they believed to be the attendant risks when they implemented their cash balance plan. There's one that I am sure that they didn't consider -- ignorance risk. What's that? It's the name that I am giving to the risk of ultimate decision makers (judges) not understanding the issues. Restated, when the existing rules are not completely clear, the ultimate decision could be left up to judges and they may not get it right. If they don't, how bad could it get?

Back to the instant case. I googled the case and found this link: http://scholar.google.com/scholar_case?case=897977023238459007&q=Ruppert+v.+Alliant+Energy+Cash+Balance+Pension+Plan&hl=en&as_sdt=80002&as_vis=1

I warn you. This is going to get pretty technical. In preparing documents for plaintiffs and the court, the court commanded that Towers Watson set up databases of materials that they had produced internally or externally related to Alliant Energy and its plan. They were to be searchable on 16 keywords, and I am going to bore you with those keywords selected by the court:

1. asset liability
2. asset-liability
3. asset/liability
4. capital market assumptions
5. capital market model
6. capital market outlook
7. capital market results
8. cap link
9. cap-link
10. cap:link
11. caplink
12. forecast assumptions
13. monte carlo
14. monte-carlo
15. simulations
16. stochastic

Wow! In my opinion, none of this has anything to do with the issues at hand in the case. I could go through the list of 16 and explain each one, but that would serve no purpose here.

The issue dealt with a choice of an interest rate. Plaintiff's expert argued for an 8.45% interest crediting rate. Alliant's expert argued for 7.63%. Without having access to their expert reports or testimony, or the plan document, I am guessing that one of those experts is correct. Yet, the judge chose a rate of 8.2%. Hmm! 8.2%? It's not the mean of the two recommendations produced by the experts. It's not the number chosen by either one. Where did it come from: a dart board? A Ouija Board? Or just plain ignorance?

I vote for the last. The judge is ignorant on the matter. I can't fault her. ERISA and the Internal Revenue Code are highly specialized technical documents. Frequently, even experts with no bias cannot agree on interpretations. 

But, my point is this. Alliant and many other companies went into uncharted waters. Because they were uncharted, there were issues subject to potential litigation. Where there's potential litigation, there's going to be a judge, and certainly on ERISA and Internal Revenue Code issues, that means there is significant uncertainty.

I call it ignorance risk, and it's a big risk.