Retirement Plans
Plan forfeitures litigation—issues for plan sponsors
A series of lawsuits against plan sponsors alleging misuse of plan forfeitures is prompting a review of related plan document provisions.
At a glance section
At a glance section
- The lawsuits allege that plan forfeitures may not be used to reduce plan sponsor contributions.
- A key issue appears to be how much discretion the plan document provides on the use of plan forfeitures, while other issues go to whether ERISA permits the practice.
- Many plan sponsors are reviewing their plan provisions regarding the use of forfeitures in light of the litigation.
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Beginning in late 2023, a number of defined contribution plan sponsors have been sued by plaintiffs alleging that forfeited benefits, or forfeitures, held by the plan should have been used to cover plan expenses rather than offsetting employer contributions. This has raised a number of concerns and prompted some plan sponsors to review their plan provisions governing the use of forfeiture
This issue arises mainly for plans with vesting periods, which are designed to encourage employees to remain with their employers to maximize their plan benefits. Under current law, vesting periods can only be imposed on employer contributions, not employee contributions, and cannot exceed six years. If the employee leaves before the end of the vesting period, any amounts not yet vested are forfeited (subject to certain conditions and limitations, such as restoration of the forfeited amount if the employee returns to employment within a certain time period). The forfeitures are then held in a forfeiture account under the plan and can, under IRS guidance, be used for various purposes, including paying plan expenses and to offset the employer’s obligation to make employer matching and other contributions. Plans may also have forfeitures for other reasons, such as missing participants—that is, participants owed benefits but who cannot be located.
The lawsuits, which started in September 2023, allege that the use of the forfeitures to offset/reduce employer contributions, rather than reduce administrative expenses borne by plan participants, violates the fiduciary responsibility provisions of the Employee Retirement Income Security Act of 1974 (ERISA). In some instances, these claims have been added to previously filed lawsuits alleging that the plan was paying excessive recordkeeping and/or investment management fees. As of mid-September 2024, at least 19 such lawsuits had been filed. Three lawsuits have been dismissed, whereas two others have been permitted to go forward (and a third is expected to be resolved by arbitration at defendant’s request).
In evaluating these claims, courts have, among other things, looked at the wording of the relevant plan provisions. One of the decisions rejecting dismissal, involving Intuit Inc., focused on the plaintiffs’ allegations related to the status of the forfeitures as “plan assets,” the plan provisions providing the plan committee with discretion on how to allocate the forfeitures, the plan committee’s status as a fiduciary, and the absence of any authority treating such allocation decisions as non-fiduciary “settlor” functions, to argue that the discretion as to how to allocate forfeitures makes the allocation a fiduciary decision. On the other hand, in the dismissal decision involving BAE Systems, Inc., the court emphasized that the plan document in question required forfeitures to be directed to restoring employer contributions for returning employees and offsetting employer contributions, and that any unused forfeitures be carried forward until depleted, so fiduciary discretion was not an issue.
The focus on the plan provisions in these cases has prompted many plan sponsors to consider reexamining their plan documents’ provisions governing the use of forfeitures. However, this may require careful analysis of the overall plan document language.
However, there is no guarantee that such plan document changes will completely avoid litigation. Plaintiffs have also been arguing, among other things, that the use of forfeitures to offset employer contributions violates ERISA’s anti-inurement requirement (as well as ERISA’s prudence and loyalty standards and prohibited transaction provisions) regardless of the plan language, which would then override the general obligation under ERISA to follow the plan’s provisions. This position has been accepted as a plausible allegation (at least at this stage of the litigation) by at least one of the courts permitting the lawsuits to go forward, but it has been rejected by the courts dismissing all claims, with the latter viewing such an argument as being contrary to what they described as the “settled understanding of Congress and the Treasury Department” that forfeited amounts can be used to reduce employer contributions. We can expect further developments as the pending cases move forward in the courts.
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