In a unanimous decision the Supreme Court has decided the pleading standard necessary to survive a motion to dismiss for a complaint alleging an ERISA fiduciary entered into a prohibited transaction in Cunningham v. Cornell University. That case involved whether fiduciaries breached their duties of prudence and loyalty by paying excessive fees to service providers, namely Fidelity and the Teachers Insurance Annuity Association.
Background. ERISA proscribes a number of transactions as prohibited transactions. These are stated in terms of a transaction between a plan fiduciary and a “party in interest”. The trouble is that the definition of “party in interest” is quite broad, including all entities providing services to the plan. Without exceptions, any transaction with a service provider would be a prohibited transaction because a service provider is a party in interest. Section 1106 of ERISA says “[e]xcept as provided in Section 1108,” a fiduciary of a plan “shall not cause the plan to engage in a transaction” with a party in interest. Section 1108 contains 21 exemptions to the general prohibited transaction rule. Section 1108(b)(2)(A) states an exemption that permits “contracting or making reasonable arrangements with a party in interest for office space, or legal, accounting, or other services necessary for the establishment or operation of the plan, if no more than reasonable compensation is paid therefor.”
Decision. The high Court decided that plaintiffs need only allege a plan fiduciary engaged in a prohibited transaction, “no more, no less.” It need not plead or prove that any of the many exceptions to prohibited transactions do not serve as an affirmative defense, preventing relief. In so holding, the Court reversed the decision of the Second Circuit that dismissed the suit, holding that prohibited transaction claims based on service provider compensation have to have as a foundation allegations the services were either unnecessary and/or excessive in cost. That is, the complaint must plead the exception for reasonably necessary services for reasonable compensation does not apply. In so holding, the Second Circuit joined the Third, Seventh and Tenth Circuits. Those Circuits disagreed with cases in the Eighth and Ninth circuits holding that simply alleging a fiduciary entered into a transaction with a paid service provider was sufficient. Therefore, the Supreme Court heard the case to resolve the split in the Circuits.
Justice Sotomayor, who wrote the opinion, reasoned that it is well settled in statutory construction that the burden of proving exceptions to statutory prohibitions rests on the one claiming such exception. In addressing the defendant-respondent’s argument that not requiring the complaint to address the exception would lead to more meritless litigation getting beyond motions to dismiss and forcing fiduciaries to bear more costs, Sotomayor stated those are serious concerns but they cannot overcome the statutory text and structure. She further stated that district courts can use existing tools under the Federal Rules of Civil Procedure to screen out meritless claims. For example, if a defendant files an answer claiming a Section 1108 exemption, the court can require the plaintiff file a reply showing the exemption does not apply.
The high Court’s decision means that many cases will get past the motion to dismiss phase. This is likely to mean the onslaught of excessive fee cases will continue.