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Second Circuit: 401(k) Fiduciary Breach Claims Not Subject to Arbitration

March 15, 2021

In a 2-1 split decision, the US Court of Appeals for the Second Circuit reversed a lower court’s decision that an arbitration agreement signed by an employee as part of his employment required that he arbitrate any fiduciary breach claims challenging the investment options and fees in his employer’s 401(k) plan.

On March 4, 2021, the Second Circuit issued an opinion in Cooper v. DST Systems, Inc., et al., reversing a lower court’s decision that the arbitration agreement signed by an employee as part of his employment required arbitration of the employee’s breach of fiduciary duty claims challenging the investment options in his 401(k) plan.

As an employee of DST Systems, Inc. (DST), Clive Cooper participated in a profit-sharing plan provided by DST (the Plan) and covered by ERISA. The Plan entered into a series of investment management agreements (IMAs) with Ruane Cunniff & Goldfarb Inc. (Ruane) to exercise “full authority and sole discretion” in managing plan investment options, making Ruane a Plan fiduciary under ERISA. Neither the IMAs nor any of the SPDs contained an arbitration clause. By the end of 2014, the Plan’s investment in Valeant Pharmaceuticals represented almost 30% of the Plan’s total assets. Throughout 2015 and 2016, Valeant’s share price dropped dramatically, purportedly causing a corresponding drop in value of the Plan’s overall holdings. As a result, Cooper filed a putative class action suit on behalf of him and all other plan participants alleging that Ruane breached its fiduciary duties under ERISA in connection with the Plan’s investments.

Ruane then sought to compel arbitration, based on the fact that when the plaintiff became an employee of DST, he received a copy of the DST’s Associates’ Handbook, which provided: “For employment-related legal disputes that are not resolved through our Open Door Policy or Equal Employment Opportunity (EEO) Policy, the Company has implemented an arbitration program under the DST Output Arbitration Program and Agreement that is set forth in the Addendum to this Handbook.” The Arbitration Program and Agreement (Arbitration Agreement), in turn, mandated arbitration of “all legal claims arising out of or relating to employment, application for employment, or termination of employment, except for claims specifically excluded under the terms” of the Arbitration Agreement. The Arbitration Agreement “specifically excluded” four subject areas: “[1] workers’ compensation benefits, [2] unemployment compensation benefits, [3] ERISA-related benefits provided under a Company sponsored benefit plan, [and,] [4] claims filed with the National Labor Relations Board.” Cooper signed the Acknowledgement and Agreement Form and did not opt out.

A district court concluded that Cooper’s claims were covered by the Arbitration Agreement because they “related to” his employment within the meaning of the agreement. Based on that finding, the district court determined that Ruane, although a non-signatory to the agreement, was entitled to enforce the agreement, and thus granted Ruane’s motion to compel arbitration. Cooper then appealed the decision to the Second Circuit, which reviewed the issue de novo.

Second Circuit’s Opinion

In a 2-1 majority opinion, the Second Circuit reversed the lower court. The Second Circuit recognized that Cooper had executed the Arbitration Agreement when he joined DST, but disagreed with the lower court’s analysis on whether Cooper’s claims for breach of fiduciary duty were covered by the phrase “all legal claims arising out of or relating to employment” as used in the Arbitration Agreement.

First, the Second Circuit reasoned that given the language surrounding the “relating to employment” phrase as context of its meaning, all of the categories of claims listed were personal to the employee (i.e., wrongful discharge, discrimination, compensation disputes, etc.). Thus, since the words surrounding the “relating to employment” phrase in the Arbitration Agreement focused on personal employment issues, it weighed against a finding that Cooper’s ERISA claim asserted on behalf of the Plan was the type of personal employment claim contemplated under the language of the Arbitration Agreement.

Next, the Second Circuit turned to the phrase “relating to employment,” itself. The Second Circuit rejected Ruane’s position that Cooper’s claims must “relate to” his employment because (1) he would not have those claims but for his employment at DST, and (2) Cooper’s stake in the Plan is part of his overall compensation from DST, and compensation is, of course, a feature of his employment. Instead, the court determined that Cooper’s claims “hinge entirely on the investment decisions made by Ruane; the substance of his claims has no connection to his own work performance, his evaluations, his treatment by supervisors, the amount of his compensation, the condition of his workplace, or any other fact particular to Cooper’s individual experience at DST. Moreover . . . others who were never DST employees could have brought claims identical to those stated by Cooper . . . such as spouses, heirs, or designees of participants.”

Therefore, the Second Circuit found that “in the context of an employment arbitration agreement, a claim will ‘relate to’ employment only if the merits of that claim involve facts particular to an individual plaintiff’s own employment.” Accordingly, it held that Cooper’s claims were not covered by the Arbitration Agreement and reversed the district court’s decision. Notably, the Second Circuit did not address the arbitration provision’s carve out for “ERISA-related benefits,” and the decision did not turn on the carve-out at all.

Separately, the majority noted that if the Arbitration Agreement had covered Cooper’s ERISA claims, it might create an enforceability issue given the case law in the Second Circuit governing the prerequisites applicable to plaintiffs pursuing ERISA fiduciary actions. In Coan v. Kaufman, 457 F.3d 250 (2d Cir. 2006), the court construed ERISA § 502(a)(2) to require parties suing on behalf of a plan to demonstrate their suitability to serve as representatives of the interests of other plan stakeholders given the representative nature of 502(a)(2) claims, to ensure that any “recovery inures to the benefit of the plan as a whole.” Here, the Arbitration Agreement between Cooper and DST required that all arbitrated claims be asserted on an individual basis and prohibited class or collective actions. Thus, if the court were to read the Arbitration Agreement as applying to ERISA fiduciary claims such as Cooper’s, the agreement might run afoul of Coan’s adequacy requirement. That said, the Second Circuit noted that “this conundrum would not necessarily justify, on its own, a countertextual reading of an arbitration agreement that explicitly applied to a given circumstance,” and, given the court’s determination that Cooper’s claims were not subject to arbitration under the Arbitration Agreement, it did not need to resolve this issue. This aspect of the decision is dicta, but no doubt will be relied on by plaintiffs in future cases seeking to avoid arbitration of ERISA claims.

Judge Richard J. Sullivan issued a dissenting opinion in which he determined that the Arbitration Agreement did not clearly exclude Cooper’s breach of fiduciary duty claims because the Arbitration Agreement used broad and ambiguous language concerning the arbitrability of disputes, which required that the court resolve the ambiguity in favor of arbitration, based upon the FAA’s “liberal federal policy favoring arbitration.”

Implications

The Second Circuit’s decision provides a framework for analyzing whether an employee’s claims against a plan fiduciary can be subject to an arbitration agreement that is contained in an employment agreement, handbook, or policy. First, regarding language in an employment agreement, handbook, or policy that requires arbitration of “all legal claims arising out of or relating to employment, application for employment, or termination of employment,” the Second Circuit held that such a provision does not require arbitration of ERISA claims related to the management of a plan’s investment options, at least when managed by a third party.

There are good policy reasons for employers to prefer arbitration of ERISA related disputes, or not. But once that policy decision is made, employers should look at their arbitration provisions to see if the language warrants clarification to make clear that ERISA claims are, or are not, included within the scope of such provisions. Moreover, we expect we have not heard the last from the courts of appeals on whether even clear arbitration provisions can require employees to arbitrate benefit-related issues on a non-class, not representative “on behalf of the plan” capacity.

Contacts

If you have any questions or would like more information on the issues discussed in this LawFlash, please contact any of the following Morgan Lewis lawyers:

Chicago
Deborah Davidson

Philadelphia
Jeremy Blumenfeld

New York
Melissa Hill