By: Brian Stolzenbach, Sam Schwartz-Fenwick and Chris Busey
Judge Posner of the Seventh Circuit provided a remedial lesson in calculating a present value before getting down to the legal merits in a recent ERISA case. See Dennison v. MONY Life Retirement Income Security Plan, No. 12-2407, Mar. 6, 2013.
A class of plaintiffs challenged the discount rates used by two ERISA plans — a pension plan and a top-hat plan — to convert a straight-life annuity into a lump sum payment. Judge Posner provided a brief refresher course on what that means. He began by explaining the role that discount rates play in calculating annuity payments. A higher discount rate implies a higher rate of growth over the period of an annuity. To account for that higher growth, the present value lump sum of the annuity will be lower. Conversely, a low discount rate results in a higher lump sum now. Plaintiffs thus argued that two separate discount rates used by the plans should have been lower, increasing their current lump sum payments.
In affirming the district court’s grant of summary judgment in favor of the plans, the Seventh Circuit engaged in a straightforward interpretation of the plans’ language. For its discount rate, the pension plan used a segment rate — an interest rate calculated by the Treasury Department — of roughly 5.4%. Initially, the court noted that the Pension Protection Act permitted retroactive discount rate increases. The PPA caps retroactive rate increases for qualified plans at the segment rate used by the pension plan. Before the PPA, this increase would have violated ERISA’s anti-cutback provision. The question then became whether the plan itself prohibited any type of rate increase. The plan did contain a “contractual anti-cutback” provision, but this applied only to a participant’s “accrued benefits.” These were defined by the plan as the value of a participant’s straight-life annuity. In other words, nothing in the plan prevented a retroactive reduction in a participant’s benefits if they opted for a lump sum payment.
The top-hat plan in question used a higher, but equally permissible discount rate of 7.5%. As a non-qualified plan, it was not subject to the PPA’s cap on rate increases. It also did not violate any plan terms because the plan specifically provided for that discount rate for any plan or payment that was not tax-preferred. Since top-hat plans do not qualify for preferred tax treatment the rate used by the plan was appropriate.
The court also affirmed the lower court’s refusal to allow plaintiffs to conduct discovery — including deposing benefits committee members — to determine whether the plans’ rejections of their claims were tainted by a conflict of interest. The court signaled a disfavor for this type of discovery in general, as it would be burdensome to allow extensive discovery into administrators’ decisions. The court suggested that only “exceptional” circumstances, where a plaintiff can identify a specific conflict or instance of misconduct, should trigger this type of discovery. This discussion stands as dicta, however, since the court ruled on the discount rate issue as a breach of contract matter and not as a deferential review of a plan administrator’s determination.
In short, Judge Posner’s opinion does not dramatically alter the ERISA landscape. It does, however, reinforce lessons that plan administrators should already know. Be meticulous in drafting plan language. Think long and hard before amending a plan and seek counsel if necessary. Remember how to calculate present value. These tips will help guard against headaches for the plan and save sleep for plan administrators.