With the recent financial scandals involving large corporations, everyone has had to face new market
expectations surrounding transparency and improved governance structures. Fiduciary liability is now frequently considered when making decisions for the benefit of a third party. This is particularly true with respect to pension plan administration.

In the province of Quebec, the Supplemental Pension Plans Act provides for the establishment of a committee specifically responsible for administering a registered plan, and stipulates its role and responsibilities. For instance, it states that the pension committee and its members must act with honesty and loyalty in the best interest of the plan members, exercising prudence, diligence and competence, and avoiding conflicts of interest.

The Act also lists the various financial and administrative duties of the pension committee, such as the conception and periodic review of an investment policy for the pension fund, or the preparation of annual statements for plan members.

These requirements make it clear that each pension committee member has a fiduciary responsibility toward plan members. It is therefore strongly recommended that such a committee purchase fiduciary liability insurance to protect itself and each of its members with respect to actions taken or errors and omissions made in carrying out the committee’s duties.

The current economic environment that has led the majority of defined benefit pension plans toward a deficit position puts even more pressure on pension committee members to address their fiduciary liability. Some plan deficiencies could, for instance, result in a reduction in benefits for future years, or in a deferral in previously standard improvements such as pension indexing. Such situations could contribute to a rise in the number of claims related to pension plans.

Concerns regarding potential claims against defined contribution plans may also arise. Because members of these plans directly bear the investment risks, a lack of information and education may translate into lawsuits if the investment returns fail to meet expectations.

Misinterpretation of plan provisions, a lack of review of the pension fund’s management, a poor choice of delegates and inappropriate advice to members are simply a few of the conflicting situations surrounding pension committees. Even though numerous events may give rise to civil actions, it is important to keep in mind that a pension committee has a fiduciary responsibility toward the plan and its members, and therefore every lawsuit must be justified by a breach of fiduciary duty.

Recently, a number of lawsuits involving pension plans have received a great deal of media coverage. Another current situation that has received much less attention is the problem of insurance coverage encountered by many pension committees. Several insurers have reacted to the current economic context by increasing premiums and deductibles or by lowering insurance limits. Some insurers have even withdrawn from the fiduciary liability insurance market.

For instance, when the pension committee of a plan sponsor facing financial problems recently renewed its liability insurance, its yearly premium increased from $1,500 to $65,000 and no other insurer agreed to underwrite this coverage. The financial hardship experienced by this company certainly make this case unique; however, it is important to understand that the committee involved had in no way breached its fiduciary duty. This example shows that pension committees will have an even greater need for liability insurance coverage when the related company is experiencing financial difficulties that may have an impact on its pension plan.

This has prompted pension committees to examine their needs regarding liability insurance. These needs vary significantly from one committee to another based on the size of the plan, sector of activity, maturity of the plan and level of involvement of the committee. An insurance broker should assist committees in evaluating their needs.

If insurance needs differ from one committee to another, the content of their policies also varies. For example, some committees are protected under the insurance policy of the company sponsoring the plan, whereas others have their own insurance policy. It is therefore crucial for pension committees to have a clear understanding of each clause of their policy and to compare their coverage to that offered by other insurers, without focusing only on the required premiums. Below are some key elements to consider:

• Fiduciary liability policies are generally subscribed on a claims-made basis, meaning that they cover claims presented to the insurer during the coverage period. It is therefore important to be cautious before cancelling a policy because any claim made after the insurance period will not be covered, even if it pertains to events that took place during the coverage period.

• It is important to ensure that all committee members are protected individually because a civil action can be filed not only against the committee, but also against one of its members, as all pension committee members are jointly responsible for the decisions made by the committee. This is especially important if the pension committee coverage is part of the insurance policy of the sponsoring company, as the independent member and the member representing retirees and beneficiaries are not employees of the company and therefore could be unprotected.

• Under the Quebec Supplemental Pension Plans Act, the insurance premium may be paid from the pension fund as an administrative expense, if the plan allows it. However, in the event of a claim, the insurance deductible may not be paid from the pension fund. If plan members file a claim against a committee, it would be inadequate for the latter to use the pension fund to cover the required deductible.

Pension committees must therefore examine the true value of their coverage and the relevance of their insurance policy. Several exclusions were recently added to insurance contracts; in particular, exclusions for claims pertaining to the use of actuarial surplus and for plan mergers and terminations. These exclusions contain vague clauses that may significantly limit the committee’s coverage. The pension committee of a large Quebec organization recently, questioned its insurer about the scope of newly-added exclusions and was discouraged to learn the apparent degree of obscurity of these clauses, as the insurance company was unable to clearly define which situations were covered and which were not.

Given the current gaps in liability insurance, it is important to look at additional sources of protection. Committees could first seek protection from contractual tools such as delegation instruments, which are a contract between the committee and a delegate that outlines the functions for which responsibility is transferred to the delegate; and indemnity agreements which act as a contract between the committee and the company sponsoring the plan whereby the company agrees to compensate the committee for amounts paid following a claim. These types of protection are certainly important tools for pension committees; however, it is even more important for committees to focus on risk reduction as opposed to transfer of liability. The best insurance is the elimination of the risk of claims.

Risks associated with breach of fiduciary duty can be greatly reduced through the establishment of a governance structure. The development of specific control mechanisms will provide for sound governance that will help the committee make enlightened decisions and demonstrate its diligence, which will contribute to reducing risks of claims. An effective governance structure should also lead to a reduction in liability insurance premiums.

In the same way, guidelines have been published to help administrators fulfill their responsibilities. Pension committees would be wise to comply with such guidelines, whether they relate to pension plan governance or to capital accumulation plans, as this will reduce the risk of fiduciary liability breach. In addition, in the event of a lawsuit, it would be difficult for a committee to justify any nonconformity to these guidelines.

Finally, a key factor in reducing risks for a pension committee resides in a clear understanding of the context, challenges and role of the administrator. In-depth knowledge of these three elements will guide the committee in its decision-making and in the relevance of its actions.

Even though liability insurance coverage, delegation instruments and indemnity agreements are important tools that provide protection for pension committees, administrative transparency and sound governance remain pension committees’ greatest allies.

Katie Trahan is a senior consultant for Normandin Beaudry in Montreal. trahan@normandin-beaudry.ca