A ruling for Charles Schwab may help defined-contribution plan sponsors avoid court in the future.
A three-judge panel of the U.S. Court of Appeals for the Ninth Circuit on Tuesday ruled that Schwab could avoid a class action lawsuit and instead use arbitration to settle individual participant claims brought against it regarding its 401(k) employee retirement plan.
The decision directly overturns a 2018 California district court ruling that said that Schwab could not force claims surrounding its 401(k) into arbitration—but it may also reverse more than 35 years of judicial precedent, establishing a new precedent that may allow class-action lawsuits to be avoided altogether if sponsors add binding arbitration clauses to retirement plans.
Tuesday’s ruling applies to a case brought by former Schwab employee Michael F. Dorman, who accused Schwab of a breach of fiduciary duty caused by stacking its 401(k) with Schwab-affiliated funds charging higher fees and performing more poorly than other similar funds.
In his suit, Dorman accused Schwab of selecting funds without considering whether they were in the best interest of participants or comparing them with other options.
In recent years, plan participants have brought several successful lawsuits concerning fund line-ups against sponsors, often accusing them of violating fiduciary standards by self-dealing or using expensive products or share classes when cheaper alternatives were available.
These class actions can result in drawn out disputes in courts, large settlements and even larger damages.
Schwab challenged the notion that such lawsuits should be decided in court, rather than arbitration—the company’s 401(k) included a binding arbitration provision requiring participants to waive their class-action rights and all disputes to be settled on an individual basis.
In the past, despite the presence of binding arbitration provisions, courts have allowed class action lawsuits to proceed, citing Amaro v. Continental Can Co., a 1984 decision by a panel of the Ninth Circuit Court of Appeals stating that claims surrounding ERISA plans cannot be arbitrated. That ruling relied on a judgment that because arbitrators are not required to be attorneys, they are not competent to decide ERISA matters.
In its Tuesday ruling, the Ninth Circuit panel rejected the precedent made in its 1984 decision and aligned itself with precedent set by the Supreme Court upholding and validating the work of arbitrators.