Esden v. Bank of Boston

• Citation: 229 F.3d 154
• Decision Date: 01 August 1999
• Docket Number: Docket No. 99-7210
• Parties: (2nd Cir. 2000) LYNN ESDEN, Individually and on Behalf of All Others Similarly Situated, Plaintiff-Appellant, v. BANK OF BOSTON, and Certain Affiliated Companies, RETIREMENT PLAN OF THE FIRST NATIONAL BANK OF BOSTON, and Certain Affiliated Companies, Defendants-Appellees
• Court: U.S. Court of Appeals — Second Circuit

Page 154

229 F.3d 154 (2nd Cir. 2000)

LYNN ESDEN, Individually and on Behalf of All Others Similarly Situated, Plaintiff-Appellant, v. BANK OF BOSTON, and Certain Affiliated Companies, RETIREMENT PLAN OF THE FIRST NATIONAL BANK OF BOSTON, and Certain Affiliated Companies, Defendants-Appellees.

Docket No. 99-7210

August Term, 1999

UNITED STATES COURT OF APPEALS FOR THE SECOND CIRCUIT

Argued: November 29, 1999

Decided: September 12, 2000

Former employee brought a class action under ERISA against pension plan alleging miscalculation of her lump-sum pension distribution, resulting in violation of ERISA's anti-forfeiture provisions. United States District Court for the District of Vermont (William K. Sessions, III, Judge) entered summary judgment in favor of defendant pension plan. See Esden v. Retirement Plan of the First Nat'l Bank of Boston, 182 F.R.D. 432 (D. Vt. 1998 ). Employee appealed. The Court of Appeals (Leval, J.) holds: (1) in calculating lump-sum distribution, cash balance pension plan projected plaintiff's cash account balance using an interest rate lower than the minimum interest credit guaranteed by the plan such that when this projected amount was discounted back to present value, at the discount rate prescribed by the regulations, the plaintiff received less than the actuarial equivalent of her normal retirement benefit in violation of ERISA § 203(e)(3); I.R.C. § 411(a)(11) and Treas. Reg. § 1.417(e)-1. (2) Because plaintiff received less from the plan than she would have received had she not opted to take her benefit in the form of a lump-sum distribution, part of her pension benefit was made conditional on the distribution option chosen, in violation of ERISA § 203(a); I.R.C. § 411(a)2) and Treas. Reg. § 1.411(a)-4T

REVERSED and REMANDED.

[Copyrighted Material Omitted] DOUGLAS R. SPRONG, Belleville, Ill. (Steven A. Katz, Carr, Korein, Tillery, Kunin, Montroy, Cates & Glass, Jerome O'Neill O'Neill, Crawford & Green, on the brief) for Plaintiff-Appellant.

GEORGE MARSHALL MORIARTY, Boston, Mass. (Crystal D. Talley, Ropes & Gray, on the brief) for Defendants-Appellees.

Before: NEWMAN, LEVAL and POOLER, Circuit Judges.

LEVAL, Circuit Judge:

Plaintiff Lynn Esden, individually and as class representative,¹ appeals from the Order and Judgment of the United States District Court for the District of Vermont (William K. Sessions, III, Judge), entered on September 29, 1998, granting summary judgment in favor of defendant, The Retirement Plan of The First National Bank of Boston (the "Plan"), see Esden v. Retirement Plan of the First Nat'l Bank of Boston, 182 F.R.D. 432 (D. Vt. 1998 ) ("Esden I"), and from the unpublished Supplemental Opinion and Order, entered on February 10, 1999, denying her motion to alter or amend the judgment, see Esden v. Retirement Plan of the First Nat'l Bank of Boston, No. 2: 97-cv-114 (D. Vt. Feb. 10, 1999) ("Esden II").

This case concerns the application of parallel statutory provisions of the Internal Revenue Code ("I.R.C." or the "Code"), 26 U.S.C. 401 et seq., and the Employee Retirement Income Support Act of 1974 ("ERISA"), 29 U.S.C. 1001 et seq.,² and the regulations promulgated thereunder, to a cash balance plan-a relatively new, and increasingly controversial, species of defined benefit plan. In particular, as an issue of first impression in the Courts of Appeals,³ we must decide whether when a cash balance plan guarantees that interest will be credited to a participant's hypothetical account at a minimum rate, it violates ERISA to assume a lower rate when projecting that account's value out to normal retirement age for the purposes of calculating the lump-sum equivalent of a terminating vested participant's accrued benefit. We hold that it does. We conclude that the Plaintiff received less than the actuarial equivalent of her accrued benefit, in violation of ERISA § 203(e)(3); I.R.C. § 411(a)(11) and Treas. Reg. § 1.417(e)-1. Further, we conclude that because Plaintiff received less than she would have had she not elected to take her benefit in the form of a lump sum, part of her pension benefit was made conditional on the distribution option chosen, in violation of the anti-forfeiture provisions of ERISA § 203(a); I.R.C. § 411(a)(2) and Treas. Reg. § 1.411(a)-4.

We therefore REVERSE the judgment of the district court and REMAND for further proceedings.

BACKGROUND

A. Cash Balance Plans and the issue of "Whipsaw."

Under a cash balance pension plan, a hypothetical account is established in each participant's name. Benefits are credited to that "account" over time, driven by two variables: (1) the employer's hypothetical "contributions," and (2) hypothetical earnings expressed as interest credits. Employer "contributions" are usually expressed as a percentage of salary, the rate of which may vary with employee tenure. Interest credits may be at a fixed interest rate, but more often they are tied to an extrinsic index-for example, U.S. Government securities of a specified maturity-and they vary accordingly. Each year an employee receives a statement of her "account" balance, and can therefore see the value of her pension benefit. These features are designed to mimic the simplicity of a defined contribution plan.⁴.⁵

However, notwithstanding that cash balance plans are designed to imitate some features of defined contribution plans, they are nonetheless defined benefit plans under ERISA.⁶ The regulatory consequences of this classification are wide-reaching. First, ERISA § 3(23) provides different definitions of "accrued benefit" for defined benefit and defined contribution plans. Only for a defined contribution plan is "accrued benefit" defined as simply "the balance of the individual's account." ERISA § 3(23)(B); I.R.C. § 411(a)(7)(A). Second, defined benefit plans are subject to a series of parallel statutory constraints-under ERISA and I.R.C.-from which defined contribution plans are exempted. Those relevant to this case include: limitations on "backloading" of accruals, see ERISA § 204(b)(1); I.R.C. § 411(b)(1); the valuation rules of I.R.C. § 417(e) as made applicable by I.R.C. § 411(a)(11)(B), see also ERISA §§ 203(e), 205(g); and the definitely determinable benefits requirement of I.R.C. § 401(a)(25).

It is undisputed that the governing statutes and regulations were developed with traditional final-pay defined benefit plans in mind; they do not always fit in a clear fashion with cash balance plans and they sometimes require outcomes that are in tension with the objectives of those plans. In the argot of pension law practitioners, this case involves the phenomenon of "whipsaw." ⁷ In brief, the rules governing distributions from defined benefit plans are framed in terms of the normal retirement benefit-typically, a single-life annuity payable at normal retirement age. Any distribution in optional form (such as a lump sum) must be no less than the actuarial equivalent of such benefit. For a cash balance plan this calculation involves projecting the cash balance forward and then discounting back to present value. The projection rates may be defined by the plan; but the discount rate is prescribed by statute. If the plan's projection rate exceeds the statutory discount rate, then the present value of the accrued benefit will exceed the participant's account balance. Unless this higher figure is paid out, the IRS takes the view that an impermissible forfeiture has occurred in violation of ERISA § 203(a) and I.R.C. § 411(a)(2). See Notice 96-8, 1996-1 C.B. 359-61. We agree.

The IRS's consistent interpretation of the statutes and its own regulations is reasonable and is entitled to deference. We therefore conclude that the district court erred in giving effect to the terms of the plan rather than enforcing the statutory and regulatory scheme as authoritatively interpreted by the IRS.

B. The Facts.

1. Esden's employment.

The material facts are not disputed. Esden was employed by Bank of Vermont (and its predecessor) from 1974 to December 7, 1990. During this time the Bank of Vermont became an indirect subsidiary of Bank of Boston, the Plan's sponsor. Throughout this time Esden was a participant in the Plan. The Plan was at all times a defined benefit plan subject to ERISA. Before 1989, the plan was a traditional defined benefit plan, employing a final-pay formula. Effective January 1, 1989, the Plan was amended to become a cash balance plan. ⁸ After its amendment the Plan was twice reviewed by the IRS, in 1990 and again in 1995. On each occasion the IRS issued a determination letter stating that the Plan was a "qualified plan" pursuant to I.R.C. § 401(a) et seq.⁹

On the termination of her employment, the pension benefits Esden had accrued were 100% vested. See ERISA § 203(a)(2); I.R.C. § 411(a)(2). As the Plan allowed, she elected to receive those benefits as an immediate lump-sum payment. In March 1991, she received a check for $5,319.66. Of this amount, $3,771.93 was paid as the actuarial equivalent of the annuity she would have been entitled to receive commencing at age 65 under the terms of the unamended plan ("Prior Plan Benefit"). This amount is not disputed and forms no part of this appeal.

The remaining $1,547.73 represented the balance of her Cash Balance Account and was paid out as the lump-sum equivalent of all accrued benefits to which she was entitled under the cash balance plan ("Cash Balance Benefit"). This dispute arises over whether the Plan's methodology for calculating this amount was permissible under the parallel statutory provisions of ERISA and the Code and the regulations promulgated thereunder. We hold that it was not.

2. The Plan

The Plan is a cash balance plan. The following provisions of the Plan are relevant to this appeal. Under section 3.1, a hypothetical Cash Balance Account is established for each participant. Section 3.2 provides for employer contributions (termed "Annual Cash Balance Credits") to each active...