January 25, 2021

On January 12, 2021, the United States Department of Labor (“DOL”) entered into a consent order with another fiduciary of an employee stock ownership plan (“ESOP”).  The consent order in Scalia v. Professional Fiduciary Services, LLC[1] (the “Order”), which requires payment from the fiduciary to the ESOP to settle all of the DOL’s claims, did not contain a process agreement for the fiduciary to follow when undertaking future fiduciary assignments. However, it does contain some surprising provisions, particularly in light of the lack of regulations or other guidance available to ESOP fiduciaries.

Prior settlements with ESOP fiduciaries have been accompanied by process agreements that the settling fiduciary must follow when they engage in an ESOP transaction.  While the provisions of the process agreements are not all the same (and sometimes, in fact, they contradict one another), the DOL and various fiduciaries have viewed the process agreements as “best practices” or guidelines for ESOP transactions because the DOL has not promulgated formal guidance in the form of regulations or otherwise.

There was likely not a process agreement entered into in connection with this case because the Order provides that neither the entity nor its owner may enter into an engagement agreement to serve as a trustee of an ESOP for the purpose of an ESOP’s initial purchase of non-publicly traded stock. Other settlements with ESOP fiduciaries permitted such fiduciaries to continue serving as an ESOP trustee in connection with an initial transaction provided that they followed the process set forth in the fiduciary’s applicable agreement.

Despite the fact that there was no process agreement entered into in connection with the Order, the Order provides that the affected fiduciary (and its owner) cannot enter into any agreement with any plan covered by the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), or with any company owned in whole or in part by an ERISA plan, that requires either the plan or the company to indemnify the fiduciary or advance the fiduciary legal fees and associated costs related to a breach of fiduciary claim against the fiduciary.    

This bar against indemnification appears to be the DOL’s attempt to piggyback off of two 2009 cases which provided that an ESOP trustee cannot be indemnified for breaches of fiduciary duty that involve an ESOP if the indemnification comes out of corporate assets.[2]  However, case law suggests that if indemnification could be provided in such a way that does not cause a decline in a company’s value (e.g., by a company potentially contributing more shares into an ESOP to offset the loss), it still may be valid.  This is not the position taken by the DOL or the court in the Order.

The more surprising provision from the Order states that the fiduciary cannot accept from any ERISA plan or from any company owned in whole or in part by an ERISA plan, any indemnification payments or advance payment of any legal fees and associated costs related to a breach of fiduciary claim against the fiduciary. This practice, while contrary to current law[3], if adopted by the DOL as policy, could ultimately limit a fiduciary’s ability to realistically defend such lawsuits from a cost perspective, thereby increasing the leverage and pressure on a fiduciary to settle a lawsuit regardless of the underlying merits of a claim.

This second provision, which prevents any fee or expense advances is a clear change from settled law and even the DOL’s position in one of their settlement agreements from just a year ago.[4] The settlement from a year ago provided that a fiduciary could not agree to any indemnification provisions which would result in an advancement of fees and expenses unless an independent third party made a determination that there had been no breach of fiduciary duty.  This provision was already a departure from existing case law and DOL guidance.  Now, in the Order, the DOL has removed that independent third party standard and seems to state that indemnification agreements for ESOP fiduciaries are never permitted, certainly not in the case here.

While many of the earlier settlements with ESOP fiduciaries have provided helpful guidance in assessing a potential transaction, the Order continues a trend started a year ago regarding indemnification that could lead to the end of legally permissible indemnification arrangements. This development underlines the importance of proper consideration of the totality of potential sources of funding for litigation budgets (i.e., company indemnification, company fiduciary liability insurance, and/or trustee fiduciary liability insurance) when negotiating their engagement with an ESOP or ESOP sponsor given that indemnification may not provide adequate cover. Trustees would be well-advised to revisit their indemnification provisions and consult with counsel to confirm that it is consistent with recent guidance and these new trends.


[1] See Scalia v. Professional Fiduciary Services, LLC, No. 7:19-cv-07874-KMK-PED(S.D. NY. Jan.12, 2021)

[2] See Fernandez et al. v. K-M Industries Holding Co., No. C 06-7339 CW (N.D. Cal. Aug. 21, 2009); see also Johnson v. Couturier (9th Cir. July 27, 2009)

[3] See Harris v. GreatBanc Trust Co., Sierra Aluminum Co., & Sierra Aluminum ESOP, Case No. 5:12-cv-01648-R, 2013 WL 1136558 (C.D. Cal.) where the court held that indemnification agreements do not violate Section 410 of ERISA even if they do not ensure reimbursement for advanced fees, as the DOL has additional remedies such as the posting of a bond in the event that a breach of fiduciary duty is found to have occurred.

[4] See Scalia v. The Farmers National Bank of Danville and Weddle Bros. Construction Company, No. 1:20-cv-674 (S.D. Ind. Feb 28, 2020).