Plan Forfeiture Litigation: A Trend to Watch

The most recent wave of ERISA litigation is focused on the use of plan forfeitures in 401(k) plans, with the newest case, Armenta v. WillScot Mobile Mini Holdings Corp. being filed just last week. Although, for years, many defined contribution plan documents have provided that forfeitures may be used to offset employer contributions (among other uses), the lawsuits allege that using forfeitures in that way violates ERISA.

Forfeitures typically occur when participants leave employment before they are fully vested in the employer contributions in their plan accounts. Treasury regulations have long provided that forfeitures “must be used as soon as possible to reduce the employer’s contributions under the plan.”  26 CFR 1.401-7(a).  In 2023, the IRS proposed a regulation making clear that 401(k) plan forfeitures can be used, as specified in the plan document: “(1) to pay plan administrative expenses, (2) to reduce employer contributions under the plan, or (3) to increase benefits in other participants' accounts in accordance with plan terms”.  88 Fed Reg. 12282-83 (Feb. 2023). 

Although the IRS’ position on forfeitures has been clear, ERISA, as enforced by the Department of Labor, does not address the use of forfeitures.  The lawsuits call into question whether a fiduciary who uses plan forfeitures to reduce employer contributions under the plan has violated an ERISA fiduciary duty or engaged in a prohibited transaction, even if the plan document authorizes that use.

In the wake of these lawsuits, plan fiduciaries have questioned whether they should continue their longstanding practice of using forfeitures to offset employer contributions.  It is too soon to assess what the results of the lawsuits will be. While some lawsuits have already been dismissed, several lawsuits have survived the initial motion to dismiss and are proceeding ahead, although they have yet to be heard on the merits of the case.

In the meantime, plan sponsors should review their plan design to make sure the intended use of plan forfeitures is clearly authorized in the plan document, including whether the plan document gives fiduciaries any discretion over how forfeitures are used.  They should also review participant communications, such as in the summary plan description, to see how forfeiture allocations are explained to participants. If you have any questions about the impact of these cases on your plan operation, please contact Kelly Hathorn.