Supreme Court Refuses to Hear Lawsuit Over Prohibited Transactions Related to a GIC

Whether Principal acts as a fiduciary when setting the crediting rate for its GIC goes back to a federal district court to decide.

The U.S. Supreme Court has denied review of a lawsuit accusing Principal Life Insurance Co. of violating the Employee Retirement Income Security Act (ERISA) by setting the crediting rate for a guaranteed investment contract (GIC) such that it can “retain unreasonably large and/or excessive profits.”

The lawsuit was filed by participants and beneficiaries of the Principal retirement plan through which they invest in the Principal Fixed Income Guaranteed Option, aka the Principal Fixed Income Option, a guaranteed investment contract (GIC). The plaintiffs initially argued that the contract is inappropriately structured, per ERISA’s demands, and has enabled Principal to “exercise its discretionary authority to retain unreasonably large and/or excessive profits rather than crediting the participants and beneficiaries of the plans with appropriate returns.”

The complaint suggested that participants in plans that invested in the Fixed Income Option are “credited at an interest rate [that] Principal can set and change in its sole discretion. The rate is applied to all participants in all plans that invest in the Fixed Income Option.” The contract itself, plaintiffs alleged, does not specify the rate, “nor does it promise that the rate will not go below a certain level. Nor does it promise that the rate will remain in effect throughout the life of the contract.”

Before the U.S. District Court for the Southern District of Iowa, Principal successfully argued that it is not a fiduciary. First, because it announces each new rate in advance, which allows participants time to decide whether to accept or reject the new rate. Second, because participants decide whether each new rate will apply to their fund. For those reasons, Principal argued, it lacks discretionary authority or control over plan assets sufficient to make it a fiduciary or to set its own compensation.

However, the 8th U.S. Circuit Court of Appeals reversed the lower court’s decision, saying that Principal is indeed a fiduciary when it sets the composite crediting rate (CCR) for the GIC and is also a party-in-interest engaging in prohibited transactions. The appellate court stated outright, “Principal is a fiduciary when it sets the CCR.”

In its petition to the Supreme Court, Principal explained that it offers a product that plan sponsors may choose to make available to plan participants. Every six months, Principal adjusts the rate of return (ROR) offered to participants who choose to invest in the product, and it pre-announces the rate before that goes into effect. Plan sponsors offering the product agree upfront that, should they want to discontinue it, they must either pay Principal 5% of the assets allocated to the product or wait 12 months to remove all participants’ monies. Participants, however, may remove their money without waiting or paying anything. As a result, though Principal adjusts the rate every six months, it lacks the final say over whether any participant’s assets remain invested at any particular rate.

The question before the high court was: “Whether a service provider is a fiduciary under [ERISA] when it changes the rate of return on a product offered in an employee benefit plan, even though the plan’s participants, by virtue of their freedom to withdraw from the product at any time, retain ‘authority [and] control respecting management [and] disposition’ of their assets.”

The denial by the Supreme Court to review the question means the case will go back to federal district court for review based on the 8th U.S. Circuit Court of Appeals’ findings.