ON APPEAL FROM THE UNITED STATES DISTRICT COURT FOR THE EASTERN DISTRICT OF PENNSYLVANIA. (D.C. Civil No. 88-7920).
Before: Becker, Alito, and Gibson*fn* , Circuit Judges
This is an appeal from an order granting summary judgment in favor of the defendants in an action brought by the Secretary of Labor ("the Secretary") to redress alleged violations of the Employee Retirement Income Security Act of 1974 ("ERISA"), 29 U.S.C. §§ 1001-1461. The action was based on certain financial transactions involving the International Brotherhood of Electrical Workers Union No. 98 Pension Plan ("the Plan") and the Electrical Mechanics Association ("EMA"), a not-for-profit corporation closely related to Local 98 of the International Brotherhood of Electrical Workers ("Local 98" or "the union"), whose members are covered by Plan. Maintaining that these transactions were prohibited because of EMA's close relationship with Local 98, the Secretary sued the Plan trustees, Local 98, and EMA. The district court granted summary judgment for the defendants, but we now reverse in part, affirm in part, and remand for further proceedings.
In 1972, the Plan made a 30-year loan of $800,000 to EMA at 7.5% interest. EMA used this loan to finance construction of a building, and the loan was secured by a mortgage on this property. The building constructed with the loan housed Local 98's offices. Two years after EMA obtained the loan, Congress passed ERISA. Section 406(a) of ERISA, 29 U.S.C. § 1106(a), prohibits various transactions involving a plan and a "party in interest." With respect to transactions that occurred before 1974, however, these prohibitions did not take effect until June 30, 1984. See 29 U.S.C. § 1114(c).
Concerned that its outstanding loan to EMA would be considered a prohibited transaction after that date, the Plan applied to the Department of Labor on April 30, 1984 for an exemption from this provision. See 29 U.S.C. § 1108 (authorizing the Secretary to grant exemptions from ERISA's prohibited transaction provisions). On June 1, 1984, the Department tentatively denied the exemption and advised the Plan that its only permissible options were to renegotiate the terms of the loan so that EMA was charged a market interest rate or to require EMA to satisfy the loan in full. Contrary to the advice of its counsel, the Plan withdrew its exemption request and, on April 25, 1985, accepted from EMA a payment of $380,289.93, the fair market value of the loan, in full satisfaction of the debt, which at the time had an accounting value of $653,817.47.*fn1 EMA borrowed the entire amount of this payment from Local 98. Local 98 then imposed a special "rental" assessment on its members and paid the proceeds to EMA. EMA in turn used those funds to repay the money advanced by the union. Joint Appendix ("JA") at 133.
During 1984 and 1985, Fred Compton, Joseph McHugh, and John Nielsen were Local 98's designated trustees ("union trustees") for the Plan; Frederick Hammerschmidt and Gersil Kay were the employer-designated trustees ("employer trustees"); and Fidelity-Philadelphia Trust Company ("Fidelity") was the Plan's corporate trustee. Compton was also president of both EMA and Local 98 from 1981 through 1987; McHugh was a member of Local 98's executive board from 1981 through 1987; and Nielsen was financial secretary of Local 98 from 1981 through 1987, as well as a member of EMA's board of directors from 1981 through June 1984.
In October 1988, the Secretary filed a complaint in district court against Compton, McHugh, Nielsen, Hammerschmidt, Kay, Fidelity, EMA, and Local 98 (collectively "the defendants"). The complaint first asserted that EMA "was a shell corporation wholly controlled by Local 98" and that therefore "all transactions with EMA, were, in fact, transactions with Local 98," which was a "party in interest" under section 3(14)(D) of ERISA, 29 U.S.C. § 1002(14)(D).*fn2 JA at 17-18. The complaint alleged that the loan to EMA became a prohibited transaction as of July 1, 1984, pursuant to sections 406(a)(1)(A), (B), and (D) of ERISA, 29 U.S.C. §§ 1106(a)(1)(A), (B), and (D).*fn3 Id. at 18. Likewise, the complaint alleged that EMA's subsequent purchase of its note was a prohibited transaction under these same provisions because the note was purchased for less than its principal value. Id. at 21.
Based on these transactions, the complaint claimed that various defendants had committed several different ERISA violations. First, the complaint claimed that from July 1, 1984 until August 25, 1984 (the date when EMA purchased the note), trustees Compton, McHugh, Nielsen, Hammerschmidt, and Kay had breached their fiduciary obligations under sections 404(a)(1)(A) and (B) of ERISA, 29 U.S.C. §§ 1104(a)(1)(A) and (B),*fn4 by failing to collect on the loan. Id. at 19. Second, the complaint claimed that Fidelity had likewise breached its fiduciary duties under sections 404(a)(1)(A), (B), and (D) of ERISA, 29 U.S.C. §§ 1104(a)(1)(A), (B), and (D), by failing to take appropriate action to collect on the loan during this same period. Id. at 20. Third, the complaint alleged that all Plan trustees had breached their fiduciary obligations by causing the Plan to continue to hold the EMA loan during this same period even though they knew or should have known that doing so constituted a prohibited transaction under sections 406(a)(1)(B) and (D) of ERISA, 29 U.S.C. §§ 1106(a)(1)(B) and (D). Id. at 20-21. Fourth, the complaint charged that all the Plan trustees had breached their fiduciary obligations by causing the Plan to sell the note to EMA when they knew or should have known that this was a prohibited transaction under sections 406(a)(1)(A) and (D) of ERISA, 29 U.S.C. §§ 1106(a)(1)(A) and (D). Id. at 21. Fifth, the complaint alleged that the union trustees had breached their duties to the Plan under sections 406(b)(1) and (2) of ERISA, 29 U.S.C. §§ 1106(b)(1) and (2)*fn5, by "dealing with the assets of the Plan in their own interest and for their own accounts, and in their individual capacity by acting in a transaction involving the Plan on behalf of a party (or representing a party) whose interests were adverse to those of the Plan" and its participants or beneficiaries. Id. 21. Finally, the complaint alleged that EMA and Local 98 had participated in the trustees' breaches of their fiduciary duties and, furthermore, that each Plan trustee was liable for the others' fiduciary breaches under sections 405(a)(2) and (3) and (b)(1)(A) of ERISA, 29 U.S.C. §§ 1105(a)(2) and (3) and (b)(1)(A).*fn6 Id. at 21-22.
The complaint sought an injunction prohibiting the defendants from committing further ERISA violations. Id. at 23. It also sought an order requiring Local 98 and EMA to "restore to the Plan the unpaid balance of the loan with interest" and an order requiring each defendant, jointly and severally, "to restore to the Plan all Plan losses attributable to their fiduciary breaches." Id. at 23-24.
After discovery, the Secretary moved for summary judgment. Much of the Secretary's argument rested on the contention that EMA was "a shell corporation or alter ego wholly controlled by Local 98." Id. at 147. The district court initially denied this motion in February 1993, but following the Supreme Court's decision in Mertens v. Hewitt Associates, 113 S. Ct. 2063, 124 L. Ed. 2d 161 (1993), the district court requested the parties to submit briefs concerning the impact of that decision. The court subsequently vacated its earlier order denying the Secretary's motion for summary judgment and instead entered summary judgment in favor of the non-moving defendants. McLaughlin v. Compton, 834 F. Supp. 743, 751 (E.D. Pa. 1993) ("Compton I "). The court interpreted Mertens as a directive to "strictly construe" ERISA. Id. at 747. Noting that EMA was not "a party in interest" under the applicable provision of ERISA, the district court reasoned that the Secretary's alter ego argument would expand the reach of this provision and thus contravene Mertens ' teaching that liability can be imposed under ERISA only when the statute "explicitly prohibits the challenged transaction . . . ." Id.
The Secretary moved for reconsideration, arguing that "the literal text of ERISA" prohibited the transactions at issue in this case. JA at 343. Specifically, the Secretary contended that the challenged transactions constituted "indirect" transactions with Local 98, in violation of sections 406(a)(1)(A), (B), and (D) of ERISA, and that the transactions constituted the "use" of Plan assets "for the benefit" of Local 98, in violation of section 406(a)(1)(D) of ERISA. Id. at 348-49. In addition, the Secretary argued that, even if the court adhered to its previous ruling that the loan to EMA and its subsequent purchase were not prohibited transactions, the court would still have to decide: (a) whether all of the trustees had breached their fiduciary duties under section 404(a) of ERISA and (b) whether the union trustees had breached their fiduciary duties and violated sections 406(b)(1) and (2) of ERISA, as interpreted in Cutaiar v. Marshall, 590 F.2d 523 (3d Cir. 1979), when, in connection with EMA's purchase of the note for less than its accounting value, they allegedly "acted on both sides of the transaction in their joint capacities as Plan trustees, union officers, and EMA governing board members . . . ." JA at 349-50.
The district court denied this motion. After observing that "it would be appropriate to deny the motion on purely procedural grounds" because it simply advanced additional arguments not raised in the Secretary's prior brief concerning Mertens, the court addressed the merits of the Secretary's argument. Reich v. Compton, 834 F. Supp. 753, 755-56 (E.D. Pa. 1993) ("Compton II "). Interpreting the Secretary's motion as arguing that the transactions in question were "indirect party in interest transactions," the court wrote that "ERISA does not contemplate transfers to 'indirect parties in interest'--the transferee is either a party in interest under the statute or it is not." Id. at 756. The court also concluded that the transactions did not constitute a "direct" benefit to the union because "no cash 'benefits' or 'plan assets' ever passed to Local 98." Id. Likewise, the court held that the questioned transactions did not constitute an "indirect benefit" to Local 98 because it paid rent to occupy the building constructed with the loan and because the union had no obligation to finance EMA's purchase of the note. Id.
Finally, the court rejected the argument that the union trustees violated sections 406(b)(1) and (2) of ERISA due to their participation in EMA's purchase of the note. Attempting to distinguish Cutaiar, supra, the court observed that "the boards of the Plan and EMA were not identical" and that the union trustees did not constitute a majority of or control EMA's board. Compton II, 834 F. Supp. at 757. The district court did not, however, address the Secretary's argument that the Plan trustees had violated their fiduciary duties pursuant to section 404(a) of ERISA. This appeal followed.
II. ERISA Section 406(a)(1) Claims Against Fiduciaries A. We first address whether the district court correctly entered summary judgment against the Secretary with respect to his claims that the Plan trustees violated sections 406(a)(1)(A), (B), and (D) of ERISA, 29 U.S.C. §§ 1106(a)(1)(A), (B), and (D). Congress adopted section 406(a) of ERISA to prevent plans from engaging in certain types of transactions that had been used in the past to benefit other parties at the expense of the plans' participants and beneficiaries. Before ERISA, plans could generally engage in transactions with related parties so long as the transactions were "arms-length." Commissioner of Internal Revenue v. Keystone Consolidated Indus., 124 L. Ed. 2d 71, 113 S. Ct. 2006, 2012 (1993). Unfortunately, this rule was difficult to police and thus "provided an open door for abuses" by plan trustees. Id. Congress accordingly enacted section 406(a) with the goal of creating a categorical bar to certain types of transactions that were regarded as likely to injure a plan. Id. ; S. Rep. No. 93-383, 93rd Cong., 2d Sess. (1974), reprinted in 1974 U.S.C.C.A.N. 4890, 4981. Section 406, which is entitled "Prohibited transactions," provides in pertinent part as follows:
(a) Transactions between a plan and a party in interest
Except as provided in section 1108 of this title:
(1) A fiduciary with respect to a plan shall not cause the plan to engage in a transaction, if he knows or should know that such transaction constitutes a direct or indirect--
(A) sale or exchange, or leasing, of any property between the plan and a party in interest;
(B) lending of money or other extension of credit between the plan and a party in interest;
(C) furnishing of goods, services, or facilities between the plan and a party in interest;
(D) transfer to, or use by or for the benefit of a party in interest, of any assets of the plan . . . .
In considering the Secretary's section 406(a)(1) claims against the Plan trustees, we will separate our inquiry into two parts. First, in part II.B. of this opinion, we will consider whether the transactions at issue in this case may be prohibited "indirect" transactions between the Plan and a "party in interest" (i.e., Local 98), in violation of section 406(a)(1)(A), (B), and (D). Second, we will consider, in part II.C. of this opinion, whether these transactions may constitute the use of Plan assets "for the benefit" of Local 98, in contravention of section 406(a)(1)(D).*fn7
B. "Indirect" Transactions. Subsections (A), (B), and (D) of section 406(a)(1) of ERISA all reach certain direct and indirect transactions between a plan and a party in interest. Subsection (A) applies to the sale, exchange, or lease of property between a plan and a party in interest. Subsection (B) applies to the lending of money or other extension of credit between a plan and a party in interest. And subsection (D) reaches, among other transactions, the transfer of plan assets to a party in interest. In this case, the Secretary argues that the Plan's loan to EMA and its subsequent sale of the underlying note to EMA were indirect transactions with Local 98 that violated these provisions.*fn8 The Secretary argues that indirect transactions within the meaning of section 406(a)(1) include the following three categories:
(1) multi-party transactions from a plan through one or more third-party intermediaries to a party in interest; (2) two-party transactions that are more complex than a simple sale, loan, or transfer of assets; and (3) transactions between a plan and the alter ego of a party in interest . . . .
Dept. of Labor 9/13/94 Letter-Brief at 2.*fn9 The Secretary admits that the first two types of transactions are not involved here.*fn10 Thus, the question before us is whether, as the Secretary contends, a transaction between a plan and an alter ego of a party in interest is, necessarily, an indirect transaction between the plan and a party in interest.
In advancing this argument, the Secretary begins by maintaining that his interpretation of section 406(a)(1) is entitled to deference under the principles set out in Chevron U.S.A., Inc. v. National Resources Defense Council, Inc., 467 U.S. 837, 843-44, 81 L. Ed. 2d 694, 104 S. Ct. 2778 (1984).*fn11 We hold, however, that the Secretary's alter ego argument is inconsistent with clear congressional intent, and we therefore refuse to accept it. See Brown v. Gardner, 130 L. Ed. 2d 462, 115 S. Ct. 552, 556 (1994); Dole v. Steelworkers, 494 U.S. 26, 42-43, 108 L. Ed. 2d 23, 110 S. Ct. 929 (1990).
The categorical prohibitions contained in section 406(a)(1) are built upon the concept of a "party in interest," and section 3(14) of ERISA, 29 U.S.C. § 1002(14), provides a long and detailed definition of this concept. Section 3(14) states:
The term "party in interest" means, as to an employee benefit plan--
(A) any fiduciary (including, but not limited to, any administrator, officer, trustee, or custodian), counsel, or employee of such employee benefit plan;
(B) a person providing services to such plan;
(C) an employer any of whose employees are covered by such plan;
(D) an employee organization any of whose members are covered by such plan;
(E) an owner, direct or indirect, of 50 percent or more of--
(i) the combined voting power of all classes of stock entitled to vote or the total value of shares of all classes of stock of a corporation,
(ii) the capital interest or the profits interest of a partnership, or
(iii) the beneficial interest of a trust or unincorporated enterprise, which is an employer or an employee organization described in subparagraph (C) or (D);
(F) a relative (as defined in paragraph (15) of any individual described in subparagraph (A), (B), (C), or (E);
(G) a corporation, partnership, or trust or estate of which (or in which) 50 percent or more of --
(i) the combined voting power of classes of stock entitled to vote or the total value of shares of all classes ...