Fiduciary liability insurance can be quite the misnomer in the insurance world. When unpacking a term, many of us start with the defining each word individually. We then link the definitions together to produce what that term means. If you were to do that with “fiduciary liability insurance,” you would start with “fiduciary.”
A simple Google search defines fiduciary as “involving trust, especially with regard to the relationship between a trustee and a beneficiary.” Using the same method, “liability” is defined as “the state of being responsible for something, especially by law.” Lastly, “insurance” is defined as “a practice or arrangement by which a company or government agency provides a guarantee of compensation for specified loss, damage, illness, or death, in return for payment of a premium.”
When linking the individual words in the term together, logically, “fiduciary liability insurance” would mean something like “an arrangement by which a company provides a guarantee of compensation, in return of a premium for a loss due to the responsibility of acting as a trustee for a beneficiary.”
This sounds like a concept that many of us are familiar with “fiduciary duty.” Fiduciary duty is commonly known as “the obligation to act in the best interest of another party.” Sounds a lot like the definition that we surmised in the paragraph above. So is that what fiduciary liability insurance is for? Breach of fiduciary duty? No, and that is the misnomer.
Breach of fiduciary duty is often picked up as another type of insurance. Professional liability insurance, also known as errors and omissions insurance, covers a wide array of things, depending on the services being provided. It is likely that breach of fiduciary duty would fall under that umbrella.
Fiduciary Liability Insurance still involves being responsible for acting as a trustee on the behalf of a beneficiary, but it is much more specific than that. As a standalone line of insurance, Fiduciary liability insurance is coverage for being sued when acting as a fiduciary for your own employee benefit plans under ERISA.
Fiduciary liability insurance protects the personal assets of plan fiduciaries who have discretionary authority over a pension or other employee benefit plan. This type of insurance pertains to the fiduciary responsibilities associated with your firm’s plans rather than your clients’ retirement plans on which you advise or consult.
A claim example would be: a company amended the structure of its own employee retirement/profit-sharing plan by changing from a daily valuation plan to a balance-forward plan. In addition, only two types of investment options were offered: small-cap and mid-cap value. The market performs extremely well during the next twelve months, but the rate of return on the options significantly underperformed when compared to other options (including large-cap and international) that could have been offered. The employees sued the firm for damages and alleged the firm failed to diversify the plan’s assets properly.
Claims that are covered under this line of insurance can include:
- Denial of benefits
- Improper advice
- Administrative error/enrollment oversight
- Failing to diversify a retirement plan’s assets properly
- Failure to uphold prudent investor rule
There are two broad categories of benefit plans that fall under ERISA regulations:
- Retirement plans: This includes defined benefit pension plans, profit-sharing plans (such as 401 (k)’s) and employee stock ownership plans; and
- Welfare plans: medical, dental, life, disability, and other employee benefit plans.
While there is no regulatory requirement under ERISA to be covered by a fiduciary liability insurance policy, many companies choose to do so. Like any purchasing decision, there are many factors that determine if “pulling the trigger” and buying coverage is the best move. With insurance, it largely depends on the level of risk present and your risk preference.
One of the reasons that companies do not purchase this line of coverage is because of what was pointed out in the first sentence. Fiduciary liability insurance is a misnomer. It is often confused with breach of fiduciary duty, which would be covered under an E&O policy.