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In an important ERISA decision that announces the standard of court review for so-called “top hat” plans, the 3rd U.S. Circuit Court of Appeals has held that such plans “should be treated as unilateral contracts,” and therefore that “neither party’s interpretation should be given precedence over the other’s, except in accordance with ordinary contract principles.” But the court also said top hat plans may include a clause that gives the administrator interpretive discretion, rejecting the argument that such a clause is unconscionable since it functions as the equivalent of designating an interested party as an arbitrator. “Contracts are often considered to be enforceable even when particular parties are able to specify terms in the course of dealing, subject only to the duty of good faith,” Chief U.S. Circuit Judge Edward R. Becker wrote in Goldstein v. Johnson & Johnson. In the suit, Gideon Goldstein — a prominent AIDS researcher who patented a drug now sold by Johnson & Johnson — argued that his top hat pension benefits should have been calculated on the basis of all of his pre-retirement earnings, including the commissions on the sale of the drug he invented. Instead of receiving about $7,600 per month, Goldstein argued that he should be getting more than $30,000 per month, or an annual pension of $361,512. But U.S. District Judge Alfred M. Wolin of the U.S. District Court for the District of New Jersey ruled that Johnson & Johnson’s interpretation — that the top hat plan did not include Goldstein’s commissions — was not unreasonable. Now the 3rd Circuit has upheld that ruling with a decision that clarifies the approach courts should take in reviewing decisions made by top hat plan administrators. For ordinary ERISA plans, Becker said, the U.S. Supreme Court held in Firestone Tire & Rubber Co. v. Bruch that courts should employ a deferential review if the plan vests the administrator with discretion. The 3rd Circuit added a caveat to that general rule in Pinto v. Reliance Standard Life Insurance Co., holding that when the administrator is also the funder of the plan and therefore suffers from a conflict of interest, courts should employ a more “searching” inquiry. But Becker found that both Firestone Tire and Pinto are “premised on the analogy of an ERISA plan to a traditional trust.” By contrast, Becker said, courts have always treated top hat plans differently. A top hat plan is unfunded and is maintained by an employer primarily for the purpose of providing deferred compensation for a select group of management or highly trained employees. They are also expressly exempted from most of the substantive ERISA requirements; do not vest; and are not required to name fiduciaries. “Under such circumstances, the analogy to trust law fails, and the [top hat] plans are more appropriately considered as unilateral contracts, whereby neither party’s interpretation is entitled to any more ‘deference’ than the other party’s,” Becker wrote. “Given the unique nature of top hat plans, we believe the holding of Firestone Tire requiring deferential review for the discretionary decisions of administrators to be inapplicable,” Becker wrote in an opinion joined by U.S. Circuit Judges Richard L. Nygaard and Thomas L. Ambro. Instead, Becker said, top hats are more analogous to plans where the administrator has no discretion to interpret the plan’s terms, and Firestone Tire calls for a de novo review by the courts under the federal common law of contract. Although “discretion” may be explicitly written into a top hat plan — as it was in Johnson & Johnson’s case — Becker explained that the term “does not act as a legal trigger altering the standard of review.” Nonetheless, Becker said, there is no reason why the discretion clause in a top hat plan cannot be given full effect by the courts. “In accordance with ordinary contract principles, we conclude that, depending on the language used, such a clause has the potential to grant the plan administrator discretion to construe the terms of the plan, subject to the implied duty of good faith and fair dealing,” Becker wrote. The dispute in Goldstein’s case centered on the proper characterization of an unusual form of compensation that Goldstein received during his tenure at Johnson & Johnson. The question for the court, Becker said, was “whether this compensation, which involved paying to Goldstein a specified percentage of the sales of products he developed, should have been taken into account for the purpose of determining his monthly pension.” Goldstein argued that the payments should have been used to calculate his pension. The plan administrator disagreed. But Becker found that the plan administrator was given broad discretion to interpret the plan’s terms. He also found that Judge Wolin’s conclusion that the administrator had acted in good faith was not erroneous. PATENT ON A DRUG Goldstein is a physician who specialized in immunobiology research and concentrated on AIDS research. In 1977, Goldstein was working for the Sloan-Kettering Institute for Cancer Research when he received a patent on the drug thymopentin, which he assigned to his employer. Later that year, he joined Ortho Pharmaceutical Corp., a subsidiary of Johnson & Johnson. Ortho licensed the thymopentin patent from Sloan-Kettering to allow Goldstein to continue his work, paying a royalty for the license based on sales, and paying a commission to Goldstein equal to 1 percent of the royalty. In 1987, Johnson & Johnson created the Immunobiology Research Institute, headed by Goldstein. Under his new contract, Goldstein received a salary and commissions of 1.25 percent of the sales of the products he developed, with commissions continuing at a reduced rate for five years after the expiration of the patents. But by the end of his career, the only patent that was actually marketed — and thus, the only patent that generated income to Goldstein — was the thymopentin patent. Nonetheless, Goldstein’s commissions greatly exceeded his salary and bonus payments, ultimately constituting almost 75 percent of his total compensation. But when Goldstein retired, Johnson & Johnson’s pension committee found that his monthly payments should be calculated solely on the basis of his salary. Goldstein pointed to language in the plans that called for commissions to be counted, but the committee insisted that only the commissions of “sales” workers fell under that definition. Judge Wolin, after a bench trial, concluded that the Johnson & Johnson committee’s interpretation was a reasonable one and should not be disturbed. Now the 3rd Circuit has rejected Goldstein’s arguments that Wolin’s decision was fundamentally flawed. But in his final paragraphs, Becker said he could see why Goldstein might find the ruling exasperating. “Goldstein’s position is not an unsympathetic one, and we can understand his anger that, notwithstanding the large sums that his thymopentin patent yielded to J&J (and the fact that he was brought into J&J for his expertise in developing profitable drugs, a skill that might often be rewarded by large royalty-like payments), he was nonetheless given a pension based merely upon his salary,” Becker wrote. And if the courts were reviewing the decision de novo, Becker said, they might have sided with him. “After all, the fact that Goldstein’s employment contract specifies that the salary and bonus payments were to be made in lieu of J&J’s obligation to market Goldstein’s products suggests that it was the commissions — and not the salary — that constituted Goldstein’s ‘basic remuneration,’” he wrote. But since Goldstein was suing under a top hat plan that gives the Johnson & Johnson committee complete discretion, Becker said, the court review was strictly limited. “As the Department of Labor has explained, highly-compensated employees such as Goldstein are well-placed to form employment contracts that protect their interests, and in this case, the contract [the top hat plan] expressly grants the pension committee the power to make final determinations as to the types of compensation that are pensionable,” Becker wrote. Goldstein was represented by attorneys Sheppard A. Guryan and Bruce H. Snyder of Lasser Hochman in Roseland, N.J. Johnson & Johnson was represented by attorneys Francis X. Dee and Stephen F. Payerle of Carpenter Bennett & Morrissey in Newark, N.J.

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