A Warning Shot For Private Equity Funds: First Circuit Court Of Appeals Holds Fund Engaged In A 'Trade Or Business' For Purposes Of Allocating ERISA Pension Withdrawal Liability

Under Title IV of the Employee Retirement Income Security Act (ERISA), withdrawal liability upon cessation of participation in a multiemployer pension plan and termination liability upon the involuntary or distressed termination of a single-employer pension plan may be assessed jointly and severally among members of the employer's controlled group. Section 4001(b) of ERISA indicates that two or more entities will be considered to be a single employer where: (1) the entities are under common control1 and (2) the entities are each engaged in a "trade or business." Private equity funds have historically taken the position that they are not engaged in a "trade or business" under ERISA and, as a result, should not be jointly and severally liable for any pension liability incurred by a portfolio company in which the fund invests, regardless of the level of ownership. However, a recent ruling by the First Circuit Court of Appeals highlights that multiemployer pension funds and the Pension Benefit Guaranty Corporation may be successful in challenging this position, particularly if a private equity fund utilizes a "turnaround" strategy or other investment strategy which necessitates the private equity fund's active participation (directly or through its affiliated entities) in the management of its portfolio companies.

In Sun Capital Partners III LP v. New England Teamsters & Trucking Industry Pension Fund, No. 12-2312 (1st Cir. July 24, 2013), the First Circuit Court of Appeals considered an appeal from the U.S. District Court for the District of Massachusetts, which had previously ruled that, for ERISA purposes, two affiliated private equity funds, Sun Capital Partners III, LP (Sun Fund III) and Sun Capital Partners IV, LP (Sun Fund IV), were not "trades or businesses" responsible for withdrawal liability owed by a jointly owned bankrupt portfolio company, Scott Brass, Inc., to the New England Teamsters and Trucking Industry Pension Fund upon its withdrawal from the Pension Fund.

In reversing the lower court's decision with respect to Sun Fund IV, the Court of Appeals found that the private equity fund was not a mere passive investor in Scott Brass, but rather was actively involved in the management and operations of Scott Brass through the actions of the Sun Fund IV's managing general partner and that general partner's wholly owned subsidiary management company. Moreover, the court found that Sun Fund IV had benefited from those management...