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To limit liability in vendor agreements, get everything in writing.
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Employers take risks every time they sign a vendor's contract without negotiating the terms. It's easy to understand how it happens: The employer may have just finished a lengthy request-for-proposal process, and everyone's sights are set on implementation and the go-live date. So when the vendor provides its standard contract, it's just a matter of signing the document and moving on. Right?
Wrong. The vendor's salesperson has not written that agreement—a lawyer has—and it is full of protections and disclaimers for the vendor that are not in the employer's best interests.
Benefits vendor contracting, in particular, isn't as simple as buying cups for the cafeteria. These arrangements are full of legal pitfalls, from participant lawsuits to regulatory penalties.
While many arrangements go smoothly, lack of contractual protections can be a costly mistake if a relationship goes south. This article reviews seven major pitfalls in HR vendor contracting and some due diligence employers should conduct before signing on the dotted line.
HR To-Do List
Study the contract. Don't wait until after you award the business to ask a vendor for the contract.
Contracting for benefits plans or third-party administrators is often time-sensitive. Implementation dates are dictated by the employer's open enrollment season or benefit-plan years. Employers that wait too long to ask for the contract will have no leverage during negotiations and may not have time to adequately negotiate the terms before the benefit is rolled out to employees.
Employers should ask for a copy of the contract when they have narrowed down the contenders to two or three vendors.
This is the time when the employer has the most leverage. Obtaining multiple contracts will give the employer a glimpse into what terms may be considered "market."
Seek mutual indemnification. Don't allow a one-sided indemnification. The indemnification provision can protect an employer when the plan or employer is damaged. Such damage may result, for example, because someone threatens to sue the employer as a result of vendor error.
Simple errors in benefit-plan administration can add up to big dollars. A missed COBRA notice can cost $110 per day per participant. Internal Revenue Service fees for correcting a 401(k) error can cost $8,000 for an employer's midsize plan—and that is just the filing fee.
However, most vendors use these provisions as self-protection clauses by, for example, only requiring the employer to indemnify the vendor. An employer can get stuck with no recourse for vendor error or with merely the hope that it can persuade the vendor to "do the right thing."
At a minimum, indemnification should be mutual—the vendor and the employer should offer protection to each other for damages arising from their errors. For more-robust protection, have a lawyer check the language to ensure that your critical concerns are addressed.
Lock in the price. Benefits request-for-proposal processes are time-consuming, costly and downright exhausting.
The decision to change vendors is not made lightly, and it is not an exercise most benefits professionals wish to undergo annually. That can put the employer in a bind when the vendor announces cost increases during the following year's contract renewal.
Two- or three-year pricing is typical for life insurance and long-term-disability contracts; such guaranteed pricing or caps on price increases are sometimes available for other agreements, such as third-party administrator and investment advisor agreements or record-keeping agreements.
Compare the vendor’s fees to the fees charged by other vendors, either through the request-for-proposal process, by working with a consultant or by gathering public information.
For example, "COBRA services" may not be enough. Who sends notices? Who collects checks? Will the vendor send reminders? If the service is not listed, and there is no broad language that would sweep in all of the tasks involved in providing that service, the vendor may not provide that service, and the employer won't be protected if it is harmed by the vendor's failure to provide that service. The employer also may want to get performance guarantees for some of the services.
Get promises in writing. Vendor contracts often include a list of promises that an employer must make. For example, a vendor will require a statement that the employer agrees to provide accurate information and data feeds in a timely manner.
Employers should ask the vendor for similar promises. For example, the vendor should keep employee information confidential, use electronic security standards and abide by all applicable laws. Many vendors provide these items as a matter of course. But unless the expectations are part of the contract, the employer may have no recourse if the vendor decides to sell participant data or doesn't update its systems.
Obtain fee disclosure. Don't assume that fees paid by participants or third parties—and not the employer—are "free." When the vendor's fees don't necessarily hit an employer's bottom line and employees are paying for some part of the benefit, the employer should be wary. Regulators and plaintiffs are scrutinizing Employee Retirement Income Security Act (ERISA) plans, particularly 401(k) plans, for hidden, undisclosed or excessive fees. In a recent case,
Tussey v. ABB Inc., employees won more than $36 million in damages (paid partly by the company and partly by the vendor) for excessive fees paid to the vendor.
An employer needs to obtain clear disclosure of how much is being paid to the vendor and from what sources. Are fees obtained via indirect compensation, investment expense or float income? A vendor can receive multiple revenue streams, and it is an ERISA fiduciary's duty to scrutinize such fees and ensure that the plan is paying reasonable compensation. Ideally, the employer should compare the vendor's fees to the fees that other vendors charge, either through the request-for-proposal process, by working with a consultant or by gathering public information.
Guarantee termination rights. Sometimes, it feels wrong to aggressively negotiate a termination clause when starting a new vendor relationship—as if it indicates a lack of commitment. However, if an employer is terminating a vendor's contract, it is likely that the relationship is broken. At this point, the promise of future business is out the door and there may be little or no good will. An employer has only the contract to rely on.
Employers should be wary of termination fees or renewals that do not let an employer terminate at will except during specific windows of time. The contract also should lay the framework for a smooth transition. Data, including historical data, should be transferred upon request in a readable nonproprietary format, and the confidentiality of and the employer's access to data not transferred should be protected.
With proper planning, an employer can enter into a relationship with a vendor that clearly defines the responsibilities of the vendor while securing adequate legal protections.
Andrea Gehman and Paul Lang are attorneys in the Washington, D.C., office of Dow Lohnes.
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