Plan sponsors confront an increasingly active and ERISA-sophisticated class-action bar. The financial exposure for class-action cases brought on behalf of plan participants can be significant. Some of the most notable cases have alleged that a plan sponsor’s board, corporate officers, and other plan fiduciaries breached their fiduciary duties by permitting and failing to make adequate disclosure of excessive recordkeeping fees and other investment expenses.
Instituting prudent procedures in the ongoing operation of 401(k) and other retirement plans is paramount in managing not only investment and expense risks but also fiduciary and organization reputational risk. Best practice in managing risk related to 401(k) fee litigation is the establishment of definitive “process points” such as a diligent and thorough fee and expense analysis, documentation of decision making, and disclosure to plan participants. In short, CFOs and plan fiduciaries responsible for investment selection can’t let things go! They have to make their own decisions, can’t rely on experts, and have to make sure their decisions are thoroughly documented.
A recent legal decision underscores the importance of adopting such prudent operational-compliance procedures and shows in no uncertain terms that best-practice prudence amounts to process, process, process. The case also demonstrates clearly that ERISA liability can arise for failure to address financial issues brought to the attention of the plan fiduciary.
A Failure to Decide
The Seventh Circuit Court of Appeals ruled that the employer plan sponsor and other fiduciaries of a large 401(k) plan may have breached their fiduciary duties by failing to decide whether to retain the structure of the plan’s company stock fund (CSF). The case was returned to district court.
The plan offered a “unitized” CSF, meaning that its net asset value includes not just the stock price but also some cash and/or short-term investments. The plaintiffs argued that the employer breached its ERISA fiduciary duties since the structure of the CSF was “inherently imprudent” because of “investment drag” and “transaction drag” caused by the cash buffer, and that the CSF’s unitized structure caused the fund to underperform by $83.7 million.
The district court had previously found that the employer was a fiduciary with respect to plan investment and administration. That was because the employer retained the authority to appoint and remove members of a benefits investment committee and an administrative committee that were the plan’s named fiduciaries. In this respect, the district court emphasized that the employer had an obligation to monitor whether the members of the committees were fulfilling their fiduciary duties.
The appeals court concluded that the evidence presented in district court indicated the plan fiduciaries were aware that the investment and transaction drags were causing the participants to miss investment gains. Specifically, one fiduciary determined that the transactional drag on the plan’s CSF was $3.6 million, which resulted in an average cost of $145 per participant per year.