While there have been many excessive 401(k) plan fee suits brought over the years, few have been successful. A recent case presenting some particularly bad facts was decided in favor of the plaintiffs.
After a 4-week trial, a district court in Missouri found plan fiduciaries for a billion dollar 401(k) plan liable for breaching their duties to plan participants by failing to monitor recordkeeping costs, negotiate rebates and prudently select and retain investment options. While the case involved the administration of a very large plan, which in some respects differs from the administration of a small plan, the basic fiduciary principles remain the same so the case is instructive. The court awarded the plaintiffs some $35,000,000 in damages against the persons acting as fiduciaries on the employer’s behalf for breaches of fiduciary duties. These people are referred to simply as the “employer.” The violations are summarized as follows:
Recordkeeping Fees
The first breach of fiduciary duty involved the employer’s use of revenue sharing compensation paid by Fidelity mutual funds in the Plan to pay for recordkeeping and other administrative expenses incurred by Fidelity’s affiliated trust company. Although the Court acknowledged that fiduciaries may use revenue sharing to pay for administrative fees (rather than paying with a “hard dollar,” per participant fee), it found the employer’s use of revenue sharing in this instance breached their duties.
The Court identified a number of problems with the employer’s use of revenue sharing. The primary problem is that court believed the employer was using the revenue sharing to decrease its own obligations rather than benefiting plan participants. The employer did not analyze how the revenue sharing payments decreased the plan’s recordkeeping costs or even what those costs actually were They did no analyze how the Plan’s recordkeeping costs compared to other plans, even when advised by an outside consultant that the Plan’s recordkeeping fees were too high. This was particularly a problem because the Plan’s Investment Policy Statement (“IPS”) required that revenue sharing “be used to offset or reduce the cost of providing administrative services to plan participants.” Without determining the dollar amount of the recordkeeping fees, the employer could not know whether revenue sharing was offsetting or reducing the cost. By failing to comply with the IPS provision, the employer breached its fiduciary duties.
In concluding that the revenue sharing practices at issue resulted in breaches of fiduciary duties, the court was careful to note that it was not determining that revenue sharing is an imprudent method for compensating a plan’s recordkeeper. Rather, the employer failed to undertake a deliberative process to determine why the recordkeeping costs being paid were reasonable.
Investment Changes
In addition to finding breaches of fiduciary duties as a result of revenue sharing practices, the Court found that the employer violated its fiduciary duties to the Plan in its selection and de-selection of investments by choosing funds on the basis of the revenue sharing paid rather than on the merits of the investment. It did this to limit the out-of-pocket costs it had to pay or the participants would have to pay if charged to the plan. In addition, the court found that by selecting funds with higher revenue sharing payments, the employers minimized payments it would have to make to a union 401(k) plan. As a result of a collective bargaining agreement, parity in hard dollar union plan expenses was required. If the company paid more hard dollar expenses for their non-union plan than for the union plan, they were required to contribute the difference to the union plan. Finally there was evidence that the higher revenue sharing paid by the Plan was subsidizing the cost of other plans administered by Fidelity.
The court also found that the employer selected share classes based upon their effect on revenue sharing proceeds was contrary to the IPS which required use of a share class that has the least expenses. By choosing a fund based upon something other than the merits of the investment or its value to the participants, the employer breached its fiduciary duty to the Plan.
Conclusion
This case presents some rather bad facts which no doubt influenced the court in its conclusion.
It highlights the importance of both following established processes in making fiduciary decisions and acting for the exclusive benefit of the plan participants and beneficiaries. More specifically, employers need to have a workable investment policy statement and need to follow it. While using revenue sharing payments to reduce out of pocket expenses is perfectly acceptable, plan fiduciaries need to know what the actual costs for plan services are and be able to conclude that the costs incurred are reasonable (not necessarily the lowest) for the services provided.
The new plan sponsor fee disclosures should make this process easier.
