By Pension and Benefits Editorial Staff
The failure of a university 403(b) plan to offer more lower cost institutional share class investment options, despite a multibillion-dollar pool of assets and a highly competitive market, allowed for an inference of fiduciary mismanagement, according to U.S. Court of Appeals in St. Louis (CA-8). However, the court dismissed claims that plan fiduciaries breached the duty to remove imprudent investment options, stressing the participants’ failure to provide a meaningful benchmark for comparison.
Allegedly excess investment and recordkeeping fees under university 403(b) plan. Washington University maintained a 403(b) plan, covering 24,000 participants and holding $3.8 billion in assets. TIAA and Vanguard were retained as plan recordkeepers and were compensated from asset-based fees paid indirectly out of the plan’s investment options.
The plan’s investment options consisted exclusively of TIAA and Vanguard products. However, the plan provided a diversified menu of investment options, including tax-deferred annuities offered by TIAA and mutual funds provided by TIAA or Vanguard. Overall, the plan offered 36 TIAA options and 83 Vanguard mutual funds.
Plan participants brought suit alleging that the plan fiduciaries breached their duties of loyalty and prudence under ERISA by: causing the plan to overpay for recordkeeping and administrative services; causing the Plan to pay higher fees by offering retail investment class shares rather than equally available, lower-cost institutional class shares in the same funds; allowing duplicative and poorly performing funds to be bundled into the Plan by TIAA and Vanguard mandates, resulting in higher fees and inferior investment returns; and failing to take action to address persistent underperformance of certain investment options.
The plan fiduciaries filed a motion to dismiss for failure to state a claim. A federal trial granted the motion.
Failure to offer institutional share classes. The participants charged that the fiduciaries should have: used the size and bargaining power of the plan to negotiate lower recordkeeping fees based on the number of participants, and not the total amount of assets; negotiated a cap on recordkeeping fees; and utilized a single recordkeeper and solicited bids for services, in order to avoid duplicative costs and excessive fees.
Initially, the trial court dismissed the “false premise” that the possibility of lower fees in the marketplace establishes a breach of fiduciary duty. The court then concluded that the participants failed to allege facts sufficient to raise a plausible inference that the fiduciaries took any actions for the purposes of benefitting themselves, or a third-party entity with connections to Washington University, at the expense of plan participants, or that they acted under any actual or perceived conflict of interest in administering the plan.
By contrast, the appeals court reasoned that the competitive marketplace for retirement plans and the plan $3.8 billion pool of assts allowed for the plausible inference that Washington University’s failure to offer more institutional shares constituted fiduciary mismanagement. Washington argued that the only plausible inference from the facts was that it prudently managed the plan by negotiating the best possible deal under the applicable circumstances, including that the retail shares were necessary to cover the plans’ costs. While conceding that the inference suggested by the university was plausible, the court found the participants claim to be sufficiently plausible to preclude dismissal.
Failure to remove underperforming investment funds. The participants further charged that the fiduciaries breached their duties by failing to monitor and remove two of the more than 100 plan investment options. The appeals court affirmed the dismissal of the claim, stressing the participants failure to cite a meaningful benchmark for comparison. In addition, the court stressed that fiduciaries are not required to select the best performing or lower-cost funds for a plan. The mere existence of a cheaper fund in the marketplace is not sufficient to allow for the inference that a reasonably prudent fiduciary would reject retention of the investment option.
Retention of TIAA annuity. The participants finally alleged that the fiduciaries breached their duties by retaining TIAA’s traditional annuity, under which withdrawals or transfers are paid in 10 annual installments, unless a participant was willing to pay a substantial penalty or, in the event of termination of employment, a 2.5% surrender charge. The appeals court, however, noted that the complaint failed to identify even one other investment with a similar risk-and-reward profile that offers better terms than the TIAA Traditional Annuity. Moreover, in dismissing the claim, the court explained that a prudent fiduciary may offer participants the option of trading liquidity and higher returns for reduced risk and guaranteed income.
Source: Davis v. Washington University (CA-8).
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