Since August, 2016, sixteen institutions of higher education with large retirement plans have become targets of federal lawsuits for breach of fiduciary duty under ERISA. To date, the cases are at the stage of proceedings for determining whether the complaint should be dismissed. So far, only the University of Pennsylvania has been able to dismiss all claims of mismanagement.
The following analyzes the concerns that two of these lawsuits raise for all retirement plans, and provides a checklist of considerations that plan fiduciaries might use to protect plans. Considered here are Tracey v. MIT, which survived dismissal, and Sweda v. University of Pennsylvania which was dismissed in full. While the facts of the two cases are similar, the outcomes, so far, are not, pointing to the early inconsistency of the courts’ application of ERISA to similar facts.
Plaintiffs have supported their claims against fiduciaries of college and university retirement plans for breach of duty by generally alleging:
In their complaint plaintiffs must present sufficient facts, which the court must accept as true, to state a plausible claim for breach of fiduciary duty. Facts presenting only a possibility of misconduct will not move the case forward. Plaintiffs hope that at least one allegation is plausible enough to survive dismissal, thus opening the door for full-fledged discovery, trial or settlement.
Many colleges and universities have 403(b) or 401(k) retirement plans which are designed to allow employees to save part of their compensation in a tax-sheltered vehicle, and to direct the investments of their own savings. Fiduciaries of both 403(b) and 401(k) plans typically select a menu of options, such as mutual funds or trusts, from which participants may choose to invest their retirement savings. The financial institutions that make the investments options available typically take fees from the individual investment choices to compensate their services for investment management, recordkeeping and administration. It is probably no coincidence that the plans first being targeted by the recent lawsuits have funds in the billions of dollars.
MIT maintains a 401(k) plan for which Fidelity is the recordkeeper and an investment provider. Prior to 2015, the plan offered 180 Fidelity fund choices out of the total 300 investment options in the plan. In 2015, MIT winnowed down the number of options to 37, only one of which is a Fidelity fund, and mapped assets over to less costly funds. It adopted a flat recordkeeping fee of $52 per participant instead of paying those fees from a fee sharing arrangement based on plan assets.
To support their claim that MIT breached its duty of loyalty to plan participants, plaintiffs cited the role of Fidelity’s CEO on the MIT board and her family’s charitable giving to MIT, implying that MIT was using the plan to foster profitable institutional relationships with Fidelity. The court rejected these allegations as too speculative to make a plausible complaint, and dismissed the allegations that MIT breached its fiduciary duty of loyalty to plan participants.
However, the plaintiffs did convince the court that there is a plausible claim that MIT may have breached its fiduciary duty of prudence to the plan by allowing the plan to pay excessive fees. Plaintiffs cited the plan’s large number of actively managed Fidelity funds, expensive share classes, and the lack of any competitive bidding process regarding the plan’s recordkeeping, administration and investment management fees as facts to support a finding of imprudence.
The issue of whether MIT engaged in a prohibited transaction when it paid Fidelity fees from the plan’s non-mutual fund investment options has also survived dismissal.
Before the case was reviewed by the federal district court judge, a magistrate judge reviewed it in detail and made recommendations. In preparing her recommendation to the district court judge, the magistrate judge cited case law to the effect that:
Left open for the court to explore is whether offering many similar investment choices is imprudent and a breach of ERISA fiduciary duty because it increases the associated fees, or whether the higher fees are a reasonable business cost of allowing participants greater flexibility in their investment choices.
By contrast, plan participants who sued the fiduciaries of the 403(b) plan of the University of Pennsylvania for breach of their ERISA fiduciary duties were unsuccessful in convincing the court of the plausibility of their complaints, and the case was dismissed in full.
The plan has 78 to 118 investment options, offered by Vanguard and TIAA-CREF. Both Vanguard and TIAA-CREF serve as the recordkeeper for their respective offerings.
The participants argued that University of Pennsylvania breached its ERISA fiduciary duties to the plan by:
Locking in Plan Funds and Recordkeeping is Not a Breach
It is not unusual for a college or university to offer a large number of investment options to plan participants. One reason is that vendors sell plans a bundled program that includes the vendor’s investment funds, recordkeeping and administrative services. The court found that locking in a set of the vendor’s funds as plan investment options is not itself a breach of fiduciary duty. Rather, the court viewed the fiduciaries’ opting for a bundled package as a rational and competitive business strategy.
Multiple Recordkeepers Is Not a Breach
Plaintiffs argued that offering many TIAA-CREF and Vanguard funds increased recordkeeping fees in breach of the fiduciaries’ ERISA duty because each vendor charged its own fees. The court rejected that argument as a plausible claim for breach of fiduciary duty because there were valid business reasons for the fiduciaries’ choices. For example, the court accepted as reasonable allowing each fund vendor to keep the records of its own fund offerings.
Asset-Based vs. Flat, Per Participant Charges
The court also rejected plaintiffs’ claim that asset-based fees are per se excessive and establish a breach of duty. Noting that a flat fee disproportionately hurts smaller accounts because it is a higher percentage of the balance, and a percentage charge disproportionately hurts larger accounts by imposing a larger dollar fee, it is not up to the courts to second-guess how fiduciaries allocate costs among participants. That there are cheaper options available is also not enough to find breach of fiduciary duty.
Too Many Choices
Offering 78 different choices was not unreasonable, said the court, because it provides a reasonable mix and range of investment options. Having duplicative funds in the plan’s different approaches to investing is not a breach of fiduciary duty, even if it did not result in the cheapest fees. The plan structured its investment choices to suit how much guidance any single participant needs for choosing investments. Because of that structure, it was necessary to duplicate funds, and that duplication raises no plausible inference of breach of fiduciary duty.
Institutional vs. Retail Shares
Whether a fiduciary can or should offer the cheaper, institutional class of shares of a mutual fund option depends on how much is invested in the fund, and whether liquidity restrictions attach to the institutional shares. There are rational reasons for keeping retail shares. The court viewed that the fiduciaries’ choice of retail shares to allow for a greater variety of choices and fund liquidity are lawful reasons for choosing retail shares.
As long as the fund choices were reasonable when selected, falling below the benchmark is not a per se breach of fiduciary duty in selecting the fund. The court noted that on average, more than half the plan funds exceeded the benchmarks, so one could not conclude the fund choices were imprudent.
No Prohibited Transaction
The plaintiffs recast some of the facts to allege that fiduciaries engaged in a prohibited transaction. But the court found that paying TIAA-CREF and Vanguard for their services does not rise to the level of a prohibited transaction, given the modest fund charges.
The case was dismissed in full for failure to state a claim.
The cases against institutions of higher education are still in very early stages, and provide no strict guidelines for complying with the fiduciary requirements of ERISA when managing 403(b) and 401(k) plans. What does seem clear is that fiduciaries should document carefully the reasons for various actions. Below are points of vulnerability that merit particular attention: