A lot of us see the plague of defined contribution (DC) plan fiduciary litigation as detrimental to our retirement savings system, and not in a good way. It siphons off assets to the plaintiffs’ bar that might otherwise be spent on increased benefits and improving participant outcomes.
More troubling, it distorts plan decision-making, in many cases making lawyers the key deciders on issues such as plan menu design. And it promotes theories about what is a “normative” fund menu that are (at best) controversial and widely disputed. Obvious example: in Brotherston v. Putnam the 1st U.S. Circuit Court of Appeals stated that “any fiduciary of a plan … can easily insulate itself [against unwarranted fiduciary claims] by selecting well-established, low-fee and diversified market index funds.”
We’ve been treated to bizarre (and, in my humble opinion, ignorant) decisions allowing plaintiffs’ claims to proceed (and impose litigation costs, often forcing a settlement) on such theories as that a BlackRock LifePath target-date fund (TDF) was imprudently selected because it “underperformed” the Dow Jones Global Target Index. Even though BlackRock’s LifePath TDF has over $200 billion in assets. (Pizarro v. The Home Depot)
The U.S. Solicitor General—in (successfully) arguing that the Supreme Court should not reconsider the 1st Circuit’s decision in Brotherston—took the position that “passively managed index funds are not, as a matter of law, improper comparators for determining whether a loss has occurred from an ERISA [Employee Retirement Income Security Act] fiduciary’s breach involving the improper monitoring of actively managed funds.”
The extraordinary performance of U.S. large cap (vs. nearly every alternative) since 2008 has led plaintiffs’ lawyers to routinely claim that the entire 401(k) industry should go all-passive and that active management adds no value. A lot of academics are claiming the same thing. From now on we only have to invest in the biggest 500 companies.
A Fundamental Misunderstanding of ERISA Fiduciary Policy
Underneath this intellectual mess is a more profound issue—what exactly is the purpose of ERISA’s fiduciary rules where a plan allows participants to choose investments?
The Department of Labor (DOL) would have it that the tax benefit attached to retirement savings gives it a blank check to write whatever regulations it views as necessary to maximize participant outcomes. As if a group of lawyers and bureaucrats actually knows the answer to that (in my humble opinion) deep and constantly changing challenge. It (DOL) and the plaintiffs’ bar have used this license to, with the benefit of hindsight, attack the prudence of the selection of any fund that falls below the high bar set by the S&P 500 or some cherry-picked set of comparator funds.
The 7th Circuit Begs to Differ …
I have in this column been insisting for some time that ERISA does nothing of the kind—that the primary concern of ERISA’s fiduciary rules is the “other people’s money” issue. So long as they are given a broad range of choices, including, e.g., “well-established, low-fee and diversified market index funds,” a retirement investor should be treated just like any other investor. As a friend of mine once said, “This is America.” We take responsibility for our mistakes. Or at least we used to.
The 7th U.S. Circuit Court of Appeals, in its recent decision in Divane v. Northwestern University, adopted something like that view—resurrecting the approach to these issues it first took in the (first) decision in Hecker v. Deere: “plans may generally offer a wide range of investment options and fees without breaching any fiduciary duty.” Thus, the court in Hecker held that there was “no breach of fiduciary duty where 401(k) plan participants could choose to invest in 26 investment options and more than 2,500 mutual funds through a brokerage window.”
The court quoted (with approval) the district court finding that “[p]laintiffs might have a different case if they alleged that the fiduciaries failed to make [the low-cost index funds preferred by plaintiffs] available to them. But plaintiffs’ allegations describe the freedom they had under the plans to invest in the fund options they wanted. … The court concluded ‘these allegations [cannot] add up to a breach of fiduciary duty.’”
Plaintiffs Petition for Supreme Court Review
In June the Northwestern plaintiffs (represented, of course, by Schlichter Bogard & Denton, LLP) petitioned the Supreme Court for review of this decision as at odds with the holdings and theories of several other circuits. Which, indeed, it is.
On October 5, 2020, the Supreme Court invited the Acting Solicitor General to file a brief “expressing the views of the United States” in this case.
I think the Supreme Court should take this case, and—if Secretary of Labor Eugene Scalia can possibly get control of the Solicitor’s office—the ASG should recommend that it do so. And then argue that the 7th Circuit’s decision should be affirmed.
The Clarity We Need
We need answers to several basic and obvious questions:
- Where a participant has access to a broad array of investments, does a fiduciary have a duty to assure that every one of those investment alternatives carries the lowest fee/performs to some external standard?
- What are the rules for benchmarking performance in a complaint claiming that a fund was imprudently selected? And how is this benchmarking process to avoid a hindsight bias?
- How, on a motion to dismiss, are these issues to be resolved in a way to (quoting the Supreme Court’s decision in Fifth Third v. Dudenhoeffer) “weed out meritless lawsuits.”
- In a participant choice DC plan, what exactly is the scope of ERISA’s fiduciary rules? Must the fiduciary get the best result for every participant in every situation with respect to every fund? Or simply provide participants with the opportunity to get that result?
It is bizarre that—after 45 years—we still don’t know the answers to these questions.
Of course, the Supreme Court does not, in the ordinary course, like to take on issues like these. But as I said at the beginning, we desperately need clarity on these issues. And no one else—especially (and weirdly) the DOL—is willing to give it to us.
Thus, the Supreme Court is in a unique position. It, and it alone, has the opportunity to actually improve our current system of retirement savings with one straightforward, well-reasoned opinion.
Michael Barry is president of O3 Plan Advisory Services LLC. He has 40 years’ experience in the benefits field, in law and consulting firms, and blogs regularly http://moneyvstime.com/ about retirement plan and policy issues.This feature is to provide general information only, does not constitute legal or tax advice, and cannot be used or substituted for legal or tax advice. Any opinions of the author do not necessarily reflect the stance of Institutional Shareholder Services or its affiliates.
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