Failure to Monitor Recordkeeping Fees is a Breach of Fiduciary Duty under ERISA: Missouri District Court

In Tussey v. ABB, Inc., the US District Court for the Western District of Missouri held that a company breached its fiduciary duty to its 401(k) plans when it failed to monitor recordkeeping fees and revenue-sharing payments, selected more expensive share classes when less expensive classes were available, replaced an investment fund in violation of the investment policy statement and paid recordkeeping fees in excess of the market cost to subsidize other recordkeeping services.

PLC Employee Benefits & Executive Compensation

Speedread

In one of the first 401(k) fee class action cases to be decided on its merits, the US District Court for the Western District of Missouri recently issued a decision in Tussey v ...show full speedread

In one of the first 401(k) fee class action cases to be decided on its merits, the US District Court for the Western District of Missouri recently issued a decision in Tussey v. ABB, Inc. The court held that ABB breached its ERISA fiduciary duties when it:

  • Failed to monitor plan recordkeeping costs and negotiate rebates to offset revenue sharing arrangements with the trust company.

  • Removed an investment fund and replaced it with other investment funds in violation of the Investment Policy Statement and to reduce out-of-pocket costs for recordkeeping fees.

  • Selected more expensive share classes when less expensive share classes were available.

  • Paid an amount to the recordkeeper that exceeded the market cost of services so that other ABB corporate services provided by the recordkeeper would be subsidized.

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Key Litigated Issues

In the first 401(k) fee class action cases to be decided on its merits, the US District Court for the Western District of Missouri issued a decision (www.practicallaw.com/1-518-9473) in Tussey v. ABB, Inc. on March 31, 2012. The key litigated issues were whether:

  • ABB, Inc. breached its fiduciary duties to the plans when it:

    • failed to monitor recordkeeping costs and negotiate rebates to offset revenue sharing arrangements with the trust company;

    • removed an investment fund and replaced it with other funds in violation of the Investment Policy Statement (IPS) and to reduce out-of-pocket costs for recordkeeping fees; and

    • selected more expensive share classes when less expensive share classes were available.

  • ABB and the Employee Benefits Committee (EBC) breached their fiduciary duties to the plans when they paid an amount to the recordkeeper that exceeded the market cost of services so that other ABB corporate services provided by the recordkeeper would be subsidized.

  • The recordkeeper breached its fiduciary duty when it did not distribute float income solely in the plans' interest.

  • Fidelity Research (an investment advisor to the plans' mutual funds) breached its fiduciary duty when it transferred float income to the plans' investment options instead of the plan.

 

Background

Defendant ABB sponsored two 401(k) plans for its employees. The EBC of ABB was a three-member committee which oversaw all of ABB's employee benefit programs and was the named administrator of the plans. The plans offered Fidelity Investments mutual funds as investment options (Fidelity mutual funds). Defendant, Fidelity Research, acted as the investment advisor to the Fidelity mutual funds. Fidelity Research also invested the balances of bank accounts, including plan contributions in overnight securities.

Defendant Fidelity Trust acted as the recordkeeper for the plans. Over time, Fidelity Trust was primarily paid through a revenue-sharing arrangement by which Fidelity Trust was paid a percentage of the plans' assets from participants' accounts in a particular fund. Revenue sharing came from some of the investment companies whose products were selected by ABB for the plans. These investment companies gave Fidelity Trust a percentage of the income they received from plan participants who selected their company's investment options. For example, when a fund was offered as an investment option in the plans, a percentage amount was transferred from Fidelity Research to Fidelity Trust. This type of arrangement is known as internal revenue sharing. In addition, Fidelity also began providing benefit outsourcing services to ABB, including payroll and recordkeeping for other plans, and lost money on some of these services.

Plaintiffs brought claims on behalf of a class of present and former ABB employees who are participants in the plans. The plaintiffs claimed that several defendants breached their ERISA fiduciary duties to the plans.

 

Outcome

The court held there was a breach of fiduciary duty to the plans by:

  • ABB for:

    • failing to monitor recordkeeping costs and negotiating rebates to offset revenue sharing arrangements with the company;

    • removing an investment fund and replacing it with other funds in violation of the IPS and to reduce out-of-pocket costs for recordkeeping fees; and

    • selecting more expensive share classes when less expensive share classes were available.

  • ABB and the EBC for paying an amount to the recordkeeper that exceeded the market cost of services to subsidize other ABB corporate services provided by the recordkeeper.

  • Fidelity Trust for not distributing float income solely in the plans' interest.

  • Fidelity Research for transferring float income to the plans' investment options instead of the plans.

Failing to Monitor Recordkeeping Costs and Negotiate Rebates

The court found that ABB breached its fiduciary duty by failing to monitor the recordkeeping costs by not:

  • Calculating the dollar amount of the recordkeeping fees the plans paid to Fidelity Trust through revenue sharing arrangements.

  • Considering how the plans could use their size to reduce recordkeeping costs even though the IPS specifically required the plans to do so.

While the court noted that revenue sharing is an accepted practice of paying for plan recordkeeping services, the prudence of choosing revenue sharing as an option must be evaluated according to each plan's circumstances. The court reasoned that by not calculating the amount that was generated by revenue sharing for Fidelity Trust, ABB could not:

  • Analyze how revenue sharing would benefit the plans.

  • Leverage the size of the plans to offset or reduce recordkeeping costs.

The court also found that ABB breached its fiduciary duty by failing to comply with the IPS, which required that revenue sharing be used to offset or reduce the cost of providing administrative services to plan participants. The court found that ABB did not comply with the IPS because it did not:

  • Make any meaningful effort to monitor revenue sharing payments.

  • Determine if revenue sharing payments were actually being used to reduce recordkeeping costs.

For these breaches, the court found ABB liable for $13.4 million in losses suffered by the plans.

Selection and De-selection of Investments

The court found that the selection of the plans' investments was improperly influenced by conflicts of interest by the:

  • Mapping from a Vanguard fund to Fidelity funds.

  • Selection of classes of investments that had higher expenses when other share classes with lower expenses were available.

Mapping from Vanguard Fund to Fidelity Funds

The court found that the ABB violated its fiduciary duties when it removed a Vanguard fund and transferred (mapped) its assets to Fidelity funds, by failing to:

  • Follow the IPS, since it considered only two options for a managed allocation fund.

  • Engage in an assessment of the merits when determining which investment option to choose.

In reaching its conclusion, the court found that ABB did not perform any research or analysis in deciding to transfer the assets from a Vanguard fund to the Fidelity funds and did not:

  • Perform any calculations regarding the performance of the Vanguard funds.

  • Place the Vanguard funds on a "watch list" as required by the IPS.

The court found that the Vanguard fund was removed and mapped to the Fidelity funds so that ABB could:

  • Reduce its out-of-pocket costs for recordkeeping fees.

  • Influence employee retention and recruitment by offering a low cost or free retirement plan.

For these breaches, the court found ABB liable for $21.8 million in losses suffered by the plans.

Selection of Classes of Investments With Higher Expenses When Other Classes with Lower Expenses Were Available

The court found that ABB violated it's fiduciary duties when a share class that had the least expenses was not chosen. The court found this to be in violation of the plans and IPS, which required that when a mutual fund of the plan offers a choice of share classes, the share class with the lowest cost of participation would be selected.

For these breaches, the court found that the damages were accounted for by the damages assessed for excess recordkeeping expenses paid to Fidelity.

Subsidizing of Administrative Services With Excessive Revenue Sharing Generated By Plan Assets

The court found a violation of fiduciary duties by ABB and the EBC when they allowed discounts for ABB corporate services to be subsidized with revenue sharing payments. The court reasoned that ABB:

  • Ensured revenue neutrality for Fidelity Trust by selecting certain investments.

  • Paid above market fees for recordkeeping while Fidelity:

    • lost money on some ABB corproate services; and

    • made profits on business from the plans.

For these breaches, the court found that the damages were accounted for by the damages assessed against ABB for violating its fiduciary duty to monitor the recordkeeping fees paid by the plans.

Float

The court found that the improper use of float income by Fidelity was a breach of Fidelity's fiduciary duty. Float income is the income earned on plan benefits while held overnight and is a plan asset. Specifically, the court found that Fidelity:

  • Transferred float income for the benefit of investment options, rather than to the plans.

  • Used float income for its own benefit when it used interest earned from the assets of the plans to pay for expenses that should have been borne by Fidelity.

For these breaches, the court found Fidelity liable for $1.7 million in losses suffered by the plans.

Injunctive Relief

In addition to the monetary relief, the court also ordered that:

  • Within 18 months from the date of the decision, ABB engage a competitive bidding process, including a request for a proposal to select a new recordkeeper (Fidelity is permitted to participate in the bidding).

  • ABB monitor recordkeeping costs in accordance with its duties of prudence, loyalty and in accordance with the plans' documents.

  • If ABB uses revenue sharing to pay for recordkeeping, it determine the amount it is compensating its recordkeeper and utilize its size to negotiate for rebates.

  • ABB not use a recordkeeper for the plans that also provide any corporate services to ABB.

  • ABB choose the share class of investments with the lowest expense ratio.

  • ABB manage the plans for the exclusive benefit of the plans and their participants and beneficiaries.

 

Practical Implications

This case highlights the importance of plan sponsors and administrators putting good plan governance procedures in place. In particular, plan sponsors and administrators should:

  • Be vigilant about following the decision-making processes required by plan governing documents for choosing plan investments.

  • Use a deliberative process to prudently choose the investments and payment options that are in the best interests of the plan and participants, especially if their plans engage in revenue sharing practices.

  • Monitor and evaluate the amount of revenue generated from revenue sharing and whether it is used appropriately.

This decision may also cause plan sponsors to reconsider whether they should continue with revenue sharing at all in light of the risks highlighted in this case.

The final regulations governing the required disclosures of compensation and fees from service providers to plan fiduciaries that are effective July 1, 2012, should assist plan sponsors in understanding and evaluating plan fees. For more information, see Practice Note, Service Provider Disclosure Requirements for Pension Plans (www.practicallaw.com/7-508-2407).

For more information, see:

 

Court Documents

 
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