In a recent decision, the United States District Court for the Western District of Missouri held that the plan fiduciaries for two defined contribution plans were jointly and severally liable to the plans for $36.9 million. The court found that the fiduciaries violated their fiduciary duties to the plans when they:
- Failed to monitor recordkeeping costs
- Failed to negotiate rebates for the plans
- Selected more expensive share classes for the plans’ investment platform when less expensive share classes were available
- Agreed to pay an amount that exceeded market costs for plan services in order to subsidize the corporate services provided to ABB, Inc.
- Failed to distribute float income solely for the interest of the plans
- Transferred float income to the plans’ investment options instead of the plans
The court decided that the plans must be compensated for their losses, and any gains received by the plan fiduciaries when they used plan assets for their own benefit must be disgorged.
Facts of the case
ABB, Inc. offered two defined contribution plans, one to its unionized employees and one to its non-union employees. These plans offered nearly identical benefits and were managed by the same individuals. ABB gave a 50 percent match to contributions made by participants up to six percent of their annual salaries, and participants could direct their contributions to be invested in any of the investment options preselected by ABB to be on the plan's investment platforms.
The plans included mutual funds offered by Fidelity Investments. Fidelity Research was the investment adviser to the Fidelity mutual funds which were offered by the plans. Fidelity Trust was the recordkeeper for the plans. As the recordkeeper, Fidelity Trust provided educational information, bookkeeping and other services to plan participants. During its relationship with the plans, Fidelity Trust was paid two different ways for its services. Originally, Fidelity Trust was selected by a competitive bid process and was paid a per-participant, hard-dollar fee. Over time, Fidelity Trust was primarily paid with revenue sharing.
The revenue sharing came from some of the investment companies whose products were selected by ABB to be on the plans’ platforms. Those investment companies gave Fidelity Trust a certain percentage of the income they received from plan participants who selected their company's investment option. Fidelity Trust also derived revenue sharing from an internal allocation within the interrelated Fidelity companies.
When revenue sharing was used to pay Fidelity Trust, its fee grew as the assets of the plans which provided revenue sharing grew, even if Fidelity Trust provided no additional services to the plans. Likewise, if the plans’ assets in those investments declined, the amount paid for the services could decline. However, when there was a concern by Fidelity that revenue sharing would decline, Fidelity asked for hard-dollars to make up the difference. In addition, pursuant to its recordkeeping contract, Fidelity had the right to amend its compensation agreement for plan services.
Shortly after becoming the recordkeeper for the plans, Fidelity began providing total benefit outsourcing services to ABB. These were corporate services, as opposed to plan services, and included doing the payroll for all ABB employees, the recordkeeping for ABB's health insurance and welfare plans, ABB's defined benefit retirement plan and other retirement vehicles for highly compensated employees. Fidelity lost money on these corporate services that it provided to ABB, but it made a substantial profit as the recordkeeper of the plans.
In 2006, the plaintiffs brought claims on behalf of a class of current and former ABB employees who are participants in the two retirement plans, alleging a breach of fiduciary duties under ERISA related to the fees paid to Fidelity for the plan services provided. This case was one of a series of cases filed in 2006 by the law firm of Schlichter, Bogard & Denton, alleging a breach of fiduciary duties under ERISA related to the fees paid for 401(k) plan services. The court certified this case as a class action in 2007. This is the first of these cases to award significant damages to plaintiffs.
This case has several lessons for plan fiduciaries.
1. Plan fiduciaries should be prepared to demonstrate prudence and reasonableness in their decision-making All plan fiduciaries must abide by ERISA's duties of prudence and loyalty. The duty of loyalty requires a fiduciary to discharge his duties with respect to a plan solely in the interest of the participants and beneficiaries and for the exclusive purpose of providing benefits to participants and their beneficiaries, and defraying reasonable expenses of administering the plan. Therefore, as long as decisions are made in the best interest of the plan and its participants and beneficiaries, incidental benefits to the plan sponsor or the fiduciary are not inconsistent with the duty of loyalty. The duty of prudence requires that a fiduciary discharge his duties with the care, skill, prudence, and diligence, and in accordance with the documents and instruments governing the plan. Plan fiduciaries can be held liable for breaching these fiduciary obligations.
In this case, the court held that as plan fiduciaries, the defendants were required to act prudently in discharging their duties. The court explained that while revenue sharing is accepted industry-wide as a method of paying for plan recordkeeping services, the prudence of choosing that option must be evaluated according to the circumstances of each plan. Here, the process by which ABB determined to use revenue sharing as the plan's payment model was held to be imprudent. According to the court, ABB did not select revenue sharing to achieve “progressivity,” and, because it failed to calculate how many dollars would be or had been generated by the revenue sharing, ABB could not analyze how the revenue sharing would benefit the plans and it was not in a position to negotiate the revenue sharing by leveraging the size of the plans to offset or reduce recordkeeping costs.
|If you are a plan fiduciary of a plan that uses revenue sharing as its method of paying for recordkeeping services, be sure to go through a deliberative process for determining why such a choice is in the plan's and participants' best interest. According to the court in this case, such inquiry involves more than a raw assessment of the reasonableness of expense ratios because of the difficulty of identifying how expense ratios are broken down between administration and investment services and the fact that expense ratios do not show whether there is a revenue sharing agreement with the recordkeeper or for how much. In addition, without further analysis, it does not show what the market value is for recordkeeping services.|
2. Plan fiduciaries should be prepared to show that they followed plan documents In this case, the Pension Review Committee (Committee) adopted the plans’ Investment Policy Statement (IPS), which provided the Committee with guidelines concerning investment management decisions such as selecting, deselecting and monitoring investment offerings in the plan. The IPS required rebates to be used to offset or reduce the cost of providing administrative services to plan participants at all times. According to the court, ABB did not use the rebates or revenue sharing to offset or reduce the cost of the plans’ administrative services. Instead, ABB permitted Fidelity to take the revenue sharing to cover recordkeeping costs, and this did not lower administrative costs. This resulted in above market costs. The court held that as the IPS is a governing plan document within the meaning of ERISA Section 404(a)(1)(D), ABB breached its fiduciary duties when it failed to comply with the provisions of the IPS.
In addition, according to the court, the IPS specifically requires the use of a share class that has the least expenses. ABB's decision to use classes of shares with greater expense ratios violated the IPS, and therefore violated ERISA's duty of prudence. The court held that ABB's decision was premised on achieving revenue neutrality with a standard that was a result of prohibited transactions and using revenue sharing that was not prudently determined to be a reasonable method to compensate Fidelity Trust. Therefore, the court found that ABB's decision to choose share classes with more expenses in order to maintain neutral revenue sharing income for Fidelity Trust violated ERISA's duty of prudence.
|If you are a plan fiduciary, be careful to comply with the governing plan documents. In this case, the court held that the IPS was a governing plan document within the meaning of ERISA Section 404(a)(1)(D), and the duty of prudence requires that fiduciaries discharge their duties in accordance with governing plan documents. Therefore, neglecting to follow governing plan documents could result in a breach of the duty of prudence. |
To find out more about the implications of Tussey v. ABB, Inc., or the issues surrounding the obligations of plan fiduciaries under ERISA, please contact:
Dale R. Vlasek
Meredith R. Fergus 216.348.5442
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