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Regulation and Compliance > Litigation

4 Lessons From Recent 401(k) Lawsuits

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The pace of 401(k) litigation against plan sponsors shows no signs of slowing down. In 2020 alone, more than 100 cases alleging breaches of fiduciary duties, usually revolving around excessive fees and conflicts of interest. Most of the cases have gone after larger plans such as Estee Lauder, Costco and Trader Joe’s.

That doesn’t mean that small plan sponsors shouldn’t pay attention to the legal landscape. Litigation typically filters down to plans of all sizes and has led to changes across the entire retirement industry, not just the targets of lawsuits.

“[Lawsuits] have set the wheels in motion to change the retirement landscape forever,” says Brian Adcock, president of Adcock Financial Group.

Plan sponsors don’t need to wait until they’re facing a judge to implement changes to improve their plans. There are plenty of lessons to glean from recent litigation.

Lesson #1: You Need a Process

Fees may get a lot of attention when it comes to 401(k) lawsuits, but it’s the lack of a well-articulated process and failure to comply with it that is most often the culprit, says Paul Secunda, partner with Walcheske & Luzi, a Wisconsin-based plaintiff’s attorney.

“The most important thing is making sure that you have a very specific process that you follow in selecting a service provider and selecting investments,” he says. “We found out in these lawsuits that there was a lot of sloppiness. A paper trail is essential.”

That means putting plans out for a request for proposal every few years, which is especially important now due to a wave of recordkeeper consolidation.

There’s been a bidding war among record keepers to lure plan sponsors from each other, so plans sponsors should be able to lower plan costs. At the very least, says Secunda, plan sponsors should be asking for a request for information, detailing plan costs and fund performance.

Surprisingly, this is one area where defense lawyers agree with their colleagues on the other side.

“If you’re going to make a decision, you need to have a basis for it with back up materials and advice from outside experts,” says David Levine, principal and co-chair of the plan sponsor practice with Groom Law Group.

Lesson #2: Your Fees Are Probably Too High

While 401(k) lawsuits revolve around several aspects of 401(k) plans, it’s fees that are the biggest target, with many employees alleging that employers should do more to tamp down on how much they pay for their retirement plans. Some of the biggest employers such as Costco and Estee Lauder have been ensnared in these lawsuits.

Plaintiffs’ lawyers and advisors credit litigation for helping to drive down fees over the years. In 2017, the average total fee paid by a plan participant was 0.92%, down from 1.02% in 2009, according to BrightScope and the Investment Company Institute.

These fees are total plan costs and include administrative, advice and other fees from Form 5500 filings, in addition to asset-based investment management fees.

Even so, excessive fees haven’t disappeared completely. Smaller plans are especially vulnerable, BrightScope and ICI found. Plans with less than $1 million in assets have total fees of 1.44%.

Of course fees can be difficult to tease out, notes Eric Doblyen of Employee Fiduciary, a 401(k) provider.

“The trendline is toward transparency,” Doblyen says. “But we did a fee study last year and found that 75% of small businesses pay hidden fees.”

Lesson #3: Your Fiduciary Duty Doesn’t End at Low Fees

Plan sponsors know they have a fiduciary duty to ensure that their plan puts the interest of participants before their own or that of the plan provider. Yet many smaller plans fail this test by working with providers that obscure fees or are opaque about conflicts of interest, Doblyen says.

“The biggest source of fiduciary liability is apathy,” says Eric Doblyen

Not surprisingly, plan sponsors who work with financial advisors often opt to work with an advisor who is a 3(38) fiduciary, an investment manager who reviews investment options and takes day-to-day responsibility for a plan’s investments.

However, Doblyen points out, plan sponsors can never entirely transfer their fiduciary responsibility. They still have a duty to choose a solid 3(38) fiduciary.

That’s why Doblyen believes all retirement plan committees should go through fiduciary training.

“Some of the 401(k) audits I’ve seen, [auditors] are asking what kind of fiduciary training the committee has done,” he says.

Lesson #4: Have the Right Investments for Your Workforce

Retirement plans don’t need to have the best performing funds with star managers, but they do need to have a well-laid process for how they’ll pick their investment lineup, how they’ll monitor them and drop them if performance flounders.

“I see a lot of fiduciaries that are making sure they’re reviewing service providers and investments on a regular basis,” says Secunda, the attorney.

Using target date funds provides a safe harbor for plan fiduciaries as the default option if plan participants don’t choose their own investments. At the very least, plan should be using stable value funds rather than money market funds as the default option so participant retirement savings don’t languish in investments that don’t even keep up with inflation.

Choosing the right safe harbor investment is a first step. Fiduciary must also make sure that their investments are low cost and appropriately structured. an

“For me, a slam dunk for safe harbor is index funds,” says Doblyen. “That’s your baseline.”

While making prudent decisions about the investment lineup is important, there will be times when the plan sponsors get it wrong.

“ERISA does not require you to be Carnac the Magnificent and see the future,” says Levine of the Groom Law Group.

The key is having a process to course correct.

The steady drumbeat of 401(k) litigation may be making plan sponsors nervous. But taking the fiduciary duty seriously, finding the right support and learning the lessons of past lawsuits should keep most plan sponsors out of court.