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ABA Health eSource
 June 2007 Volume 3 Number 10

On the Rise: 401(k) Plan Fee Litigation
by Sally Higgins, Kennedy Covington, Charlotte, NC

Sally HigginsGiven the growing importance of 401(k) plans as a—or the—primary source of retirement income for millions of American workers, it is no surprise that those plans, and more particularly, the fees charged to participants in the plans, are attracting the attention of the press, government regulators, 1 Congress, 2 and of course plaintiffs' lawyers.

Given the growing importance of 401(k) plans as a—or the—primary source of retirement income for millions of American workers, it is no surprise that those plans, and more particularly, the fees charged to participants in the plans, are attracting the attention of the press, government regulators, Congress, and of course plaintiffs' lawyers.

The underlying premise of recent 401(k) fee litigation is that the administrative fees and expenses charged to participant accounts improperly decrease participants' return on their 401(k) savings. Plaintiffs claim that administrative fees are unreasonable and excessive, are not incurred solely for the benefit of plans and their participants, and are insufficiently disclosed to participants (or not disclosed at all). On these and other bases, the amount, kind and form of administrative fees and expenses may constitute a breach of fiduciary duty under the Employee Retirement Income Security Act ("ERISA"). The duty of prudence under ERISA may bear on whether particular fees are appropriate in the first instance, the duty of disclosure governs the extent to which plan fiduciaries must inform plan participants about certain nuances of fees and expenses, and the duty of loyalty could be implicated to the extent fees appear to be enriching a service provider or benefiting a plan fiduciary, rather than being incurred exclusively for the benefit of plan beneficiaries. Though class action lawsuits so far have been filed against some of the country's largest corporations, it is easy to imagine that the same kinds of allegations eventually will be directed toward plans of all sizes.

Some cases filed directly against plan fiduciaries 3 allege that plans have not offered as investment options the most advantageous mutual fund share classes, such as institutional share classes which typically charge lower fees than retail share classes. Plans that offer employer stock as an investment option face allegations that the cash component of a company stock fund constitutes too large a portion of the fund; of course, if the value of the company stock is declining, the allegation is likely to be turned on its head, and the claimed breach of fiduciary duty will be that too small a percentage of the stock fund was held in cash.

Among the practices receiving the most attention in the current litigation wave is what is known as "revenue sharing," which can occur among a variety of service providers, mutual funds, trusts, issuers of guaranteed investment contracts, and other entities. A typical example of revenue sharing occurs when a mutual fund pays some portion of its investment fee to a plan record keeper, in exchange for the plan record keeper undertaking some of the same record keeping functions the mutual fund would otherwise have to perform for its shareholders. Plan participants who are paying both an administrative fee to a record keeper and investment fees to the mutual funds selected for their accounts may allege the fees they pay for plan record keeping have not been lowered enough to reflect the revenue paid by the mutual fund to the record keeper. Ironically, some of the very same complaints alleging that these revenue sharing arrangements constitute a breach of fiduciary duty also allege that plan fiduciaries have not engaged in enough revenue sharing to reap benefits for their participants which the market would afford them had they effectively negotiated such arrangements. 4 So, plan fiduciaries may risk allegations of breach of fiduciary duty whether they engage in revenue sharing or not.

The 401(k) fee cases typically assert as an alleged independent breach of fiduciary duty the failure to disclose full and complete information about the fees charged to participant accounts. Under ERISA's § 404(c), when plans which allow their participants to select the investments for their accounts meet certain conditions, plan fiduciaries may not be held liable for losses to the accounts. 5 Fiduciaries of § 404(c) plans should expect the additional allegation that the purported failure to disclose fees and expenses takes the plan outside the safe harbor. Indeed, one of the primary concerns cited by the Department of Labor in its recent Request for Information is whether plan participants are provided sufficient information to make informed decisions regarding investments in their 401(k) accounts. 6

Many smaller employers contract with one provider for a sort of "turn-key" 401(k) plan. Principal Life Insurance Co., one such full-service retirement plan provider, has been recently been sued by the trustee of a retirement plan, on behalf of all "retirement plans to which Principal was a service provider and for which Principal received and kept ‘revenue sharing' kickbacks from mutual funds." 7 The lawsuit alleges that Principal pre-selects a menu of mutual funds from which plan sponsors choose the specific mutual funds for their company's 401(k) plan. Principal also provides plan management services, promotional materials, participant communications, an internet homepage, legal and compliance services, consulting, daily updates of plan records, distribution of benefits, investment reports, government forms, and investment advice. The lawsuit claims Principal has breached its fiduciary duty (to which Principal denies it is even subject) by failing to disclose (or adequately disclose) negotiated revenue sharing and keeping for itself the returns of revenue sharing, instead of passing them on to plans and participants. It is also alleged that the use of plan assets to generate revenue sharing for Principal's own interest constitutes a prohibited transaction under ERISA § 406(b), 8 as plaintiffs claim Principal effectively used plan assets to generate a benefit for itself. To the extent such claims are determined to be viable against a full-service provider such as Principal, it is also possible that claims of breach of fiduciary duty could be asserted against the plan fiduciaries who selected such a provider.

In yet another variation of recent 401(k) fee litigation, a group of trustees of five 401(k) plans sued Nationwide Financial Services, Inc. in conjunction with its provision of variable annuities to retirement plans. 9 These plaintiffs have alleged that full-service administrative service providers to plans persuaded those plans to use Nationwide for investment products, for which they received commissions. Allegedly Nationwide provided group or individual annuity contracts, as well as some record-keeping and other services that the full-service providers had previously been conducting. Nationwide in turn entered revenue sharing arrangements with the mutual funds offered as investments through the annuity contracts. Plaintiffs allege that the patchwork of fees and expenses benefited Nationwide at the expense of plan participants. The district court denied Nationwide's motion for summary judgment, finding triable issues of fact regarding whether Nationwide was a fiduciary, whether revenue sharing payments constituted plan assets, and whether the service contracts that provide for revenue sharing constitute prohibited transactions under ERISA. 10

Remedies sought by plaintiffs in 401(k) fee cases include disgorgement of allegedly unreasonable fees and expenses or revenue sharing payments, restitution of the difference between fees paid and the fair market value of the services provided, an accounting of fees and expenses, and of course recovery of attorneys' fees and costs.

For now, no legislation has yet been passed, the Department of Labor remains in the information-gathering stage, and no dispositive rulings have yet emerged from the pending litigation. And because it may well be that the claims alleged are not easily disposed of at the pleadings stage, 11 plan sponsors and fiduciaries will have to stay tuned as the cases progress. In the meantime, they may be wise to review fees and expenses charged to plan participants and ensure that disclosures about those fees and expenses are clear and complete.


1 On April 25, 2007, the Department of Labor's Employee Benefits Security Administration published a request for information pertaining to disclosure of plan fee and expense information to participants in 401(k) plans, with a view toward proposing regulations later this year. See 72 Fed. Reg. 20,457, 4/25/07.
2 See GAO Report to the Ranking Minority Member, Committee on Education and the Workforce, House of Representatives, "Private Pensions: Changes Needed to Provide 401(k) Plan Participants and the Department of Labor Better Information on Fees," Nov. 2006.
3 See, e.g., Abbott v. Lockheed Martin Corp. (S.D. Ill. 3:06-cv-701-MJR-DGW, filed Sept. 11, 2006); Hecker v. Deere & Co. (W.D. Wis. 06-c-0719-S, filed Dec. 8, 2006); Taylor v. United Technologies (D. Conn. 3:06-cv-01494-WWE, filed Sept. 22, 2006).
4 See, e.g., Will v. General Dynamics Corp. (S.D. Ill. 3:06-cv-00698-GPM-CJP, filed Sept. 11, 2006).
5 29 U.S.C. § 1104(c)(1)(A).
6 See note 1, supra.
7 Ruppert v. Principal Life Ins. Co. (S.D. Ill. 3:06-cv-00903-DRH-PMH, filed Nov. 8, 2006).
8 29 U.S.C. § 1106(b) (prohibiting fiduciaries from dealing with plan assets in their own interest and from receiving personal consideration from any party in connection with transaction involving plan assets).
9 Haddock v. Nationwide Financial Servs., Inc. (D. Conn. 3:01-cv-01552-SRU, filed Aug. 15, 2001); see also Beary v. ING Life Ins. & Annuity Co. (D. Conn. 3:07-cv-00035-MRK, filed Jan. 8, 2007) (asserting similar claims against ING in connection with non-qualified § 457(b) plans).
10 Haddock v. Nationwide Financial Servs., Inc., 419 F. Supp. 2d 156 (D. Conn. 2006).
11 See, e.g., Spano v. The Boeing Co., 2007 WL 1149192 (S.D. Ill. Apr. 18, 2007) (denying motion to dismiss).