Staying Out of Court: A Guide to Protecting Fiduciaries from Lawsuits

As a financial advisor, you talk to your business-owning clients about their companies, so you know they understand the importance of offering a company retirement plan. But you also know it creates some liability for you and for the client.

But are you clear on exactly what that means? The defendants involved in the fiduciary lawsuits of Tibble v. Edison International and Sacerdote v. New York University found out the hard way.

These cases also shed light on some valuable lessons all employers should know about keeping their retirement plans compliant so they can steer clear of the courtroom.

Tibble v. Edison International: Establishment of Continuing Fiduciary Duty

In 2007, participants in the Edison International 401(k) plan filed a lawsuit against their employer, alleging a breach of Fiduciary duty under the rules laid out in the Employee Retirement Income Security Act (ERISA). In their claim, they said the plan’s investment options consisted of mutual funds that were readily available in lower-cost share classes. They said the extra expenses negatively impacted their investment returns.

Because the fund line-up was chosen in 1999 and the suit wasn’t filed until 2007, the case was dismissed based on the six-year statute of limitations under ERISA law. That wouldn’t be the case today.

In a unanimous decision issued in May 2015, the U.S. Supreme Court ruled that employers offering a company retirement plan have a continuing fiduciary duty to monitor the investment options offered to participating employees.

This means that employees can file suit within six years from the time a plan sponsor failed to monitor the investment selections or remove an inappropriate investment from the line-up, not from the time the investments are initially selected.

The Tibble v. Edison International ruling also outlined specific guidelines for plan sponsor responsibilities as follows:

  • Plan sponsors must initially select investment options that they believe to be prudent or retain a qualified investment fiduciary to assist in the process.
  • Once they choose the investment options, there is a separate duty to continually monitor those options, ensuring that they remain the most prudent.
  • If an investment option becomes imprudent, the plan sponsor or investment fiduciary has a duty to remove it and replace it with an appropriate alternative.
  • To prove that you’re meeting your duty to continually monitor the investments, you must have a regular review process in place.

The Takeaway: Best Practices

To comply with these court-ordered requirements, plan sponsors need to take a second look at their current practices.
If it’s been a while since your last investment review, it’s important to initiate one now. Don’t make the mistake of assuming your recordkeeper or custodian is handling this for you because these parties rarely serve as fiduciaries.

Also, you must ensure that there is a clearly defined process in place to periodically review your plan’s investment options. This review should include taking a deep dive into the investment’s performance, fees, available disclosures, and any significant changes such as a new investment manager. You may consider establishing an investment review committee or hiring an outsourced administrative fiduciary to handle these regular periodic reviews for you.

Sacerdote v. New York University: The Need for a Disciplined Review Process

In the 2018 case of Sacerdote v. New York University, the courts ruled in favor of the plan fiduciaries, despite finding some “deficiencies” in the performance of a few of the committee members.

Some of the committee members were unsure what their responsibilities were or how to execute on them, which is a recipe for disaster. That said, there were two primary factors that led the courts to rule for the defendants.

The first was that the committee had some informed and engaged members who knew that hiring outside professionals to assist in the maintenance of their plan was the smart thing to do. The second, and possibly most important, saving grace was the committee’s disciplined review process.

The Takeaway: Best Practices

Plan sponsors can take a lesson from the New York University investment committee by adopting the following practices:

  1. Schedule Periodic Plan Reviews
    Plan sponsors and investment committees are required to review the details of your retirement plan as frequently as appropriate and necessary. Meetings should be held no less than annually, and quarterly reviews are ideal.
  2. Hire Expert Professional(s)
    Although not a requirement, hiring an expert to help monitor your plan is a best practice. Lacking the necessary expertise to make prudent decisions and documenting those decisions does not excuse you or your committee members from the duty to do so. Working with a professional co-fiduciary show that you’re putting forth your best effort to ensure plan compliance.
  3. Adopt and Follow an Investment Policy Statement
    Following an Investment Policy Statement (IPS) is also not a legal requirement but rather a best practice. This document explains the investment selection process and serves as a guideline for your investment committee. Investment options that are consistent with the written IPS are more likely to stand up to legal scrutiny.
  4. Carefully Select and Educate Committee Members
    Although the courts ultimately ruled in favor of NYU, they did criticize the performance of some of the committee members. When selecting your investment committee members, ensure they’re willing to stay engaged and fully understand the level of fiduciary responsibility they’ve accepted. Periodically review the performance of your committee members and make adjustments as needed.

If you’re a small business who doesn’t have a retirement plan committee, taking on these responsibilities alone can be risky. For instance, it was a disgruntled employee who initiated two important cases, Tibble v. Edison International and Sacerdote v. New York University. These cases created a huge disruption for these businesses. It makes sense to do it right the first time.

What’s Your Plan for Avoiding Fiduciary Lawsuits?

If you want to avoid fiduciary lawsuits, you must have a clear understanding of your responsibilities as a plan sponsor. Under ERISA laws, plan fiduciaries have a duty to select prudent investment options that are in the sole interest of all plan participants and beneficiaries. These options should allow for diversification to avoid the risk of large losses and should remain in line with plan documents. The rules do not define a right or wrong way to choose the investments, but they do require that you have a prudent process for arriving at your decisions.

The unfortunate fact is that 401k lawsuits are not uncommon. What are the odds that you or your client could be on the receiving end of a retirement plan lawsuit, especially if you don’t have the checks and fail-safes in place that we discuss in this article.

Do you have a solid plan in place to keep yourself out of the courtroom? If you can’t answer this question with 100 percent confidence, it’s time to take action. 

Contact FiduciaryShield today at info@fs401k.com to schedule a plan review.