Judges Should Consider the Obligation of Pension Plan Sponsors to Reduce Investment Options


Monday’s argument in Hughes v. Northwestern University will give judges another opportunity to explain the fiduciary duty of the sponsors who control the defined contribution plans that many of us depend on for our retirement.

This case is being taken to court under ERISA, the Employees Retirement Income Security Act 1973. Responding to a shocking trend of self-operation and mismanagement in employee pension plans, the law federalized much of the law governing such plans. As employers have moved from defined benefit plans to defined contribution plans, employees have increasingly focused on the investment choices of plan sponsors and trustees – the trustees who manage the plans are often employers’ leaders. Adopting a standard of common trust law, ERISA obligatory to act with “the care, skill, prudence and diligence [of] a careful man [sic]. ” Hugues will be the fourth argument the court will hear about this standard in the past eight years.

Even if Hugues involves several ancillary allegations, the main claim being that Northwestern failed in its duty of care by including high-cost investment options in the menu of funds into which employees can make their contributions. One claim is that Northwestern offers higher-fee “retail” funds from institutions that offer lower-fee “wholesale” versions of the same funds. Another is that Northwestern could have reduced fees if it had limited the number of options: larger investments in the remaining options would have given it the advantage of negotiating lower fees. The general idea is that Northwestern simply offers a large number of options (over 200) without any regard to the level of fees charged by a particular fund. To put the case in context, the allegations against Northwestern are not unusual; similar class actions have been launched in recent years, including several against large universities. The stakes are also not low: A court approving a settlement this fall involving my employer (Columbia University) said settlements in such cases have saved retirees more than $ 2 billion.

April Hughes and the other plaintiffs – all current and former employees of Northwestern – present this as a simple case asking the judges to apply the normal rules of oral argument. ERISA derives its general fiduciary duty from the common law of trusts, and this duty requires diligence and care in all aspects of the conduct of the trustee. A duty to minimize the costs of investments is and always has been well in the conception of the fiduciary duty. The allegations in the complaint fit well within any reasonable understanding of this obligation in light of the general idea that it is unwise to waste recipient money.

Northwestern is ridiculing claims by recipients as “paternalistic” complaints that they have been given too much choice. For its part, as long as each individual option is valid, isolated, beneficiaries should not be able to make a claim for breach of fiduciary duty simply because some of the options are less profitable than others. If Hughes and the rest of the attendees are so motivated by the low cost options, they should choose the low cost options from the menu, and Northwestern has plenty of such options.

Raising the stakes to something important far beyond this case, Northwestern argues that Hughes fundamentally misunderstands the standard for pleading a breach of fiduciary duty. It is not enough to make a general allegation of recklessness, pointing out actions taken by other Trustees. Hughes, for example, alleges that other universities have been able to reduce the fees paid by their participants by following the recommendations Hughes includes in his complaint. Rather, Northwestern argues, Hughes must identify on each point the specific action that a trustee might have taken and also show (in the complaint) that a prudent trustee “could not have concluded” that the action would do more harm than good.

Hughes derives this high standard from Fifth Third Bancorp v. Dudenhoeffer, a case involving plans that invest in employer stock. The court adapted the standard in this case to the difficulties faced by plans to respond to unfavorable non-public information about the employer. The plan’s action to divest itself of the employer’s stock could be problematic, both because it could violate securities laws and because it could end up harming the plan more than it does. help – if the divestiture results in a collapse in the employer’s share price.

Hughes argues here that the high standard of advocacy is limited to the “damned if I do, damned if I don’t” context. Fifth third, but Northwestern argues that the high standard is necessary to avoid the “devastating consequences” that ERISA plans face from “endless lawsuits” challenging trustees for nothing more than adherence to traditional industry practices. For Northwestern, it makes no sense to force the courts to become “investment managers,” checking every charge of every investment option that the plan makes available.

Northwestern’s strategy is not unusual. Recent court opinions in the area have spent much less time analyzing a traditional common law duty of care than worrying about the evils some judges see in the unhindered spread of class actions. If the court views this as a “bad class action” problem, then using high standards of advocacy to prevent defendants from being forced into inappropriate settlements will seem natural to judges concerned about class actions. Much more will be known after the argument as to whether Hughes can persuade the judges to look at the matter from a more traditional fiduciary perspective.

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