Tussey appeal decided by eighth circuit

May 12, 2014

The Eighth Circuit Court of Appeals recently decided the appeal in Tussey v. ABB. Summarizing its conclusions with respect to the ABB defendant fiduciaries, the court stated: “We affirm the district court’s judgment and award against the ABB fiduciaries with respect to recordkeeping, but vacate the judgment and award on the participants’ investment selection and mapping claims.”

In this article we begin with a brief summary of the facts and the lower court decision and then discuss the Eighth Circuit’s holdings with respect to ABB.

Facts

The case involves two 401(k) plans sponsored by ABB, Inc. (we refer to both of them simply as the ‘Plan’). The Plan (at the time in question) was relatively large – $1.4 billion in assets in 2000.

During the relevant period, Fidelity provided recordkeeping services as part of a bundled arrangement with the Plan. During the period 2000-2001, Plan fiduciaries adopted a new fund menu investment strategy that included using a target date fund, removed Vanguard’s Wellington Funds from the fund menu, and mapped participant assets invested in the Wellington Funds into the newly selected (target date) Fidelity Freedom Funds. These actions were taken, in part, pursuant to a newly adopted Investment Policy Statement (IPS).

Plaintiffs sued ABB, Inc. (the Plan sponsor), the Plan’s administrative committee and investment committee, the head of the investment committee’s staff, Fidelity Management Trust Company (the trustee), and Fidelity Management & Research Company (the investment adviser to the Fidelity mutual funds offered by the Plan), alleging (among other things) ERISA fiduciary breaches with respect to the retention of Fidelity as record keeper and certain fund selection decisions.

Lower court holdings

The lower court held ABB breached its fiduciary duty with respect to the following:

1. Failure to monitor recordkeeping costs and negotiate rebates from the trustee. The court found, based on testimony of plaintiffs’ expert, a report prepared for ABB by Mercer, comparison with other plans, and Fidelity’s own data, that the revenue sharing arrangement between the Plan and Fidelity resulted in significant overpayment for record keeping services.

2. Failure to follow Plan procedures in de-selecting the Vanguard Wellington Fund and ‘mapping’ assets that had been in that Vanguard fund into the Fidelity Freedom Funds. The court found that the Plan’s IPS was a “governing plan document.” It found (1) that the IPS required reviewing five years of performance and putting a fund on a “watch list” before de-selecting it, and (2) that the addition of a new fund (e.g., the Fidelity Freedom Funds) required a “winnowing” process involving the review of multiple alternative fund options. ABB fiduciaries, the court found, did neither of these things and thus violated ERISA.

3. Selection (for the fund menu) of share classes that had higher expenses than other available share classes. The court found that, with respect to six specific funds, ABB selected higher-priced share classes in violation of the provisions of the IPS and in order to perpetuate the improper fee arrangement that resulted from the transaction discussed in 2.

4. Paying above-market fees for Plan services in order to subsidize the non-plan “corporate services” provided by Fidelity. The court found that there was evidence (an email and the Mercer report) that the Plan was being improperly over-charged in order to pay for unrelated services provided to ABB (including recordkeeping services for ABB’s DB plan, health plan and non-qualified plan).

For a more comprehensive discussion of the facts and the lower court’s holdings, see our article Tussey v. ABB.

Eighth Circuit decision

Defendants ABB and Fidelity appealed the lower court’s decision to the Eighth Circuit Court of Appeals. With respect to the ABB fiduciaries, there are three significant elements in the Eighth Circuit’s decision: its rejection of the Hecker defense; its upholding of claims based on the retention of Fidelity as record keeper; and its vacating and remanding of claims based on the lower court’s interpretation of the IPS.

Hecker v. Deere defense rejected

In Hecker v. Deere, the Seventh Circuit held that:

[E]ven if, as plaintiffs urge, there is a fiduciary duty on the part of a company offering a plan to furnish an acceptable array of investment vehicles, no rational trier of fact could find, on the basis of the facts alleged in this Complaint, that Deere failed to satisfy that duty. As the district court pointed out, there was a wide range of expense ratios among the twenty Fidelity mutual funds and the 2,500 other funds available through BrokerageLink. At the low end, the expense ratio was .07%; at the high end, it was just over 1%. Importantly, all of these funds were also offered to investors in the general public, and so the expense ratios necessarily were set against the backdrop of market competition. The fact that it is possible that some other funds might have had even lower ratios is beside the point; nothing in ERISA requires every fiduciary to scour the market to find and offer the cheapest possible fund (which might, of course, be plagued by other problems).

Some have urged that Hecker stands for the principle that as long as the fees on some funds are reasonable, it does not matter if the fees on others are not. The Eighth Circuit described defendants’ Hecker defense claim as follows:

The ABB fiduciaries contend the fact the Plan offered a wide ‘range of investment options from which participants could select low-priced funds bars the claim of unreasonable recordkeeping fees.’ In support, the ABB fiduciaries rely on Hecker v. Deere & Co. [and related cases], which the ABB fiduciaries propose “collectively hold that plan fiduciaries cannot be liable for excessive fees where, as here, participants in a self-directed 401(k) retirement savings plan that offers many different investment options with a broad array of fees can direct their contributions across different cost options as they see fit.”

The Eighth Circuit rejected this argument, holding that Hecker was “tethered closely to the facts” and that where, as in this case (see below), the facts “involve significant allegations of wrongdoing,” Hecker does not bar a claim.

Many wondered why the lower court had not considered Hecker. In the opinion of the Eighth Circuit, failure to do so did not present a problem.

Lower court holdings on record keeper claims upheld

The ABB defendant fiduciaries claimed that:

[T]he district court erroneously (1) “implied that certain business arrangements, such as bundling of investment management and recordkeeping services through a single provider,” were automatically improper, (2) failed to give proper weight to the recognized benefits of revenue sharing, and (3) “relied on unwarranted inferences” in finding ABB and the [Plan’s Employee Benefits Committee] favored ABB’s and Fidelity’s interests at the Plan’s expense.

The Eighth Circuit rejected these claims, agreeing with the lower court’s holdings (described in 1 and 4 above) that:

[T]he ABB fiduciaries failed to (1) calculate the amount the Plan was paying Fidelity for recordkeeping through revenue sharing, (2) determine whether Fidelity’s pricing was competitive, (3) adequately leverage the Plan’s size to reduce fees, and (4) “make a good faith effort to prevent the subsidization of administration costs of ABB corporate services” with Plan assets, even after ABB’s own outside consultant notified ABB the Plan was overpaying for recordkeeping and might be subsidizing ABB’s other corporate services.

Lower court holdings based on the IPS vacated and remanded

The court agreed with defendant fiduciaries contentions that:

(1) Even if the IPS is considered a governing plan document, “neither the IPS nor ERISA required the investment selection and removal process the district court required.” (See, e.g., the lower court’s discussion of “winnowing” discussed above.)

(2) “[T]he district court erroneously substituted its own de novo interpretation of the Plan and view of the ideal Plan investments for the reasoned judgment of ‘those bodies legally charged with the actual exercise of discretion.’”

(3) “[T]he district court’s analysis reflects an improper hindsight bias as demonstrated by the district court ‘reason[ing] ex post that “between 2000 and 2008, the Wellington Fund[] outperformed the Freedom Funds.”’”

Summarizing: the lower court applied too strict an interpretation of the requirements of the IPS with respect to, e.g., the de-selection of the Wellington Fund and the selection of the Freedom Funds; and the Plan fiduciaries own interpretation of those requirements should be accorded more deference.

The Eighth Circuit did not, however, rule for the defendant ABB fiduciaries on this point. Instead, it remanded these issues (holdings 2 and 3 above) to the lower court for further consideration, applying the ‘deference’ standard to its interpretation of the IPS. The Eighth Circuit also instructed the lower court to “reevaluate its method of calculating the damage award, if any, for the participants’ investment selection and mapping claims.”

Takeaways

In our article on the lower court’s decision, we identified the following takeaways:

1. The employer is a litigation target.

2. Trust and recordkeeping fees are a litigation target.

3. Revenue sharing is a target.

4. Investment policy statements can make you a target.

5. Language in consultant’s reports can be used to prove plaintiff’s case.

After the Eighth Circuit’s decision, Takeaways 1-3 and 5 still apply. Takeaway 4 – investment policy statements as a possible pretext for litigation – requires some revision. Defense lawyers are still likely to be concerned about procedures in an investment policy statement that are (as the Eighth Circuit describes the one for ABB’s Plan) “informally implemented.” In a footnote/aside, however, the Eighth Circuit commented:

[W]e are concerned that construing all investor policy statements as binding plan documents will discourage their use, and we question whether a policy statement like the one in this case – informally implemented to provide a framework for administering the Plan itself – constitutes a binding Plan document.

The Eighth Circuit’s decision should give some comfort to plan fiduciaries concerned that, in adopting an investment policy statement, they have in effect created a whole new set of rules they can be sued over.

(Note — as in our earlier article, we will not discuss Fidelity’s part of this case, other than to note that Fidelity won; the Eighth Circuit reversed the lower court’s finding against Fidelity on the float issue.)

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The Eighth Circuit’s decision demonstrates an interesting development in fee litigation. On the one hand, proving that investment fees are unreasonable appears to be difficult; issues with respect to the selection of investment funds were vacated and remanded. On the other, proving that recordkeeping fees are unreasonable seems to be less difficult; the lower court’s decision on these issues was upheld. We believe this difference can be explained by the fact that, unlike investment fees, record keeping fees are to some extent commoditized, or at least courts are willing to treat them as a commodity, making it possible (as the lower court in this case did) to compare the record keeping fees paid by the ABB Plan with the fees paid by the 401(k) plan for Texas state employees.

We will continue to follow 401(k) fee litigation as it develops.