Governance and Compliance Advisory Insight: April 2009

ERISA Plan Fiduciaries: What "Prudence" Demands Today

ERISA fiduciaries are under tremendous pressure today. ERISA litigation, involving excessive-fee and stock-drop claims, continues its upward trend. While most of these cases settle, there are real dollars at stake. In fact, the cost to plan sponsors to settle breach of fiduciary suits involving defined contribution plans was over $1 billion in 2008 alone. Litigation is expensive, distracting to senior company executives and strains internal resources. It could be particularly damaging now when companies need to direct their internal resources to the current economic turmoil and stay focused on the continued viability of their operations.  

Even more unsettling is the developing trend of plan fiduciaries to sue each other (e.g., investment managers and trustees) in the wake of continuing investment losses. This recent trend, which is in response to plan funds investing in toxic assets, could even result in participant claims against the same plan fiduciary (typically the plan sponsor) that is trying to recoup the investment losses (typically from the plan’s investment manager).

As scrutiny of fiduciaries by plan participants and other fiduciaries continues to increase, plan sponsors should take steps to ensure that their retirement plan governance procedures are working to safeguard the plan and its participants. While implementing sound retirement plan governance may not prevent lawsuits, it can reduce the risk of a successful legal challenge and/or put the plan sponsor in a better position to negotiate an early (and more favorable) settlement.

No court is going to require a plan fiduciary to predict the future by always making the best investments or contracting with the best vendor. But courts have held that plan fiduciaries that follow a prudent process (designed for the exclusive benefit of participants) have not breached their fiduciary duties even when, as a result of that process, the fiduciaries did not obtain the best possible investments or services for the plan. Prudence today requires active monitoring of the ERISA plan's procedures, investments, operations and administration.

In Hecker v. Deere, the U.S. Court of Appeals for the Seventh Circuit recently held that plan fiduciaries did not breach their duties by offering funds with fees claimed to be excessive, and that included revenue-sharing arrangements. The court found that, because there is no duty under ERISA to offer funds with the lowest possible fees and the plan offered an open brokerage window that provided participants with the opportunity to invest in low-fee fund options, the fiduciaries did not breach their duties to participants.

The decision in Deere, although welcomed by plan sponsors, does not resolve all the current fee lawsuits that have been filed, many of which have facts that are distinguishable from those in Deere. Also, the Department of Labor (DOL) has indicated its disappointment with the Deere decision. Just recently, a DOL official criticized the ruling for not giving deference to its regulations under Section 404(c) of ERISA by failing to recognize that plan fiduciaries, and not participants, control investments selected for 401(k) plans. In addition, the DOL has filed an amicus curiae brief in support of a rehearing of the 7th Circuits decision in Deere. Despite the DOL's criticism of the court’s analysis that shielded the defendant ERISA plan fiduciaries from liability in Deere, the fiduciaries were credited by the court with complying with all applicable disclosure requirements under ERISA, suggesting that a plan governance process was both in place and followed.

Further, while the DOL's proposed regulations requiring enhanced disclosure of plan fees under individual account plans have been put on hold at the request of the Obama administration (see GCA Update, February 2009), these regulations may still be issued in final form and could even require enhanced fee disclosure in response to the Seventh Circuit’s decision in Deere.

In addition, a current proposal in Congress would mandate additional fee disclosure. The Defined Contribution Fee Disclosure Act of 2009 (see GCA Update, March 2009) was introduced on February 9, 2009, and referred to the Senate Health, Education, Labor and Pension Committee. The Act requires, in part, defined contribution plan administrators to provide participants with advance notice of investment options available under the plan and potential service fees imposed on plan investments (with a breakout of those fees into four categories). This Act also requires the DOL to publish data on investment options and median fee levels.

In light of these recent developments, what issues should plan fiduciaries address today? Plan fiduciaries should consider addressing the following:

• Has your plan governance been reviewed recently, and has documentation of the governance process been updated?
• Are the plan fiduciaries adhering to the governance process, including complying with ERISA Section 404(c) and documenting their actions?
• Have plan fiduciaries received ERISA fiduciary training on a periodic basis?
• Have any plan assets been directly or indirectly invested in any dubious investments?
• Have plan investments (and the plan's investment policy) been reviewed and verified by an independent consultant?
• Are proper procedures in place to avoid conflicts of interest when employer stock is an investment option under the 401(k) plan?
• Do you have documentation of a recent fee review conducted by an independent third party?
• Has the plan's operational compliance with the Internal Revenue Code been reviewed and documented recently?
• Do you have adequate ERISA plan fiduciary insurance in place, and has it been updated to cover current fiduciaries?
• As a plan sponsor, will your organization be in a better position to protect itself going forward by selecting an investment manager and/or trustee that agrees to provide more frequent reporting and oversight, and is obligated to reevaluate the propriety of investment options on a scheduled basis?

These are just some of the issues plan fiduciaries should be addressing to document procedural prudence and compliance with ERISA's fiduciary standards.

If you would like to find out how your company's governance practices compare to the practices of organizations that participated in the Towers Perrin 2008 Qualified Plan Governance Survey, we can review the survey results with you and prepare a complimentary customized report. The Towers Perrin 2008 Qualified Plan Governance Survey is now available.

About Towers Perrin’s Governance and Compliance Advisory Insight (GCA Insight)

GCA Insight is a special supplement to Towers Perrin's Governance and Compliance Advisory Group Update (GCA Update). Towers Perrin publishes GCA Update on a monthly basis to help plan sponsors stay informed about the latest regulatory and legislative developments affecting their retirement plans. GCA Update provides relevant information in a concise, accessible format that’s easy to share with colleagues. Periodically, Towers Perrin also publishes GCA Insight to discuss a development highlighted in GCA Update in greater detail to provide our clients with a more thorough review of current trends and issues.