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Fiduciary liability insurance has, up until recently, been one of those small, inexpensive and easily overlooked policies you buy that gets little thought or attention. Designed to cover liabilities created by the Employee Retirement Income Security Act (ERISA), including the personal liability of plan fiduciaries, it’s basically sleep at night insurance for anyone with fiduciary responsibility, as defined by ERISA, for their company’s employee benefit plans. Many if not most of our readers fall into that category.
Premiums for these policies have always been quite low, in large part because of a perceived lack of serious exposure, especially when the benefit plans in question were defined contribution type plans such as 401(k) plans. Unlike with defined benefit plans, in defined contribution plans investment choices are made by individual participants (albeit from a list of pre-approved options selected by plan sponsors) rather than by the plan sponsors themselves, so it was thought there was relatively little risk to plan sponsors from complaints from participants about investment returns or results.
To a degree, that’s still true, but there have recently been several factors combining to create new risks for plan sponsors. The first is the reported tendency of often unsophisticated individual 401(k) plan participants to choose relatively safe, conservative investment vehicles for their plans, such as money market or bond funds. The second is the prolonged recent history of very low interest rates and investment returns for these more conservative investment options. The third is the fees that are charged by the investment funds offered by 401(k) plans that are part of any investment option. In an era of low interest rates and investment returns such fees, even if comparatively low, can eat into net returns to the investor, reducing plan asset growth and, ultimately, the retirement benefits available to plan participants.
As we have reported in the past, the plaintiff’s bar has been testing the waters for almost a decade now with fiduciary liability lawsuits promoting a variety of theories of liability, most of which are tied to the idea that plan participants saw their investment returns on funds in company sponsored retirement plans reduced by excessive fees built into investment options, and over which participants had no control. Initially these types of fee based suits were directed at very large plans, such as those offered by Verizon, American Airlines, Chevron, Oracle and such, all plans with assets measured in ten figures or more. Fiduciaries and plan sponsors had some early success in defending these suits, but there have been cracks in that dam as some high profile settlements have been reported.
Even more worrisome recently is what appears to be a trend toward legal attacks against much smaller plans. Plaintiffs seem to be lowering their sights, with claims reported against plans with assets measured in millions, not billions of dollars. Recently a Minnesota auto body repair company with barely 100 participants and less than $10 million in assets was subjected to a fiduciary liability suit based on the same theory of excessive fees in their plan.
As a legal strategy for a hungry and ambitious lawyer this could make sense. Industry sources report there are nearly 75,000 401(k) plans nationally with assets totaling $25 million or less, with more than 4.2 million workers (an average of 56 workers per plan) participating in these plans. Smaller employers might not be as diligent in managing their plans as larger ones, and in fact research shows that smaller plans typically do have higher fees than larger plans (who can presumably use their size as leverage to negotiate better deals). With less staff and resources (plan oversight typically being a part time job for someone) and less meticulous oversight and documentation, smaller employers and plans may be quite vulnerable to lawsuits claiming excessive fees, and could be a target rich environment for attorneys with mortgages and college tuitions to pay for.
There are common sense things you can do to better manage your 401(k) and minimize the risk of litigation, and now is a good time to think about doing them. You might also want to review the coverage in your fiduciary liability policy to be sure you are properly covered for claims like these. Remember, personal assets of plan fiduciaries could be at risk. We’ll be happy to review all this with you.