fiduciary fitness | PLANADVISER May/June 2010

Practice Makes Perfect

Best practices evolving from 401(k) fee litigation

By Marcia S. Wagner | May/June 2010

Some of the nation’s largest employers have been named in class-action lawsuits, alleging that they failed to negotiate reasonable 401(k) plan fees in breach of their duties as plan fiduciaries. In light of these lawsuits, more employers are seeking assurances from their advisers that they are not vulnerable to similar lawsuits, and that their fees are indeed reasonable in light of the administrative and investment services provided to their plans. 

Many employers are beginning to adopt “best practices” that involve the monitoring and negotiation of their service providers’ fees. When providing guidance to plan sponsors, advisers should be mindful of these standards, which recognize that fiduciaries are principally judged not on the results they achieve, but on the processes they follow, and that such processes evolve over time. 

Identifying Fees. With the assistance of their advisers, plan sponsors should make a concerted effort to learn how much the plan and participants actually are paying in fees and expenses. Although the Department of Labor’s proposed regulations regarding fee disclosure allow disclosure by formula, many plan sponsors will attempt to determine the actual dollar amount, even if it is an estimate. Moreover, once currently proposed regulatory initiatives have been finalized, the new regime almost certainly will require greater disclosure of fees and compensation and more diligence by sponsors. 

Comparing Investment Management Fees or Expense Ratios against Benchmarks. Plan sponsors should attempt to avoid paying above-average investment management fees or expense ratios unless the investment manager or mutual fund can demonstrate that it is delivering above-average investment performance for the plan participants. 

Continuous Monitoring of Fee Structures. In addition to asking a broad range of qualitative and quantitative questions about the plan’s funds and service providers, plan sponsors should review whether the fees are reasonable with respect to the investment performance and services received. Advisers can help plan sponsors acquire the relevant information from the plan’s various providers and facilitate the overall review process. Although an adviser should not attempt to manipulate or otherwise influence the fiduciary review of its own individual service arrangement, the adviser can provide data and other objective information about its services, enabling the plan sponsor to conduct its own independent review of the adviser and its fees.  

Document Reviews of Investment Vehicles and Fees. Plan sponsors should document their reviews of investment vehicles, including negotiations related to service provider fees paid directly by the plan or plan sponsor, or indirectly by the plan participants through a reduction in investment earnings. The documentation should demonstrate a thoughtful process addressing key questions or discussions and decisions made. 

Replace Funds That Do Not Meet Investment Criteria. Many fiduciaries are reluctant to replace poorly performing funds and often compromise by merely adding funds. This should be avoided, since it could demonstrate an unwillingness on the fiduciary’s part to perform his or her duties, as required by the Employee Retirement Income Security Act (ERISA). Advisers can provide the timely support that plan sponsors need, encouraging them to take any necessary action prudently with respect to plan investments. 

Conduct Fiduciary Reviews and Audits. When appropriate, more plan sponsors will be examining the sufficiency of their processes and performing fiduciary audits. Plan sponsors may perform “self-audits” with the assistance of advisers, or they may engage third parties to perform audits for them. The scope and nature of fiduciary audits can vary widely, and may include reviews of the plan’s investment policy statement, the process for selecting and monitoring providers, the documentation of fiduciary meetings and decisions, the adequacy of the written terms in service contracts, and whether the plan’s service and investment providers have sufficiently disclosed relationships with other providers that pose potential conflicts of interest. 

Fiduciary Manual. A manual that describes the plan’s fiduciary processes and incorporates the standards discussed above can serve as a reference tool or guide for employers. Use of a fiduciary manual is intended to help employers reach a better understanding of their responsibilities, thereby helping them comply with ERISA’s fiduciary standards.  

By helping plan sponsors incorporate these standards into a prudent review process, advisers can assist in efforts to affirm that the plan’s investment and service providers have been selected properly, and that the plan’s fees and expenses remain reasonable in light of the services being delivered.  

Marcia S. Wagner is an expert in a variety of employee benefits issues and executive ­compensation ­matters, including qualified and nonqualified retirement plans, and welfare benefit ­arrangements. A summa cum laude graduate of Cornell University and Harvard Law School, she has practiced for
23 years. Wagner is a frequent lecturer and has authored several books and numerous articles.