Appropriate Benchmarking

In light of the focus in many of the 401(k) and 403(b) lawsuits on alleged excessive fees, plan fiduciaries have been advised that it is important that they take measures to document their fees’ reasonableness. This is most commonly done through the use of benchmarking. While the law is clear that there is no fiduciary requirement to use the least expensive investment fund, the fees associated with a fund should be within a range that is reasonable.

The importance of appropriate benchmarking was recently noted by the Court of Appeals for the 8th Circuit in Meiners v. Wells Fargo. The Wells Fargo Plan offered more than two dozen investment options, 12 of which were Wells Fargo Dow Jones Target Date Funds (TDFs). These funds were allegedly more expensive due to higher fees than comparable Vanguard and Fidelity funds, and also underperformed the Vanguard funds.
The plaintiff alleged that the Wells Fargo defendants breached their fiduciary duties when they failed to remove their expensive and underperforming funds from the plan’s options and that the breach occurred because defendants were maximizing their own profits.

The court began its analysis with a discussion of the applicable pleading requirements, which determine whether a plaintiff’s claim will survive a motion to dismiss. The test is whether, accepting all of the facts alleged as true, the complaint states a claim for relief that is plausible on its face.

What is the meaning of these general rules of civil procedure in the context of the Employee Retirement Income Security Act (ERISA)? The court explained that plaintiffs claiming a breach of fiduciary duty have a challenging pleading burden when trying to survive a motion to dismiss, because of their different levels of knowledge regarding what investment choices a plan fiduciary has made as opposed to how it made those choices.

Because of ERISA’s disclosure requirements, plan participants generally have extensive information regarding the selected funds, but will lack the same breadth of information regarding the fiduciary’s methods and actual knowledge, as those details tend to be in the fiduciary’s sole possession.

As a result, “the challenge for ERISA plaintiffs is to use the data about the selected funds and some circumstantial allegations about methods to show that a prudent fiduciary would have acted differently.” Further, to establish that a prudent fiduciary in like circumstances would have selected a different fund based upon the cost or performance of the one that was chosen, a plaintiff must generate a sound basis for comparison, for example, “a meaningful benchmark.”

The plaintiff’s failure in this regard caused the 8th Circuit to affirm the decision of the district court dismissing the breach of fiduciary duty claims. Meiners pleaded that one Vanguard fund performed better than the Wells Fargo target-date funds, but the fact that one fund with a different investment strategy ultimately performed better than the Wells Fargo funds does not establish whether those were an imprudent choice. The court made the obvious but important comment that “no authority requires a fiduciary to pick the best-performing fund.”

With respect to the benchmarking of fees, the 8th Circuit distinguished between considering the different shares of one fund—a meaningful benchmark—and finding a fund with some similarities that was less expensive. It held that “the existence of a cheaper fund does not mean that a particular fund is too expensive in the market generally or is otherwise an imprudent choice.”

Finally, if the plaintiff could not establish that selection of the Wells Fargo target-date funds was imprudent, the court could not draw a reasonable inference that the company retained the funds from improper motives. The court concluded that it could not reasonably infer that defendants acted out of a motive to seed underperforming or inordinately expensive funds if the plaintiff was unable to plausibly plead that the funds were underperforming or inordinately expensive. That is, from a pleading perspective, plaintiffs must establish that a fund is an imprudent choice.

The bottom line: While it is possible under these facts that the Wells Fargo defendants breached their fiduciary duty, the plaintiffs’ pleadings failed to show plausibility that they had done so.

Marcia Wagner is an expert in a variety of employee benefits and executive compensation areas, including qualified and nonqualified retirement plans, and welfare benefit arrangements. She is a summa cum laude graduate of Cornell University and Harvard Law School and has practiced law for 31 years. Wagner is a frequent lecturer and has authored numerous books and articles.