11 Tips to Reduce Litigation Risk

11 Tips to Reduce Litigation Risk

Gordon Tewell, CFA, CPC, ERPA | Principal, Innovest Portfolio Solutions

While retirement plans with billions of dollars dominate the plan litigation headlines, smaller plans have the opportunity to learn from the suits filed against their larger plan peers and hopefully avoid possible litigation.  

Until recently, the fee-based claims against retirement plan fiduciaries targeted “mega-plans” – e.g., Verizon ($30B); Chevron ($19B); Intel ($15B); Oracle ($11B); American Airlines ($9B) – but two cases may indicate an extension of fee based claims into the small/mid-size plan market: CheckSmart ($25M) and LaMettry’s Collision ($9M).

There is no doubt that litigators have been busy. We are seeing new approaches to court cases -whether an attack on revenue sharing, continued focus on company stock, or new inquiries into stable value, fee structures, or custom target-date funds (TDFs)—litigation doesn’t show signs of letting up. The suits attack plan sponsors, recordkeepers and, in some cases, investment managers. Recent cases bring a number of new attorney names into the litigation world as new entrants in the plaintiff attorney world continues to grow. The pace is unlikely to slow as cases are quickly duplicated.

Unfortunately, we are in a world where every action can be put under the microscope.

Committees should feel confident that, if they follow fiduciary best practices and due diligence, they have a strong defense. A prudent process and documentation is more essential than ever. There’s no time like the present to make sure you and your investment committee have a strong fiduciary file and continue to try to raise the bar.

While the fees, penalties and settlements of the cases mentioned above amount to huge sums, the actions that prompted these lawsuits are not unique to the handful of companies being charged.  Plan sponsors should be taking copious notes and learning lessons from this litigation.  Since it’s hard to predict what’s going to happen in the courts, plan sponsors should look to reduce the risk of litigation by following a best-practices strategy. Some key steps that sponsors can take to improve the plan for participants and protect themselves as fiduciaries include:

  1. Keep your ear to the ground. Know what is going on within the industry and what a prudent person would do.
  2. Benchmark and evaluate your providers. Even if a plan is satisfied with its current provider, consider periodically benchmarking or going out to bid with a Request for Proposal (RFP). The RFP process may disclose administrative and cost saving opportunities. Ensure that provider fees and expenses are reasonable by evaluating competitive bids every few years. An RFP process may uncover whether you are overpaying for services and whether other competitors might be providing useful additional services that your current provider does not offer.  At the end of the exercise you may not be dissatisfied with your current provider, but at the least, you will know whether you should be renegotiating your current provider’s fees.
  3. Offer a broad mix of investment options.  This will allow participants to adequately diversify their accounts. The menu should include low-cost index funds. Ask yourself, “Is a competitive capital preservation investment option available, and has the investment been thoroughly vetted?”
  4. Engage in fiduciary training. It is imperative that all committees understand the legal responsibilities of their position as a fiduciary.
  5. Review the cost and structure of your investments. A committee (or other fiduciary) should document that it regularly investigates share classes and fee options to ensure that it has considered the lowest cost option for which it qualifies. If higher cost funds are selected, a committee (or other fiduciary) should document the process that led to the selection of a higher cost fund as opposed to a cheaper fund - e.g., documenting the relative performance of the higher cost funds net of fees. Ensure fee transparency and equality for employees.
  6. Follow your governing documents.  Plans should adopt an Investment Policy Statement and follow it. Adopting a policy and not following it can be worse than not having a written policy at all.  Modify or update the policy as appropriate.
  7. Watch the proprietary funds.  Recent litigation has focused on providers who put their own funds in their employee plans even though they were not top performers. Ensure that you evaluate all investments options, using an unbiased, well-documented process that can reliably evaluate how well each option is aligned to your plan’s needs and demonstrate the prudence of your decisions.
  8. Hire expertise.  Unless you are a very large business with employees who have real expertise and time to spend, you are courting disaster by trying to do everything in house. Just about every plan needs professionals advising about investments and fees.  And those professionals should acknowledge that they are fiduciaries.
  9. Monitor your revenue arrangements.  There are alternatives to paying for plan services through revenue sharing that are more transparent. If you do enter into a revenue sharing arrangement, make sure your provider isnot being overpaid or that revenue sharing is not being used to pay for services to the plan sponsor rather than the plan participants.
  10. Continue to monitor the Plan investments.  Just because you picked an appropriate menu years ago does not mean your menu is the best for participants today.  Fiduciaries need to monitor performance against benchmarks and to be aware of new funds and alternatives to regular mutual funds, such as separate accounts and collective investment funds. 
  11. Hold regular committee meetings.  Prepare agendas and keep written minutes to record what is discussed and the reasons for decisions. Careful documentation makes it much easier to show a court that you were acting prudently. Make sure your notes are thorough.

One of the most dangerous statements that can be made is, “We have always done it this way.”  Plan sponsors now have a unique opportunity to learn valuable lessons from these lawsuits and court cases and adopt best practices for managing their fiduciary processes and responsibilities. 

Source: Innovest Portfolio Solutions, Gordon Tewell, CFA, CPC, ERPA