Steps to Keep Your Retirement Plan from Being Sued

The last two years have broken records for fiduciary litigation against retirement plan sponsors. Since 2020, there have been more than 200 new class-action lawsuits brought under the Employee Retirement and Income Security Act (ERISA) and more than 100 new cases alleging breaches of fiduciary duties in connection with fees charged to plan participants.

These statistics were shared by Kevin Mahoney, managing director at financial services firm Raymond James & Associates in West Nyack, N.Y., and Kristen Koluch, senior vice president for investments at the firm. They spoke on March 28 at the Society for Human Resource Management Employment Law & Compliance Conference 2022 in Washington, D.C.

"There were five times as many lawsuits against defined contribution plans in 2020 versus 2019, and litigation brought in 2021 surpassed that and is on pace to do so again this year," Mahoney said.

Increasingly, he noted, smaller plans with just $1 million or $2 million in assets are being sued as "small plans are held to the same standards as big corporations."

How risky are fiduciary missteps? According to law firm Seyfarth Shaw's annual report on workplace class-action settlements, last year the top 10 ERISA settlements totaled $837 million, more than double the 2020 total of $380 million. This was largely a result of class-action filings challenging defined contribution plan fees and alleging that plans offered poorly performing investment funds.

Being a Fiduciary

HR managers and members of employee committees that select service providers for 401(k) and similar plans—and that choose and monitor investment fund options—are plan fiduciaries legally bound to make decisions in plan participants' best interests. The duties of a fiduciary, Koluch explained, include:

• Acting in the sole interest of plan participants.
• Exercising prudence in selecting suitable investments.
• Providing a diversified investment menu lineup.
• Following all plan documents (unless they conflict with applicable laws).
• Ensuring reasonable expenses.
• Avoiding conflicts of interest.

Along with the employer sponsoring the plan, fiduciaries who fail to make decisions in participants' best interests can be subject to civil and criminal penalties and fines. Liability insurance provides a measure of protection for fiduciaries and plan sponsors, but in cases of extreme wrongdoing, the financial and reputational risk to employers remains substantial.

Service Provider Selection

Steps that can ensure fiduciaries fulfill their responsibilities, Mahoney said, include:

• Competitively selecting plan service providers and monitoring their performance.
• Checking plan investments for performance and cost on an ongoing basis.
• Building, maintaining and documenting a plan governance process.
• Operating the plan according to all governing documents, laws and regulations.
• Keeping documents up-to-date for law and regulatory changes.
• Staying compliant with reporting and disclosure requirements.
• Avoiding conflicts of interest.
• Ensuring the plan governance team is effective and has appropriate training.

Plan Fees

When evaluating plan fees, Koluch recommended that fiduciaries:

• Ask service providers to explain fees and services.
• Scrutinize service provider contracts—are you getting what you paid for?
• Benchmark plan fees.

When overseeing plan administration service providers, larger plans may opt to request new proposals every three to five years, Koluch said. Smaller plans may opt to leverage tools available from advisors to assess service offerings and costs.

Plan fees have been falling in recent years, Koluch said. "As fiduciaries, make sure your participants are able to take advantage of that fee compression," she advised, by benchmarking fees annually or, for smaller plans, every other year.

Investment Policy Statements

An investment policy statement (IPS) explains the investment strategy guiding the choice of investment funds.

"ERISA doesn't require an IPS, but regulations state that having one is consistent with meeting plan fiduciary responsibilities," Mahoney said. Moreover, "an IPS is the first document that the Department of Labor [DOL] requests during an audit."

He noted, however, that if you have an IPS, its guidelines must be adhered to, because "the only thing worse than not having an IPS is having one and not following it."

Cybersecurity

Another hot-button issue, Koluch said, is lax cybersecurity that can lead to theft from participant accounts. She advised the following actions:

• Treat plan data as a "plan asset" that should be protected.
• Evaluate service providers for fraud prevention and cybersecurity procedures.
  
• Review the DOL's Tips for Hiring a Service Provider with Strong Cybersecurity Practices.
• Educate plan participants on how to monitor their accounts and what steps to follow if fraud occurs.

Documenting Decisions

"Document the process by which investments were chosen and whether these fund options make sense for your employees," Mahoney said, taking into account factors such as the investing sophistication of your workforce.

Also document how service providers were selected "and why your choices make sense" for the plan and participants, Mahoney advised. "If you're not an expert, use prudent experts," but oversee their activities.

The services of plan record-keepers and investment advisors can be handled by separate entities or bundled together from a single financial services firm, he noted. "Both are acceptable as long as you document how, and why, you made your decision."

A Supreme Court Ruling

The U.S. Supreme Court's 8-0 ruling in Hughes v. Northwestern University, handed down in January, should encourage plan sponsors to ensure that their plans' fund offerings are still prudent investments.

The Supreme Court held that the U.S. Court of Appeals for the 7th Circuit erred in relying on the plan participants' ability to choose from a large selection of investments, including low-cost index funds, to excuse allowing underperforming funds and funds with excessive fees to remain in the retirement plan at Evanston, Ill.-based Northwestern University. Hughes was remanded back to the 7th Circuit for reconsideration.

One of the issues, Mahoney observed, was the university's failure to adequately document its decision-making process.

"It's not necessary to choose the cheapest funds or lowest-cost providers," Koluch noted, but "document the value that's being provided for money spent."

Mahoney concluded, "Make sure at the end of the day that it's the employees' interests that come first. Giving them an opportunity to have a dignified retirement is what this is all about."

[Small businesses can find offering a retirement plan to be daunting. SHRM is offering a program through Raymond James that may help. Visit www.shrm.org/401k to learn more.]

Related SHRM Articles:

Employers Are Enhancing 401(k) Plans to Attract and Keep Talent, SHRM Online, March 2022

Do Retirement Plans Need a Chief Information Security Officer?, SHRM Online, March 2022

Manufacturers Can E-Distribute Retirement Plan Documents to Deskless Workers, SHRM Online, March 2022