Are your retirement plan fees reasonable? If they aren’t – or if the plan participants don’t think they are – you could be hit with a lawsuit. Recent ERISA litigation has underscored the importance of strong fiduciary governance and expense benchmarking.
Workplace Litigation Is Up
Employers paid heavily in 2021. According to the Workplace Class Action Litigation Report from Seyfarth Shaw LLP, class action settlement amounts totaled $3.19 billion in 2021. This is a significant increase over 2020, when settlements totaled $1.58 billion, and 2019, when settlements totaled $1.34 billion.
ERISA settlements in particular have also increased. Seyfarth also says that the top 10 ERISA settlements in 2021 totaled $837 million, compared to $380 million in 2020, and this increase was largely due to class action filings over defined contribution plan fees and investments.
Bloomberg Law says that an “explosion” of litigation over 401(k) plan fees began in 2020, and this has resulted in many early wins for plaintiffs and settlements worth tens of millions of dollars. Since 2020, more than 170 lawsuits over plan fees have been filed in federal courts.
More Lawsuits May Be Ahead
A recent U.S. Supreme Court ruling in Hughes v. Northwestern University may open the door for other lawsuits to move forward.
According to Bloomberg Law, the Supreme Court vacated an appellate court’s decision to toss out a lawsuit that challenged the university’s plan fees and investment lineup. A key takeaway is that offering some lower cost investment options does not excuse unreasonably high fees for other investments. In the court’s opinion, Justice Sotomayor said, “If the fiduciaries fail to remove an imprudent investment from the plan within a reasonable time, they breach their duty.”
Prudent Decision-Making Is Key
The U.S. Department of Labor (DOL) says that there has been an increase in the number of investment options and service types in which participants have individual accounts. Furthermore, fees and other expenses can have a substantial impact on retirement savings. It is therefore important to consider these costs carefully.
The DOL says that these fees usually fall into one of three categories:
- Plan administration fees that cover the day-to-day operation costs such as plan recordkeeping, accounting, legal and trustee services.
- Individual service fees that may be associated with optional features.
- Investment fees associated with managing plan investments. These fees are often charged as a percentage of assets invested, and because they are not specifically identified on statements of investments, employers need to pay attention to make sure they understand what the fees are.
A brief from the Center for Retirement Research at Boston College states that inappropriate investment options and self-dealing are common claims, but recent lawsuits have tended to focus on excessive fees. Additionally, court rulings tend to focus on whether plan fiduciaries exercise prudent decision-making instead of the specific outcomes of those decisions.
Given this, it’s clear that plan sponsors need to be careful when it comes to fees. Proper care should be taken to ensure that the fees for all investment options are reasonable.
This raises a very important question – what counts as reasonable?
This can be relative. A fee may not seem reasonable if less expensive options are available. It can also change. According to the American Society of Pension Professionals & Actuaries, the latest edition of the 401k Averages Book shows that 401(k) fees decreased in 2021 for both small and large retirement plans. If other plans are paying less, fees that once seemed reasonable might start looking excessive.
This is why benchmarking is important.
Benchmarking Your Fees
Benchmarking your fees, or comparing your fees to the fees charged in similar plans, can help you determine whether your fees are reasonable. This practice can also help show that you are exercising prudent decision-making. It may even give you more bargaining power. According to SHRM, benchmarking fees can provide leverage for plan sponsors when it comes time to negotiate with service providers.
This is important because even small fee differences can add up. The DOL provides an example in which an employee has $25,000 in a 401(k) plan. Over 35 years, a return on investment of 7% that’s reduced 0.5% by fees will grow to $227,000. However, if the fees total 1.5%, the balance will only grow to $163,000. That 1% fee difference actually equals a 28% difference in retirement savings.
Prudent Decision-Making
Benchmarking is a critical part of prudent decision-making. It’s also important to make sure that fees are clear so that participants can understand what they are paying and why. Best practices like these can help you avoid ERISA litigation. Do you need help meeting your fiduciary responsibilities as a plan sponsor? See how Heffernan can help.
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