Sixth Circuit Strikes Blow for Sponsors of 401(k) Plans in Fiduciary Litigation
On June 21, 2022 the Sixth Circuit released a powerful opinion in defense of fiduciaries managing employees’ investment options in 401(k) plans, stating that the Employee Retirement Income Security Act (ERISA) “does not give the federal courts a broad license to second-guess the investment decisions of retirement plans.” The unanimous decision—Smith v. CommonSpirit Health—is the first published appellate decision applying the Supreme Court’s recent Hughes v. Northwestern University case. One expert called it “the best decision ever written” among the hundreds of excessive fee and imprudent investment cases that have been filed, and “a breath of fresh air in excessive fee jurisprudence.” The decision provides cause to hope that in the future employer plan sponsors will find greater success at having such fees cases dismissed at the pleadings stage.
In Smith v. CommonSpirit Health, plaintiffs were participants in a 401(k) plan sponsored by a predecessor of CommonSpirit who claimed that plan fiduciaries breached ERISA’s duty of prudence by offering actively managed investment options instead of lower-cost, better-performing index options, and allowing the plan to pay excessive recordkeeping and management fees.
The Sixth Circuit panel acknowledged that actively managed funds are more expensive than passively managed funds, but also that the question regarding whether such funds are imprudent investments is much more complex than that basic fact. As Chief Judge Sutton wrote, “there is nothing wrong with permitting employees to choose [actively managed funds] in hopes of realizing above-average returns over the course of the long lifespan of a retirement account—sometimes through high-growth investment strategies, sometimes through highly defensive investment strategies.” Indeed, the court observed that “denying employees the option of actively managed funds, especially for those eager to undertake more or less risk, would itself be imprudent.”
As to the pleading standard required for such excessive fee cases, the opinion stated that it’s not enough for plaintiffs to “simply point to a fund with better performance.” Instead, claims of imprudent investments “require evidence that an investment was imprudent from the moment the administrator selected it, that the investment became imprudent over time, or that the investment was otherwise clearly unsuitable for the goals of the fund based on ongoing performance.”
The panel also rejected plaintiffs’ recordkeeping claims. The pleading standard for an excessive fee claim, the decision explained, requires plaintiffs to show “context” sufficient to demonstrate that “the services that [the plan]’s fee covers are equivalent to those provided by” plaintiffs’ comparator plans, and that the fees are “excessive relative to the services rendered.” Because the plaintiffs failed to provide this necessary context, their recordkeeping claims were dismissed as well.
The CommonSpirit opinion is a welcome development for employers who sponsor 401(k) or other defined contribution plans, as it shows that the generic allegations made in virtually every excessive fee case should receive careful scrutiny before plaintiffs are allowed to proceed to discovery. Hopefully its example is followed by other appellate courts as the post-Hughes jurisprudence on excessive fees claims continues to take shape.
If you have any questions, please contact the author or another attorney within Miller Johnson’s employee benefits practice.