The document discusses two potential areas of 401(k) plan litigation: excessive payments to service providers and high expense ratios of mutual funds. If plan sponsors fail to properly evaluate service provider payments and fund expenses, it could lead to litigation. Additionally, if a case reaches the Supreme Court regarding fiduciary responsibility to monitor fund expenses, it could increase scrutiny of plan sponsors' practices. While revenue sharing to pay for plan costs is allowed, amounts must be reasonable and fund expenses appropriate relative to plan size. Overall the article advises plan sponsors to focus on these issues to manage litigation risks.

1. Just out of Reish
Crystal Ball, Part 2
Help sponsors manage 401(k) plan risk
I
n last month’s column, I discussed two major waves of 401(k) As a final thought, there is one commonly mentioned
litigation—company stock cases and allocation of revenue theory for potential litigation that I disagree with. From time to
sharing. This month, I cover two more potential areas for lit- time, speakers and writers suggest that litigation might occur
igation—“excessive” payments to service providers and expense because 401(k) plans are producing inadequate retirement ben-
ratios of mutual funds. efits. That is, there is a growing concern that 401(k) plan-holders
Excessive payments to service providers. Disclosures under are not accumulating enough money to allow them to retire with
408(b)(2) will alert plan sponsors—and, ultimately, under 404(a) a reasonable standard of living, and some critics imply that plan
(5), participants—to the amounts of revenue sharing and other sponsors may be held account-
indirect payments made to service providers. It is inevitable that, able for this shortfall. I have
in some cases, those amounts will be excessive (or, in the words If my fears found nothing in the law indi-
of the law, “unreasonable”). For attentive plan sponsors, those cating that plan sponsors or
excessive payments will be identified during the process of eval- prove to be fiduciaries are obliged to oper-
uating the 408(b)(2) disclosures, for example, by benchmarking well-founded, ate their plans to produce “ade-
quate” benefits, other than the
the disclosed amounts against appropriate data. However, I am
concerned that plan committees will fail to evaluate and bench- it will almost general requirement that fidu-
ciaries act prudently in fulfill-
mark those payments. If my fears prove to be well-founded, it
will almost inevitably lead to litigation.
inevitably ing their duties. Nonetheless,
Expense ratios of mutual funds. While the courts are split lead to the fiduciary standard is evo-
lutionary, not static. In the
over how much responsibility plan sponsors have to evaluate
the expenses of mutual funds, it is possible that one of those litigation. years ahead, a greater burden
cases could reach the Supreme Court in the near future. And may fall on fiduciaries, such
if one does, it is very likely the court could rule that plan fidu- as plan committee members,
ciaries do, indeed, have a heightened responsibility to review to help participants accumulate benefits that are adequate for
the available funds and to select those appropriate for the “pur- retirement. That could include, for example, projections of
retirement income and gap analysis. For the moment, though,
chasing power” of the plan. For example, a billion-dollar plan
these remain in the realm of best practices.
should, as a practical matter, be able to obtain institutionally
Only time will tell if some, or even all, of my predictions are
priced mutual funds and collective trusts, while a smaller plan
off-target. It’s not easy to forecast future litigation, but anticipat-
may need to pay higher prices for retail funds—but, even then,
ing the key issues will help manage the risk in your 401(k) plan.
with a waiver of front-end commissions. In that case, the prac-
tices of plan sponsors, particularly of larger ones, will almost
immediately come under scrutiny. As a word of advice, plan Fred Reish is chair of financial services ERISA practice­ ,
sponsors should focus on this possibility, to make sure the at the law firm of Drinker, Biddle & Reath. A nationally
expenses of their mutual funds are appropriate for the size of r
­ ecognized expert in employee benefits law, he has ­ ritten
w
their plan. Even in this context, the good news is that the use four books and many articles on ERISA, IRS and DOL
of revenue sharing to pay for the cost of operating a plan is not audits, and ­ ension plan disputes. Fred has earned the
p
prohibited, and, of course, the cost of revenue sharing is embed- Institutional Investor Lifetime Achievement Award and the
ded in the expenses of mutual funds. The issue is not whether PLANSPONSOR Lifetime Achievement Award. He is one of
revenue sharing may be used, because it may, but whether the the 15 individuals­named by PLANSPONSOR magazine as
amounts are excessive, as measured both by the payments to “Legends of the Retirement Industry,” and also one of five
service providers and the costs imposed in the plans (i.e., the acknowledged­as “Retirement Plan Adviser Legends” by
expense ratios). PLANADVISER magazine.
PLANSPONSOR September, 2012 | This can be printed for personal, non-commercial use only. Distribution of this material is prohibited.
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