The 8th Circuit finally handed down its much anticipated decision in Tussey v. Abb, Inc. Of particular importance was the Court’s ruling on the issue of selection of investment options for pension plans and the replacement/mapping of investment options.
In the interest of full disclosure, I thought that District Court Judge Nanette Laughery’s decision was one the best written and well-reasoned opinions I have ever read. The judge, citing numerous deficiencies in the process used by the plan administrator, rules that the plan’s actions were imprudent and, therefore, constituted a breach of the plan administrator’s fiduciary duties to the plan.
Consequently, I found the 8th Circuit’s reversal and remanding of district court Judge Laughery’ decision disappointing. The 8th Circuit based its decision on the district court’s alleged failure to determine whether the plan administrator’s actions constituted a “breach of discretion” and the possibility that the lower court did not give proper deference to the discretionary decisions of said administrator.
After reading and re-reading the district court’s and the 8th Circuit’s opinions, I believe that there are significant weaknesses in the 8th Circuit’s opinion. The 8th Circuit’s ruling seems to ignore the intent, purposes, and goals of ERISA by putting the administrator’s interests ahead of those of the plan participants, despite the numerous violations of ERISA by the plan and the plan’s administrator/fiduciary.
The appellate court reversed and remanded the issue of fund selection and mapping back to the lower court based on their allegation that (1) the district court did not properly state its basis for its decision, and (2) that under the common law of trusts, a fiduciary’s discretionary decisions are entitled to deference unless it can be shown that the fiduciary decisions and actions constituted an “abuse of discretion.” The Court stated that
Under an abuse of discretion standard, the Plan administrator’s ‘interpretation will not be disturbed if reasonable.’ A reviewing ‘court must defer to [the fiduciary’s] interpretation of the plan so long as it is ‘reasonable’…An interpretation is reasonable if a reasonable person could have reached a similar decision given the evidence before him.
The appellate court properly noted that ERISA essentially codifies the common law of trusts. However, it should also be noted that the common law of trusts must give way to ERISA when it is inconsistent with the language of [ERISA], its structure, or its purposes.1
The suggestion that a plan fiduciary can act in deliberately ignore of the plain language and express intent, purposes and safeguards of ERISA so as to put the plan’s interests before those of the plan’s participants, effectively denying plan participants the protection promised by ERISA. Such a suggestion is clearly contrary to ERISA’s stated intent, goals and purposes. The suggestion is even more troubling given the facts and evidence addressed by Judge Laughery in the immediate action.
In evaluating a fiduciary’s decisions, ERISA clearly states that the fiduciary will be held to a “prudent person” standard, that is “with the care, skill, prudence, and diligence under the circumstances then prevailing that a prudent man acting in a like capacity and familiar with such matters would use in the conduct of an enterprise of a like character and with like aims.
A fiduciary’s duty to conduct a thorough, independent, and unbiased investigation and evaluation of a plan’s potential investment options is one of ERISA’s basic requirements under the “prudent person” standard. Certain decisions involving a fiduciary’s duty to conduct an independent investigation and evaluation are well know to ERISA attorneys, such as
- A fiduciary’s independent investigation of the merits of a particular investment is at the heart of the prudent person standard. 2
- A fiduciary’s failure to make an independent investigation of a potential plan’s investments is a breach of their fiduciary duties.3
- Prudence requires a fiduciary to consider the merits of and alternatives to a transaction, including the expected return on alternative investments with similar risk available to the plan.4
- If a plan fiduciary imprudently evaluates, evaluates, selects, or monitors a plan’s investment options, or does so for any reason other than the best interests of the plan’s participants and beneficiaries, the plan fiduciary breaches their fiduciary duties.5
A fiduciary’s duty of prudence requires both procedural and substantive prudence in the investigation, evaluation and selection of investment options for a pension plan.
Courts have articulated two ways in which to measure a fiduciary’s use of prudence in carrying out their duties. The first is whether the fiduciary employed the appropriate methods to diligently investigate the transaction and the second is whether the decision ultimately made was reasonable based on the information resulting from the investigation6
In the immediate action, the evidence clearly indicates that the plan administrator failed to meet either of the two prudence standards. The 8th Circuit failed to address the clear evidence that the administrator clearly made his decision in violation of ERISA’s requirement that decisions be based on a deliberative assessment of the merits revealed by the plan fiduciary’s independent investigation and evaluation of the information produce by such investigation. As Judge Laughery pointed out, the evidence presented by the plan and its administrator was inconsistent and less than credible, with Her Honor describing the plan fiduciaries research and analysis as “scant,” “cursory,” and “insufficient.” Judge Laughery noted that
when Mr. Cutler [the plan administrator] first recommended to the Committee in May 2000 that the Vanguard Wellington Fund should be removed, he explained that removal would allow participants to ‘be empowered to create their own balanced fund using either actively or passively managed core fund offerings.’ Yet, mapping the Wellington Fund to the [Fidelity] Freedom Funds – which effectively replaces the Wellington Fund with the Freedom Funds – is contrary to the Mr. Cutler’s original stated purpose for removing the Wellington Fund. Indeed, the Freedom Funds were designed to remove the decision-making from the participant instead of ‘empowering’ participants to ‘create; their own balanced fund.
The Court also notes that the Wellington Fund had competitive expense ratios and provided only 15 basis points in revenue sharing as compared to the 35 basis points provided by Freedom Funds. Additionally, the Plan’s platform maintained other actively and passively managed balanced funds, …Thus even if the Committee in fact viewed both the Wellington Fund and the Freedom Funds as comparable because they were both balanced funds, Mr. Cutler and the Group failed to compare differences in expense ratios or revenue sharing percentages between the Wellington Fund and the Freedom Funds or other balanced funds on the Plan platform, which affect an investment’s return. Thus they failed to make a prudent determination as to which investment would have been most appropriate for mapping the Wellington Fund’s assets.
The inconsistency between Mr. Cutler’s reasons for removing the Wellington Fund and the decision to map the Wellington Fund to the Freedom Funds, coupled with the large discrepancy in the expenses of both funds, underscore the Court’s finding that Mr. Cutler’s recommendations were motivated in part by his desire to decrease the fees that ABB, Inc. paid.
Mr. Cutler could not provide information about the Wellington Fund’s performance in the period prior to the decisions to remove it from the plan. Mr. Cutler’s testimony clearly indicated he had no understanding of life-cycle or target-date funds and his testimony regarding the decision to replace the Wellington funds was inconsistent. Despite ERISA’s mandate to control costs and avoid unnecessary fees, Mr. Cutler chose a fund that had not only a poorer performance record than the Wellington Fund, but had fees considerably higher than the Wellington Fun In further support of the fiduciary’s failure to conduct the required independent investigation and evaluation to support his decision, the district court noted that the only reason provided to the Court as to why the [pension plan] preferred the Fidelity Freedom Funds over other target-dated investment options was the Freedom Funds’ “glide-path” – the changes to allocation over time as a participant nears retirement. However such allocation changes are not unique to Freedom Funds, but rather is a characteristic embodied by lifestyle funds generally.
As a former broker-dealer compliance director, Mr. Cutler’s statement either indicates the lack of the required thorough and meaningful investigation required by ERISA, or an attempt to deceive the district court. The district court’s discussion of the facts state that Mr. Cutler described the Freedom Funds as “dynamic” and as providing the plan participants with an opportunity to actively participate in the construction of the Fund’s assets. As Judge Laughery pointed out, life-style funds and target-date funds completely remove the job of asset allocation from investors.
Such funds are far from being dynamic or active. The asset allocations within the fund are essentially static, save for one annual act to increase the percentage of the fixed allocation percentage of the account in relation to an investor’s age. This lack of flexibility or proactive management is one of the primary risks, and weaknesses, of such funds.
The other problem with life-style and target date funds is the fact that while such funds are basically passive managed, the funds charge higher fees generally associated with actively managed funds. The impact of such fees on the prudence process and the impact on a plan participant’s returns cannot be overstated. Each additional 1 percent of fees reduces a plan participant’s end return by approximately 17 percent over a twenty year period. Therefore, as the district court pointed out, such decisions were not the result of the legally required “deliberative assessment of the merits when determining which investment option to choose.”
Furthermore, an argument can be made that the 8th Circuit’s insistence on any sort of deference to ABB’s plan and its fiduciary’s discretionary power is improper given the number of deliberate breaches by the plan’s fiduciaries, as well as the fact that such decisions were clearly not the result of the legally required independent fiduciary investigation and evaluation. Had Mr. Cutler properly conducted the required investigation and evaluation and based his decisions on credible information gained from such investigation and evaluation, then perhaps the court’s deference theory might have merit.
Here, however, Mr. Cutler’s statements about the Freedom Funds and his inability to answer question about the ex ante performance of both the Wellington Fund and the Freedom Funds clearly demonstrated his complete lack of understanding of the funds and his failure to make the legally required independent investigation, evaluation and reasonable decision. In essence, granting any deference to Mr. Cutler’s decisions would reward him for blatantly ignoring his fiduciary duties to the plan, for putting the plan’s interests first at the expense of the protection and guarantees promised to plan participants under ERISA.
Due to the difficulty in seeing into someone’s brain and the unlikelihood that wrongdoers will admit to wrongful intent, the law allows intent to be inferred from one’s actions. Judge Laughery went to great extremes to examine the acts, or lack thereof, of the plan administrator. As Judge Laughery pointed out, there was little evidence regarding the research, investigation, and evaluation done by the plan administrator in making his decisions. Furthermore, as the court pointed out, what evidence and information was presented had little credibility given the clearly erroneous interpretations and the inconsistency of the plan administrator’s statements, resulting in a “careless, imprudent decision-making process.”
The plan’s actions in relation to the plan’s investment policy statement (IPS). When the plan attempted to justify its decision on the requirement within the plan’s IPS, Judge Laughery pointed out that the IPS provided that the plan would “select that share class that provides Plan participants with the lowest cost of participation. “ The court, using a plain English approach, interpreted this as requiring the selection of the share class with the lowest expense ratio. The pension plan countered that (1) the IPS was not binding, and (2) the language meant also considering outside agreement that otherwise reduced the plan’s costs.
So the plan argued that the IPS was binding as to the need to select a managed investment option, but the IPS was not binding regarding the duty to control costs. One ongoing issue with regard to revenue sharing is the true cost of such arrangements on plan participants. While the revenue sharing may offset some of the administrative costs that the plan and/or the plan participants would have to pay, in increased costs in terms of an investment’s annual expense ratio often greatly exceeds the plan’s administrative costs. But this is an issue than plans and plan providers prefer not to discuss.
Another instance of abuse of discretion took place with regard to adherence to the IPS’s procedure for removing funds from the plan. The plan totally failed to follow the designated procedure in connection to the removal of the Wellington Fund. When the Freedom Funds subsequently came under consideration for removal, the plan chose to follow the IPS’s procedure.
The Wellington Fund has an outstanding track record. It advocates a 60 percent equity/40 percent fixed income allocation, an allocation which historically proven to be one of the most successful allocations for investors. Putting one and one together, one can reasonable surmise that Mr. Cutler knew that he would never be able to justify the removal of the Wellington Fund under the IPS’s procedure given its stellar record. Therefore, he just ignored the IPS and removed the Wellington Fund in order to ensure that the plan received more money through revenue sharing. When questioned, he just adopted a convenient argument that the IPS was not binding on him or the plan. Such inconsistent and self-serving conduct is another reason why the law necessarily allows inferences to be drawn from one’s acts.
In short, the 8th Circuit overturned the district court’s ruling that found the plan and plan sponsor in breach of their fiduciary duties of loyalty and prudence despite overwhelming evidence of such violations. The 8th Circuit’s basis for their decision, the allegation that Judge Laughery failed to give proper deference to the discretion of the fiduciary, is difficult to accept. Judge Laughery described the breaches in detail, details that obviously implied a violation of ERISA, both with regard to its intent and express provisions. While it is true that Judge Laughery did not couch such violations in terms of “abuses of discretion,” the described acts clearly qualified as such.
After reading and re-reading the opinions of both the district court and the 8th Circuit, I am more convinced that the 8th Circuit just decided not to decide, to “punt,” knowing that at the same time the Supreme Court was deciding whether to review Tibble, which involves similar issues regarding selecting investment options for pension plans, and hoping that the Supreme Court will accept the Tibble case and resolves the issue. No judge likes to be overturned. While the facts in Tibble are arguably not as compelling as in Tussey, I can understand the 8th Circuit deciding to remand the case back to the district court and simply following the Supreme Court decision in Tibble if the case makes it back to the 8th Circuit.
As for Judge Laughery, here’s hoping that she leaves her original decision as is and simply adds a statement in her conclusion addressing the 8th Circuit’s “abuse of discretion” concern, something along the lines of “these acts, both individually and collectively, constitute a clear abuse of discretion by the plan and its fiduciaries in that they clearly violate the intent, purpose, goals and safeguards of ERISA and effectively deny plan participants the protections guaranteed by ERISA against abuses such as those evidenced in this case.”
1. In re Enron Corp. Securities, Derivatives and ERISA Litigation, 284 F. Supp.2d 511, 546 (S.D. Tex. 2003; Bussian v. RJR Nabisco, Inc., 223 F.3d 286, 294 (5th Cir. 2000)
2. Fink v. Nat’l Sav. And Trust Co., 772 F.2d 951, 957 (D.C.C. 1985)
3. U.S. v. Mason Tenders Dist. Council, 909 F. Supp 882, 887 (S.D.N.Y. 1995)
4. Brock v. Robbins, 830 F.2d 640, 648 (7th Cir. 1987); Department of Labor Advisory Opinion 98-04A
5. In re Morgan Keegan Securities, Derivatives and ERISA Litigation, 692 F. Supp.2d 944, 957 (W.D. Tenn. 2010)
6. Riley v. Murdock, 890 F. Supp. 444. 458 (E.D.N.C. 1995)