Andrew S. Williams
401(K) TRUSTEES SUED FOR PANDEMIC-RELATED INVESTMENT LOSSES
Former participants in a 401(k) profit sharing plan have filed suit in Federal court in New Jersey seeking recovery of investment losses allocated to their accounts by the employer-sponsor.
The losses were incurred when the employer imposed a special valuation date of April 30, 2020 to reflect the plan's investment losses incurred during the COVID-19 lockdown. This mid-year valuation reduced the account balances available for distribution to the former participants.
The employer in Lipshires et al v. Behan Bros. Inc. Retirement Plan maintains a 401(k) profit sharing plan with a pooled trust for investments. Plan assets were valued annually, and participants' account values and benefit distributions were based on a single year-end valuation date—at least until Lipshires and several other employees terminated employment and became eligible for distribution of their Plan benefits in mid-2019.
The former participants would normally be entitled to a benefit distribution based on the most recent December 31, 2018 valuation but because of market appreciation in early 2019, they were allowed by the employer to elect a December 31, 2019 valuation date, which they did. The former participants then requested benefits distribution forms in early January, 2020.
The employer delayed providing such forms and instead sent a letter in March, 2020 to participants advising that the Plan would implement a Special Valuation Date of April 30, 2020 as a result of the extraordinary "change" in the Plan's market valuation due to the coronavirus pandemic. The effect of implementing this Special Valuation Date was a substantial reduction in the account values of all of the former participants.
The former participants received their reduced benefit distributions in early June, 2020 and promptly filed suit alleging that the employer and Plan trustees (also employees) acted improperly in the following respects:
- They failed to follow the Plan document and unreasonably and arbitrarily delayed the benefit distributions;
- The employer was using the coronavirus pandemic as a pretext to reduce the amount of distribution to the former participants; and
- The trustees acted in a direct conflict of interest because the trustees and several of their family members also participated in the Plan and benefited by preserving trust funds for themselves.
The complaint seeks restoration of the lost benefits from the Plan and "equitable restitution" personally from the trustees of the value of the Plan accounts lost as a result of their alleged breach of fiduciary.
It is notable in this case that the employer and trustees were implementing a Special Valuation Date in accordance with express Plan provisions allowing them to do so.
However, this action was inconsistent with the employer's prior assurance to the former participants that they could elect a December 31, 2019 valuation date. After having done so, the employer then implemented the Special Valuation Date with the intended effect of retroactively reducing the benefits payable to the former participants. Bear in mind that employers and retirement plan trustees owe their fiduciary duties to all plan participants and beneficiaries.
Although it remains to be seen how this case will turn out, it is clear that employers and other retirement plan fiduciaries need to proceed with extreme caution in implementing a COVID-19 related change in a plan's valuation date or any other reduction in benefits. Because the IRS guidelines for pandemic retirement plan relief are rapidly evolving, it is important to base any such decisions on the latest available information. Further, as illustrated by the complaint in Lipshires, retirement plan fiduciaries should be mindful of their own duties - and personal exposure - in dealing with any benefit changes.
Andrew S. Williams
Fiduciaries who handle investments for 401(k) and other self-directed retirement plans (such as 403(b) plans for not-for-profit organizations) are increasingly exposed to liability for their investment decisions. Those fiduciaries, including employers and any individuals charged with investment decision making, are being second guessed for the investment funds they select. Plan fiduciaries have been sued for a variety of allegations ranging from excessive fees, self-dealing, lack of transparency and poor investment performance. Some of these actions are filed as class actions, and like other fiduciary claims, they assert personal liability against plan fiduciaries.
A recent decision of the Federal District Court in Chicago, Divane v. Northwestern University, suggests a way to help insulate plan fiduciaries from such claims.
In Divane, Northwestern University and a number of individuals involved with two of its self-directed 403(b) plans were alleged to have breached their fiduciary duty to plan participants by providing too many investment options, providing mutual fund selections with excessive “retail” expense ratios, charging participants too much for record-keeping services funded through “revenue sharing,” and including a fund that had not performed well.
The Court granted the defendants’ Motion to Dismiss because plan participants could select among investment funds that included index funds with expense ratios ranging from .05 percent to .1 percent. The Court held that, as a “matter of law,” these expense ratios were “low.” Because participants had the option of selecting these funds, they were in a position to avoid more expensive funds, a poorly performing fund, and a fund which made revenue sharing payments to the record keepers that were alleged to be “excessive.” Further, the Court added that record-keeping fees were “reasonable as a matter of law.” Based on these conclusions, the Court went on to dismiss the Complaint with prejudice thereby resolving this case in the defendants favor, subject to any possible appeal.
The decision in Divane suggests that any self-directed retirement plan should include low cost funds (usually index funds) in its investment array. This obviously makes available to participants the desirable features of such funds but it also helps insulate plan fiduciaries from claims that they have not properly performed their duties with respect to the plan’s other investment funds – funds which may not be low cost and may not offer investment results that match the results of index funds. With this in mind, you will want to include a selection of low cost index funds in your 401(k) or 403(b) investment array. These funds may turn out to be profitable investments for plan participants but, based on the Divane opinion, they will also provide a good defense if plan fiduciaries are ever second guessed by a plaintiff’s lawyer – or a government auditor.