Money Managers Face Liability From Retirement Plans For Their Employees

By J. Tyler Entwistle from

There is a certain logic that suggests that an asset manager might reasonably allow its employees to invest some of their retirement savings into funds that the company manages. But a recent wave of lawsuits begs to differ, claiming variously that investment advisors are raking in excessive fees by including expensive proprietary mutual funds in their employees’ 401(k) plans. More to the point, clients are becoming more and more concerned courts and juries will become even more active than they already are. To date, several of these suits have resulted in multi-million dollar settlements.

This should raise alarm bells for any firm that follows this practice, however well meaning the intention. And it suggests three immediate steps: 1) review your plan design to make sure it generally still complies with the law, including recent court decisions; 2) ensure that any proprietary funds offered are comparable to the best available on the market; and 3) review your insurance policies to be certain you are covered in the event of a similar lawsuit.

Number 3 is no small matter. Issues related to employer sponsored employee benefit plans are typically covered by Fiduciary Liability insurance, which applies to cases in which the company or its employees fail to perform their fiduciary duty to its employees, who are participants in the plans. Often the cases are brought not just against the firm, but also the individuals involved in determining benefit plans, typically a benefit committee comprised of company employees.

Many financial firms don’t carry this coverage, often because of the mistaken belief that fiduciary liability is covered either by Directors and Officers (D&O) or Errors and Emissions (E&O) policies.

When companies do have Fiduciary Liability insurance, many buy just a small amount such as $1 million of coverage. In some cases, the legal fees alone to defend these suits can far exceed that total. And many settlements have been much higher: $12 million by Fidelity in 2014, $31 million by Massachusetts Mutual in 2016, and $3 million by New York Life in February 2017.

Over the past two years, similar cases have been brought against more than 20 other money managers, including Morgan Stanley, JP Morgan, and Blackrock. In Crystal & Company’s view, more such litigation is likely. No small factor in this view is the following data point that emerged from an analysis of government filings by Bloomberg BNA: 92 of 100 large investment companies included their proprietary funds in the benefits programs they offered their employees.

Under the Employee Retirement Income Security Act of 1974 (ERISA), companies must design their benefit plans prudently and solely in the interest of participants. Most of these lawsuits charge that by including proprietary funds, these plans engage in improper self-dealing. Some claim that plans hide excessive fees through multi-layering techniques in which one fund invests in another fund managed by the company. Companies can, however, buy Fiduciary Insurance on behalf of employees that will cover the cost of certain ERISA fines, as well as judgments and settlements.

Not all Fiduciary Insurance policies are the same. As always, it is imperative that to check the details of these particular policies as part of an annual review of all insurance coverage.

J. Tyler Entwistle
J. Tyler Entwistle

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