ERISA-Ninth Circuit Rules That Fiduciaries Who Included Retail Class Mutual Funds In a 401(k) Plan’s Investment Menu Were Imprudent For Not Considering The Inclusion Of Institutional-Share Class Alternatives In The Menu

In Tibble v. Edison International, No. 10-56406 (9th Cir. 2013), participants in a 401(k) plan had brought suit under ERISA, alleging that the plan had been managed imprudently and in a self-interested fashion, primarily by including in its investment options certain “retail-class” mutual funds that engaged in revenue sharing (i.e., a mutual fund paying fees to an administrator out of plan assets). The Ninth Circuit Court of Appeals (the “Court”) faced a number of issues on appeal.

The first issue was the statute of limitations that applied to filing the suit. The Court noted that, for claims of fiduciary breach, ERISA § 413 provides that no action may be commenced “after the earlier of”: (1) six years after the date of the last action which constituted a part of the breach or violation, or (2) three years after the earliest date on which the plaintiff had actual knowledge of the breach or violation (six years in certain cases of fraud or concealment). The Court ruled that the act of designating an investment for inclusion starts the six-year period under section 413(1) for claims-as those here- asserting imprudence in the design of the plan investment menu. Here, the plaintiffs did not have the knowledge that would invoke the three-year limitations period.

The next issue was whether the plaintiffs’ claims had to be dismissed under ERISA § 404(c), a safe harbor that can apply to a pension plan that “provides for individual accounts and permits a participant or beneficiary to exercise control over the assets in his account.” The Court said that the 401(k) plan at issue is clearly covered by§ 404(c). That section provides that ” [N]o person who is otherwise a fiduciary shall be liable under this part for any loss, or by reason of any breach, which results from such participant’s or beneficiary’s exercise of control.” The defendants say that this language insulates them from plaintiffs’ claims, because each challenged investment was a product of a “participant’s or beneficiary’s exercise of control,” by virtue of his selection of it from the Plan investment menu. Relying on the preamble to the DOL’s 1992 regulations governing § 404(c), and since the defendants chose the plan’s investment options, the Court concluded that § 404(c) does not preclude a court’s consideration of the plaintiffs’claims, that is, the provision does not protect a fiduciary’s selection of investment options for a plan’s menu.

Going to the merits of the case, the Court ruled:

–against the plaintiffs’ claim that revenue sharing between the retail-class mutual funds and the plan’s administrative service provider violated the plan’s governing document and was a conflict of interest;

–that an abuse of discretion standard of review applied in this fiduciary duty and conflict-of-interest suit because the plan granted interpretive authority to the administrator, so that the administrator’s interpretation of the plan to permit the revenue sharing had to be upheld;

–that the defendants did not violate their duty of prudence under ERISA merely by including in the 401(k) plan’s investment menu (1) certain mutual funds, (2) a short term investment fund akin to a money market fund and (3) a unitized employer stock fund; and
–that the defendants were imprudent in deciding to include the retail-class shares of three specific mutual funds in the 401(k) plan’s investment menu, because they failed to investigate the possibility of institutional-share class alternatives that had lower expense ratios.

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