The recent well-publicized announcement of lawsuits against 403(b) plans of Duke, Yale, NYU, Vanderbilt, and other universities opens a new chapter in ERISA litigation over excessive plan fees. We have reported on this type of litigation before. Responsible fiduciaries of nonprofit entities should take the same steps to monitor, reduce, and document the fee structure in their 403(b) plans as responsible fiduciaries of 401(k) plans have been doing over the last ten years in order to satisfy their ERISA fiduciary duties.

For a decade now, the plaintiff’s bar has been bringing actions by plan participants against fiduciaries of 401(k) plans for breach of ERISA fiduciary duty, alleging that they have been paying excessive fees out of their retirement assets because of faulty oversight of plan investments.  For example, some plans maintained higher fee “retail” mutual funds when lower cost institutional shares were available. Other lawsuits highlighted the lack of low-cost index funds.  Most of these cases have not gone to trial, but there have been some large settlements. For example, Boeing reportedly paid $57 million for its 401(k) plan, and Novant Health settled for $32 million in a case involving a non-profit hospital’s 403(b) plan. 

Commentators have predicted the 403(b) plan market would be vulnerable to similar lawsuits, given that 403(b) plans have traditionally carried higher costs than 401(k) plans.  There are several reasons for the higher-cost market—lack of intense competition on low-cost products; a more “hands-off” attitude by plan administrators toward products that are traditionally marketed directly to employees; and many investment funds being offered within annuity products. Until 2008, even large 403(b) plans could file very simplified Form 5500s compared to the requirements for 401(k) plans, with no financial information or plan audit, or schedules showing fees paid to insurers and plan providers.

The latest 403(b) cases have been brought by the same law firm that pioneered the 401(k) fee litigation. The lawsuits allege that the fiduciaries were imprudent by offering high-cost funds when lower-cost shares of the same funds were available. They also allege that by offering dozens of duplicate investment choices, the fiduciaries failed to use the bargaining power available to large plans to obtain much lower fees by concentrating on fewer large-volume funds. For example, the Duke plan allegedly had over 400 investment choices. Some plans also had multiple record keepers, probably because they tend to retain “legacy” providers that employees were familiar with.

There is nothing inherently wrong with offering higher-cost actively managed funds (or higher-cost third party administrators). The 401(k) cases have shown that if there is a problem, it is often the lack of a fiduciary process to monitor and benchmark fees against available alternatives. Also, some plans also fail to negotiate or perform RFPs to seek lower cost alternatives for service providers and investment options with identical or better performance. Fiduciaries of 403(b) plans therefore should establish best practices, including:

  1. Identify the plan fiduciaries (often an administrative or investment committee).

  2. Have a written investment policy covering the type of investment funds to be offered and performance benchmarks.

  3. Regularly review plan investment fees and expenses for reasonableness and value provided, and document the decision to retain or change funds.

  4. Consider different plan design options, such as using custodial accounts with mutual funds instead of annuity products.

  5. Conduct periodic RFPs for your plan service providers. Even if the plan intends to retain the current provider, merely responding to an RFP will often induce the provider to lower the fees they charge to the plan.

  6. DOCUMENT ALL OF THE ABOVE in regular meeting Minutes.

  7. Alternatively, consider hiring an “ERISA 3(38)” fiduciary, to do the monitoring, negotiating, and fund selection for the plan (for a fee).