Does It Spark Joy?

 In Plan Talk, Podcast, Retirement Planning & Wealth Management

The KonMari Method™ – an organization technique developed by Marie Kondo that has recently achieved cult status – encourages people to discard any belongings that do not spark joy. Retirement Director Ben Rizzuto suggests this approach could be used to clear up some of the legal and regulatory clutter surrounding 401(k) plans, and offers strategies to help plan sponsors ensure participants’ needs are being met.

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Ben Rizzuto, CRPS®

Does It Spark Joy?
Ben Rizzuto

Key Takeaways

  • The Employee Retirement Income Security Act of 1974 (ERISA) sets minimum standards for qualified retirement plans, but the definition of “reasonable” fees and expenses is not always black and white.
  • Several key court cases in which plan sponsors were charged with violating their fiduciary duties have produced decidedly different outcomes, bringing us no closer to a clear definition of reasonability.
  • Despite the uncertainty, fiduciaries can use existing guidelines to perform a thoughtful and well-reasoned “tidying up” of their fund lineups to ensure each fund is meeting the needs of plan participants.

Ben Rizzuto: Welcome to Plan Talk from Janus Henderson Investors. I’m Ben Rizzuto.

If you’ve watched anything on Netflix of late or if you’ve searched for tips on Spring Cleaning and de-cluttering you are most likely familiar with Marie Kondo and her organization and simplification system known as the KonMari Method.

If you are not familiar with this Japanese dynamo who has reached cult status with people around the world, she has developed a structure to help people tidy their houses and become more organized using a series of rules, guidelines and questions.

One of the main questions that comes up during the tidying process is… “Does this item spark joy?”

If the item sparks joy, it can stay.

If the item does not spark joy, you thank it for its service and then summarily throw it in the trash.

That’s right, you hold that old pair of socks that your big toe has started popping out of, look at them, and thank it for the service they have provided to you and your feet and then send it on its way.

Thinking about this question… does it spark joy? I began thinking about 401(k) plans and if they spark joy for those of us who work in the retirement plan industry. Now, don’t worry, I’m not saying that the 401(k) plan doesn’t spark joy and we should get rid of the whole system. We can’t do that. Retirement plans serve a very important role in the lives of all of us and while some of the things that go along with retirement plans aren’t particularly fun or joyful, I think it is important to study the grueling parts and issues in order to better meet our fiduciary duties, improve plans and improve participants’ lives. If we can learn from some of the difficult issues like retirement plan litigation or regulations, we can tidy up our plans and improve things. So today we’ll cover some legal and regulatory clutter which I think we can learn from.

Let’s start with ERISA, specifically the language that makes up this regulation. Again, not exactly fun, but most definitely important.

I want to start with the idea of reasonability, specifically the reasonability of fees and expenses. I bring this up because I have been getting a lot of questions from advisors of late regarding this idea of reasonable fees.

Let’s start with a few products to get you thinking about costs and reasonability.

These days, if you are a sneaker aficionado, you might say, yes, paying $500 for a pair of Yeezy sneakers is reasonable.

On the other hand, some might say paying more than $100 for a pair of jeans is completely unreasonable.

$20 for a bottle of wine… reasonable.

$2 for a cup of coffee… these days, seems pretty reasonable.

Over 99 cents for an app… if you ask me… unreasonable.

38 basis points for large-cap growth fund… that’s reasonable.

74 basis points for a large-cap growth fund… also reasonable.

1.05% for a large-cap growth fund… sure, that sounds reasonable too.

And therein lies the rub. In many cases, reasonability like beauty is in the eye of the beholder.

We have reached a point in this industry especially when it comes to mutual fund fees where “reasonable” is a very difficult idea to grasp. Those three funds all cover the large-cap growth asset class, they are all highly rated, but they are priced differently, and in this world of excessive fee litigation how can it be that a fund that is 38 basis points or 74 basis points or 105 basis points, how can those ALL be reasonable?!?!?

Well, all of those things that I just listed, the sneakers, the cup of coffee and those three mutual funds, they are all reasonably priced relative to the market, and when it comes to the mutual funds and viewing those funds through the lens of ERISA, they continue to be reasonable. Why… well that depends on you, that depends on the experience you and your participants gain from those funds.

Now, don’t worry, I’m not going to get all Marie Kondo on you and ask you to go through your investment lineup and ask yourself does this mutual fund spark joy, and if it doesn’t, thank it for its service and then remove it from the lineup.

No, we aren’t going to do that, and while we aren’t going to KonMari your plan lineup, I do think it might actually serve as an interesting template or better yet a prudent fiduciary practice to go through your plan lineup annually and make sure funds are reasonable, they do what they’re supposed to do and they provide a positive experience for your participants.

And in asking those questions, it really gets to the idea of “Is it in best interest of the plan to select the least expensive fund for its lineup?”

Is lowest cost fiduciarily best.

ERISA

To work through this problem, let’s start with what ERISA actually says as far as reasonable fees.

If you go to section 1104(a) you’ll find the Prudent Man Standard of Care, which reads… “a fiduciary shall discharge his duties with respect to a plan solely in the interest of the participants and beneficiaries and –

  • (A) for the exclusive purpose of:
  • (1) providing benefits to participants and their beneficiaries; and
  • (2) defraying reasonable expenses of administering the plan;

And that’s it… just “reasonable expenses.”

Now if you look up reasonable you can find definitions like:

  • Being in accordance with reason
    or
  • Not extreme or excessive
    or
  • Being moderate and/or fair

So that provides a little bit of guidance but there is no hard and fast number or range, so the idea of defraying reasonable expenses is still a little murky.

The Courts

OK, so if we’ve been given these general guidelines from ERISA the next place we might look is to see how the courts have viewed the idea of “reasonable fees.” As we know, there have been dozens of lawsuits brought against retirement plan sponsors over the past decade and while we have seen issues such as investment policy statement violations, improper investments and using plan assets to benefit the company, the main issue that has been brought against plan fiduciaries has been that of excessive fees. In many of these cases we have seen plan sponsors simply settle out of court and then agree to move to a lower-cost share class, or move to something like managed accounts or CITs.

These settlements may lead one to say that higher fees are simply worse, but remember in many of these cases that’s not what got these companies into trouble. The issue that got companies into trouble was that while less-expensive share classes may have been available, the investment committee did not have a consistent process in place to review what share classes were available and/or in the best interest of the plan and its participants, nor did they document the reasoning that supported their decisions.

What is possibly more interesting and possibly more difficult is the active/passive debate within plans. So let’s take a look at a few cases to see how some specific decisions have been worded.

First, in the Hecker v. Deere case, which goes back to 2009, plaintiffs alleged that the company violated their fiduciary duties under ERISA by providing investment options that required the payment of excessive fees and costs. This case was dismissed by the 7th Circuit Court and in its decision the court noted that the plan offered a sufficient mix of investments so the inclusion of allegedly expensive funds did not constitute a fiduciary breach. Plus, it said that a plan trustee does not have a duty to “scour the market to find the fund with the lowest imaginable fees.” Along with that, it DID say that trustees DO have a duty to determine whether the fees being incurred for the various services provided are reasonable and appropriate, but did in fact go on to note that even low-cost investments might be plagued by other problems.

A second case is that of Taylor v. United Technologies Corporation. Here, plan fiduciaries were originally sued based on the fact that actively managed mutual funds were part of the plan menu and those funds led to participants incurring excessively high fees. The court rejected this argument, saying that the higher fees associated with those actively managed mutual funds did not make them inappropriate for use in the 401(k) plan.

A third and final case is that of Patterson v. The Capital Group Companies, where this idea is revisited. Here the judge noted, “Unquestionably, fiduciaries need not choose the cheapest fees available to the exclusion of other considerations…” Along with that the court referenced Tibble v. Edison by saying that “There are simply too many relevant considerations for a fiduciary, for that bright-line approach of prudence to be tenable.”

DOL

So that’s what the courts have said in the past but it’s also of course important to look at what the DOL has said on the subject.

There are of course several Field Assistance Bulletins that have been published by the DOL regarding plans and fees but I think an important place to start is in a 20-page paper entitled “Understanding Retirement Plan Fees and Expenses.” Within it the DOL spends much of those 20 pages describing different types of investments, services and who pays them. Then as we get toward the end of the paper the DOL notes that “Fees and expenses are one of several factors to consider when you select and monitor plan service providers and investments. The level and quality of service and investment risk and return will also affect your decisions.”

To put it simply, the DOL has not specified that any particular investment product or category is illegal or per se imprudent. In fact it does not limit the type of investment strategy that can be used in a plan menu. All it requires is that fiduciaries engage in a reasoned decision-making process.

Now, looking at all of this information I don’t think we’re any closer to being able to develop a black and white definition of “reasonable expenses,” but that is the point. It’s different for everyone. The two things that I think we can take away from all this is that 1) fees are certainly one metric to be used in selecting an investment but they are one among many, and 2) it is important to and probably a lot easier to put together a nice, black and white process around plan fees versus trying to figure out what number is reasonable and what number is not.

Actual Knowledge

From the idea of reasonability, let’s move on to another term that has come up recently that sits squarely within the gray area. It arose in the Sulyma v. Intel Corporation case, which was recently remanded back to district court by the Ninth Circuit Court of Appeals. In doing this, the court held that having access to documents disclosing an alleged breach of fiduciary duty does not sufficiently trigger the three-year statute of limitations and that is to say plaintiffs did not have quote unquote “ACTUAL KNOWLEDGE” of the fiduciary breach. That’s right, the court said that the limitations period in breach of fiduciary duty cases begins to run once a plaintiff is actually aware, that is to say has “actual knowledge” of the defendant’s actions and that the actions were imprudent. So what does actual knowledge mean?

Well, the court noted that “…‘Actual knowledge’ must mean something between bare knowledge of the underlying transaction, which would trigger the limitations period before a plaintiff was aware he or she had reason to sue, and actual legal knowledge, which only a lawyer would normally possess.”

The court went on to explain that, “The key is that the limitations period begins to run once the plaintiff has sufficient knowledge to be alerted to a particular claim. And in reaching this holding, the court emphasized that for a plaintiff to have sufficient knowledge to be alerted to their claim, the plaintiff must have actual knowledge, rather than constructive knowledge.”

Reading through that decision I am reminded of a joke an ERISA lawyer once told me. He asked “What does ERISA stand for?” Every Ridiculous Idea since Adam. Along with that I will say that this certainly does not spark much joy for me.

But, while I’m not sure if the court’s description of what entails actual knowledge is at this point helpful to us from a practical standpoint, I think following this case will be important since it should give plan sponsors a better idea of what type of documents and disclosures they need to send to participants and when they should send them.

Finally, from these terms that are not definitive I want to finish up with one court case where we have seen some certainty.

The case is one against Pioneer Natural Resources and its $500 million plan. If you’re not familiar with the case, it was filed back in July 2017 and alleged that the plan sponsor failed to offer the lowest share class for mutual funds in their lineup, thus failing to ensure reasonable fees and causing participants to pay excessive costs for funds. Along with that it was alleged that the plan sponsor failed to remove poorly performing money market funds when a stable value fund was available, which also caused participants to lose money. Well, the parties have now reached a settlement where the company has agreed to deposit $500,000 in an interest-bearing account from which participant recoveries, legal fees and administrative expenses will be paid.

What I think is most noteworthy here is the plaintiffs’ counsel in this case is Franklin D. Azar, who is a personal injury lawyer who specializes in motor vehicle accidents, defective products and slip-and-fall accidents. While Mr. Azar is a relative newcomer to ERISA litigation, he actually has brought cases against Nationwide Life Insurance, Voya Financial, CenturyLink, and the trustees of a $922 million union retirement plan. The reason I bring this up is this… if the local personal injury lawyer is going to start BRINGING AND WINNING these cases… what’s to stop other lawyers from bringing these cases against other, smaller plan sponsors.

Oh, and one last thing. I mentioned the settlement here was $500,000, but after legal fees, participant awards and other expenses a grand total of $240,000 will be divided between the 8,000 class members. That means each class member can expect to receive an average of $30.

So my question to you is this: Is this reasonable? $30 per participant. Will thirty extra dollars spark joy? Will it bring retirement security? I’m not sure it will but we’ll continue to work through questions like this and others in the next episode.

In the meantime, be sure to subscribe to the Janus Henderson Radio channel wherever you access your podcasts and be on the lookout for our next Top DC Trends and Developments Guide where more regulatory and legal updates can be found.

Until then, this is Ben Rizzuto and you’ve been listening to Plan Talk.

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