Legislative and Judicial Actions
Art by Jonathon Rosen
DOL Tells 401(k) Plans to Skip Private Equity
The Department of Labor’s Employee Benefits Security Administration has issued a statement addressing the appropriateness of private equity investments for defined contribution plans. In it, the agency cautions plan fiduciaries against presuming that, based on its 2020 information letter, the investment class makes a good component for a plan’s designated investment alternative. The statement clarifies that plan-level fiduciaries of 401(k) plans, particularly small plans, typically lack the expertise to make prudent decisions regarding such investments—e.g., how to evaluate and monitor them.
EBSA’s statement addresses stakeholder concerns that the 2020 letter could be read as broadly endorsing the benefits of the investments and downplaying the risks to participants.
The statement says only in limited use cases are the investments appropriate for a typical 401(k). According to Ali Khawar, acting assistant secretary for EBSA, it “emphasizes the limited focus of the information letter as a response to large plan sponsors who offer both defined benefit plans and participant-directed retirement savings plans, and who invest in private equity for their defined benefit plans but do not do so for the participant-directed plans.”
Many DB plans have unwound plan investment exposures to public equities and diverted some risk assets into private equity, real estate and hedge funds for alternative assets exposure. Alternative investments can offer diversification away from volatile equities and may offer superior risk-adjusted returns to public market counterparts.
Supreme Court Rules Against Northwestern
The U.S. Supreme Court has issued a highly anticipated ruling in an Employee Retirement Income Security Act lawsuit known as Hughes v. Northwestern University. The question before the high court was whether participants in a defined contribution ERISA plan had stated a plausible claim for relief against plan fiduciaries. The plan sponsor fiduciaries were accused of breaching ERISA’s duty of prudence by allegedly causing participants to pay investment management and administrative fees higher than those available for other materially identical investment products or services.
Specifically, the plaintiffs in the case sued the defendants for allegedly breaching the duty of prudence in the following three ways: failing to monitor and control recordkeeping fees, resulting in unreasonably high costs to plan participants; offering mutual funds and annuities in the form of retail share classes that carried higher fees than those charged by otherwise identical share classes of the same investments; and offering options that were likely to confuse investors.
Initially, the district court hearing the case granted the respondents’ motion to dismiss—a ruling the 7th U.S. Circuit Court of Appeals affirmed, concluding that the petitioners’ allegations failed as a matter of law. But after reviewing the case and the parties’ oral arguments, the Supreme Court unanimously determined that the 7th Circuit in fact “erred in relying on the participants’ ultimate choice over their investments to excuse allegedly imprudent decisions by [the defendants].”
In its new ruling, which remands the case back to the 7th Circuit, the Supreme Court explains that the act of determining whether petitioners state plausible claims against plan fiduciaries in this case requires “a context-specific inquiry of the fiduciaries’ continuing duty to monitor investments and to remove imprudent ones, as articulated in Tibble v. Edison International.”
The Tibble case, which the Supreme Court ruled on in 2015, similarly involved allegations that plan fiduciaries had offered higher-priced, retail-class mutual funds as plan investments when materially identical lower-priced, institutional-class mutual funds were available.
As summarized in the new ruling, the Tibble order concluded that the plaintiffs in that instance had identified a potential violation with respect to certain funds because “a fiduciary is required to conduct a regular review of its investment.” The new ruling states that Tibble’s discussion of the continuing duty to monitor plan investments applies in the Northwestern case.
Technically, the Supreme Court has vacated the appealed judgment “so that the 7th Circuit may re-evaluate the allegations as a whole, considering whether [the plaintiffs] have plausibly alleged a violation of the duty of prudence as articulated in Tibble under applicable pleading standards.”
The PBGC Bails Out Another Union Plan
Signed into law last March, the American Rescue Plan Act allows for substantial relief payments to be targeted at stressed multiemployer pension plans sponsored by unions. Specifically, the law allows multiemployer plans that are in “critical and declining” status, as defined by prior legislation, to get a lump sum of money to make benefit payments for the next 30 years, or through 2051.
This past December, the first of these payments was approved by the Pension Benefit Guaranty Corporation, going to the Local 138 Pension Plan, based in Baldwin, New York, which covers 1,723 participants working in transportation. The pension plan received, in January, its $112.6 million in special financial assistance.
Alongside confirming that the payment has now gone out to Local 138, the PBGC announced that it has approved a second application for emergency pension funding, this one coming from the Bricklayers and Allied Craftworkers Local 5 New York Retirement Fund Pension Plan.
The Bricklayers Local 5 Plan, which is based in Newburgh, New York, and covers 821 participants in the construction industry, will receive approximately $61.8 million in SFA, including interest to the expected date of payment to the plan.
The plan was projected to run out of money this year and, without the special financial assistance program, would have been required to reduce participants’ benefits to the PBGC guarantee levels upon plan insolvency—roughly 20% below the benefits payable under the terms of the plan. The agency says the special support payment will enable the plan to continue to pay retirees’ benefits without reduction for many years into the future.
T. Rowe Price Agrees to Settle Suit
T. Rowe Price has reached a preliminary settlement agreement with retirement plan participants to resolve a fiduciary breach claim brought against it under the Employee Retirement Income Security Act.
According to the motion for preliminary approval, T. Rowe Price has agreed to contribute a certain amount of funds into a qualified settlement fund. Along with the monetary terms, the preliminary settlement includes a requirement that the firm offer a brokerage window providing access for retirement plan participants to nonproprietary funds. The agreement requires court approval.
The class action settlement covers all participants and beneficiaries in the T. Rowe Price U.S. retirement program who had a balance in a plan account at any time from February 14, 2011, through the date of entry of the order that preliminarily approved the settlement, the memorandum of law states.
The defendants deny all allegations of wrongdoing and deny all liability for the claims in this action.
The plaintiffs’ class had claimed that T. Rowe Price violated its fiduciary duties under ERISA by restricting access to solely T. Rowe Price funds. In the complaint, the plaintiffs accused the plan’s trustees of breaching their fiduciary duties under ERISA by either failing to remedy their predecessors’ breaches or, in some cases, by offering expensive retail class versions of propriety mutual funds and waiting too long to shift to lower-cost versions of the funds.
The defendants argued that plan documents required the plan’s trustees to select an exclusive lineup of T. Rower Price funds. The plaintiffs asked an appellate court to consider whether a document mandating that T. Rowe Price funds be offered in its 401(k) plan violated ERISA. The interlocutory appeal on the document issue was denied.
Importance of Digital Recordkeeping
This past December, the Securities and Exchange Commission announced charges against J.P. Morgan Securities LLC, a broker/dealer subsidiary of JPMorgan Chase & Co. The charges alleged “widespread and longstanding failures by the firm and its employees to maintain and preserve written communications.”
According to a statement from the SEC, JPMS admitted the facts set forth in the agency’s order and acknowledged that its conduct violated federal securities laws. In turn, the company has agreed to pay a $125 million penalty and implement robust improvements to its compliance policies and procedures to settle the matter.
Commenting on the charges, SEC Chair Gary Gensler noted that recordkeeping and books-and-records obligations have been an essential part of market integrity and a foundational component of the SEC’s ability to be “an effective cop on the beat.”
As described in the SEC’s order, JPMS admitted that from at least January 2018 through November 2020, its employees often communicated about securities business matters on their personal devices, using text messages, WhatsApp and personal email accounts. According to the SEC, none of these records were preserved by the firm as required by federal securities laws.
JPMS further admitted that supervisors, including managing directors and other senior supervisors responsible for implementing and ensuring compliance with JPMS’s stated policies and procedures, also used their personal devices to communicate about the firm’s securities business.
The charges and penalty settlement come some three years after a Risk Alert publication issued by the SEC’s Office of Compliance Inspections and Examinations encouraged advisers to “review their risks, practices, policies and procedures regarding electronic messaging.” That guidance, in turn, followed on the heels of various advisory firms, broker/dealers and other financial services providers rolling out new text-based communication solutions to their representatives.
In the Risk Alert, regulators reminded financial professionals of their duties under the Advisers Act Rule 204-2, known as the “Books and Records Rule.” The alert further encouraged firms to proactively consider making “improvements to their compliance programs that would help them comply with applicable regulatory requirements.”
Firms that believe their record preservation practices fail to comply with the securities laws are encouraged to contact the SEC at BDRecordsPreservation@sec.gov.
More CFP Board Sanctions Have Been Revealed
In January, the Certified Financial Planner Board of Standards announced a new set of public sanctions against 20 current or former CFP professionals or candidates for CFP certification. Public sanctions taken by the board, in order of increasing severity, are public censures, suspensions, temporary bars, permanent bars and revocations of the right to use the CFP marks.
Often the public sanctions are the result of “historical investigations” the board opened following background checks conducted on all CFP professionals. In this round of sanctions, 13 of the actions taken by the board resulted from historical investigations.
In one case the board found that a financial services professional prioritized paying for college tuition and expenses over paying taxes to the IRS for six years, resulting in that agency filing federal tax liens against the adviser totaling almost $230,000.
Currently, the adviser is making payments to the IRS pursuant to an installment agreement, but the CFP Board determined that the adviser’s conduct violated Rule 6.5 of the board’s Rules of Conduct. Specifically, this rule provides that a certificate holder shall not engage in conduct that reflects adversely on his integrity or fitness as a certificate holder, upon the CFP marks or upon the profession.
Accordingly, the CFP Board determined to issue the individual an order of public censure.