Compliance News | January 25, 2022
In a unanimous decision, the U.S. Supreme Court ruled that a fiduciary’s duty to monitor investments in participant-directed 403(b) plans means the plan cannot include non-prudent investments.
Although the case involved 403(b) plans, the same prudence standard applies for 401(k) plans.
The decision has implications for pending lawsuits in similar cases. It’s likely to spur additional legal challenges by participants to DC plans’ investment options.
Sponsors of public sector 403(b) plans may be interested in the decision even though they’re not subject to ERISA, particularly if the law in their state requires fiduciaries to act prudently.
Northwestern University offered several 403(b) plans. The participants sued, alleging that some of the plans’ options were not prudent because of their costs.
Both the trial court and the Seventh Circuit Court of Appeals accepted Northwestern’s argument that even if the participants’ claims were true (i.e., some options were not prudent), there was no violation of ERISA’s prudence standard because the plans also offered a diverse menu of investment options that the plaintiffs conceded were prudent.
Both courts dismissed the case because they determined that the plaintiff’s allegations failed as a matter of law (because even if the allegations were true, there was no ERISA violation).
The Supreme Court’s decision in Hughes vs. Northwestern rejects the Seventh Circuit’s test for prudence and returns the case to the lower courts for reconsideration based on the Supreme Court’s test favoring the participants.
Relying heavily on its 2015 decision in Tibble vs. Edison, Int’l, the Supreme Court held that:
The Supreme Court reasoned as follows:
In Tibble, this Court explained that, even in a defined-contribution plan where participants choose their investments, plan fiduciaries are required to conduct their own independent evaluation to determine which investments may be prudently included in the plan’s menu of options…. If the fiduciaries fail to remove an imprudent investment from the plan within a reasonable time, they breach their duty.
For more than a decade, participants of DC plans that offer self-directed investments have brought lawsuits challenging investment options and/or fees. The flood of these types of participant suits has been costly to plans.
There are numerous pending cases that have been awaiting the Supreme Court’s decision in Hughes vs. Northwestern. Now that the decision has gone in favor of the participants, we can expect to see settlement of many of the pending cases and for participants to bring many more cases challenging investment options in self-directed DC plans.
Sponsors of 403(b) and 401(k) plans should consult with their attorneys as how best to address current plan investment options in light of the Supreme Court’s January 24, 2022 decision.
This page is for informational purposes only and does not constitute legal, tax or investment advice. You are encouraged to discuss the issues raised here with your legal, tax and other advisors before determining how the issues apply to your specific situations.
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