Interest fee

Small (more) targeted plan with excessive fees

Another 401(k) has been accused of breaching fiduciary duties — and failing to leverage its ‘enormous bargaining power’ — even though it’s a smaller plan than most caught in the line of sight.

The plan in this case is 99 Cents Only Stores, LLC (also branded “The 99 Store”), a US deep discount retailer operating primarily in California and the Southwest – a plan which, as of December 31, 2020, had (only) 2,715 participants with account balances and $69,907,378 in assets.

The suit (Aquino v 99 Cents Only Stores LLC, CD Cal., No. 2:22-cv-01966, complaint dated 3/25/22) was filed in the U.S. District Court for the Central District of California by a group of participating plaintiffs (Salvador Aquino, Susan Ford, Monicalayle Garcia, Barbara Kraus, Martha Lopez, Francisco Martinez, Megan Sargent) — and yes, despite the plan’s relatively modest size (by standards in this vein of litigation, which almost always exceed $1 billion), the suit argues that “The Plan has enormous bargaining power to demand low-cost investment management and administrative services and high-performance, low-cost investment funds.

Indeed, ultimately, the allegations here were identical to those made in this class of litigation, specifically that the “plaintiffs suffered harm in fact by investing in the higher cost mutual fund stocks when lower cost shares of the same fund were available for the plan; paying excessive fees to covered service providers and investing in the most expensive share class of Fidelity’s conflicting target date funds.

Plaintiffs here make a statement that, while not unprecedented, “defendants have elected to accept the benefits of federal and state tax deferrals for their employees through a 401(k) plan, and owners and managers of defendant organizations benefited financially for years from the same tax advantages. They go on to assert, however, that “Defendants failed to follow ERISA’s standard of care. This lawsuit is being filed after extensive consultation with experts and publicly available documents to restore the benefits taken from plan participants by the defendants. »

Specifically, the suit claims that “99 CENTS and its individual members breached their fiduciary duty of care and loyalty to the plan” by:

1. offering and maintaining higher cost classes of shares when otherwise identical lower cost class shares were available, resulting in participants paying unnecessary additional operating expenses which not only did did not add value to participants, but resulted in an unjustifiable loss of compound returns;
2. Overpay Covered Service Providers by paying variable direct and indirect compensation costs through revenue sharing agreements with funds offered as investment options under the Plan;
3. not engage in a bidding process by submitting a request for proposal to multiple service providers, including registrars, shareholder services and financial advisors;
4. Recklessly choosing and holding expensive funds that did not meet or exceed industry benchmarks;
5. using the Registrar’s own proprietary target date funds, which also served as the Plan’s Qualified Default Investment Alternative (QDIA); and
6. not offer passively managed index funds as opposed to actively managed funds.

While most such lawsuits criticize revenue sharing practices (but acknowledge that there is no inherent illegality in employing them), this lawsuit asserts that “the charges of revenue sharing for Mutual fund investors are always more costly to participants than revenue sharing fees. is intended to pay. They continue that, “Since costs are inversely correlated to a fund investor’s returns, when comparing share classes of the same SEC-registered mutual fund, Defendants’ shares were even more erosive to the growth of the trust (and in turn the account of the participants/beneficiaries values) due to the loss of additional compound growth. Based on this premise, and “given the many options available to pay providers of services, Defendants should have carefully investigated and entered into a package or capped agreement with Fidelity that did not result in fees that reduced participants’ aggregate returns.”

The lawsuit also asserts that, “Because revenue-sharing payments are asset-based, they bear no relation to the actual cost of providing services or the number of plan participants and may result in the payment of unreasonable record keeping fees. In other words, archivists (or any other CSPs) receiving unchecked revenue-sharing compensation accumulate large, ongoing pay increases simply because participants set aside money every two weeks for retirement. – and that every dollar contributed “triggered additional revenue sharing revenue without the additional fees required. labor.”

To further support their argument, the lawsuit cites that “defendants included Eaton Vance Atlanta Capital SMID-Cap Class A shares (“Eaton Fund”) as an investment option available to participants in 2016″ , while the information provided in the 2016 annual prospectuses “clearly shows a significant difference in investment costs and returns between the class A and the institutional share class”, in particular that the Eaton Fund had a class of R6 shares available for 88 basis points per annum or 0.88%, but the defendants chose “A” share classes which cost 122 basis points or 1.22%.

As if that weren’t enough, the suit notes that “while the annual expense difference is 0.34%…the cumulative return difference is more than double.” Plaintiffs also assert here that “analysis of each attribute of the different share classes reveals that there is no difference between the share classes other than costs and performance returns, all borne by the participants”, more precisely that the share classes are all “shared”. same manager, manager start date, manager tenure, equity, bond, cash allocations, same percentage holdings, number of holdings, turnover rate, average price/earnings ratios, ratios price/book value and average market capitalization.

And while it’s not uncommon for litigation to challenge the use of actively managed funds rather than passive alternatives, the plaintiffs note here that while “it is generally stated by defendants in 401(k) lawsuits that the ERISA does not require trustees to choose index funds and they argued that comparing actively managed funds to passively managed funds is inappropriate because it is an “apples and oranges comparison”. While the first is true, the second is not.These plaintiffs argue that an active manager can have varying degrees of flexibility when it comes to the investment decisions they make – “like buying or selling a stock (or a bond), portfolio weighting and holding period, but they draw from the same pool of stocks (or bonds). Further, they argue that while a retail investor can consider the merits of active and passive funds, “plan trustees held to a prudent expert standard do not have the luxury of opting for actively managed funds at the ‘exclusion of their passive counterparts’. Instead, they argue that to select an actively managed fund, “a fiduciary must answer, and continually answer, what benefit derives from the higher costs of an active manager.”

And finally, plaintiffs argue that a conflict of interest is “laid bare” in this instance where the registrar used its own proprietary target date funds, which also served as a qualified default investment alternative. (QDIA) of the plan. “The conflict has been exacerbated by Fidelity’s use of its higher cost mutual funds with more expensive share classes, which have returned more value to Fidelity.” In fact, the lawsuit says that “there appears to be no reasonable justification for the millions of dollars collected from plan participants that ended up in Fidelity’s coffers.”

Oh, the plaintiffs in this case are represented by Tower Legal Group and Christina Humphrey Law PC, two small California employment law firms.

Will these arguments be convincing for the court? We will see.