At first glance, this looks like many other ERISA fiduciary breach lawsuits. The plaintiffs have the daunting task of working backwards from disappointing investment results to show that fiduciaries breached fundamental ERISA legal duties. The task is easier where there is evidence of self-dealing. It’s harder when the evidence points, at most, to negligent administration.
Klawonn, however, pushes the argument one step farther, claiming that the plan’s basic design amounted to a breach of duty. Is there a legal distinction between bad administration and bad design? If bad design can be a violation of ERISA, the potential for fiduciary liability increases exponentially. That is what all the excitement is about.
Abysmal investment performance
Klawonn is a set designer, who has participated in the Motion Picture Industry Individual Account Plan (MPI Individual Account Plan) since 1992. The Complaint alleges that plan investments consistently underperformed during the decade prior to the filing of the lawsuit, and that this underperformance was the direct result of two flaws: an investment structure that pooled all participant retirement assets together in the same underlying assets; and the fiduciaries’ failure to monitor expenses and make prudent changes.
A case of convergent evolution?
The MPI Individual Account Plan is certainly an oddity to modern eyes. It is a defined contribution plan. Defined contribution plans shift the risk of investment underperformance to the participant, since the employer’s exposure is limited to the periodic contributions called for in the plan documents.
Although it is an individual account plan, it is not a 401k plan. Participants cannot make contributions, nor can they make individual investment decisions about the allocation of their account balances among a menu of investment options. All contributions come from the employers, and plan fiduciaries make all the investment decisions. Some would argue that even though investment risk has been effectively shifted to plan participants, they have no power to mitigate that risk through individual decision-making.
It is also a multiemployer plan. Many multiemployer plans, typically maintained by unions, are quite old, predating the adoption of ERISA in 1974 by many decades in some cases. The basic history of the Motion Picture Industry Plans suggests that this may be the case. Although these plans must have been amended to comply with ERISA and other changes in law, they often retain some traces of their separate evolution, rather like dolphins and sharks. The MPI Individual Account Plan’s unusual investment strategy looks like a relic of that evolution.
But is it a breach of law?
ERISA allows many investment strategies, subject to fiduciary rules
ERISA allows a variety of plan structures, including defined contribution plans that, like the MPI Individual Account Plan, do not permit participants to make investment decisions with respect to the funds held in their own accounts. In addition, ERISA does not require that defined contribution plans pay a certain benefit on retirement. Nor does the law hold fiduciaries liable for failing to reach certain investment benchmarks.
“Abysmal returns” are not, by themselves, against the law. The shifting of risk to participants who have no power to defend themselves against bad decisions seems fundamentally unfair, but again, not necessarily illegal. It seems like the sort of situation that is ripe for federal legislation.
Nonetheless, poor investment performance over a long period of time can be powerful circumstantial evidence of a breach of fiduciary duty under ERISA sections 404(b) and (c), specifically the requirements of prudence and skill. In fact, although Klawonn looks different at the outset because it specifically addresses the issue of investment structure, the challenges the plaintiff faces are very similar to those encountered in other ERISA fiduciary breach lawsuits. It seems all about establishing a link between bad investment returns and fiduciary negligence, if not malfeasance.
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“Plaintiff does not have actual knowledge of the specifics of Defendants’ decision-making processes with respect to the Plan (including Defendants’ processes for selecting, monitoring, and evaluating their unorthodox investment strategy and Defendants’ processes for selecting, monitoring, and removing investments), because this information is solely within the possession of Defendants prior to discovery.”
This is a pretty typical problem. Plan fiduciaries are generally not forthcoming about their internal decision-making processes prior to a lawsuit. This, by itself, might be enough to keep the lawsuit in court, to give the plaintiffs the opportunity to substantiate their claims.