Much Ado about Excessive Fees in 401(k) Plans

A recent Supreme Court decision could have broad ramifications. On May 18, in Tibble v. Edison International, #13-550, the Supreme Court ruled unanimously in favor of participants in Edison International’s retirement plan who objected to their company choosing mutual funds with excessive fees for their retirement plan.

Edison International offers employees roughly 40 mutual funds to choose from. This case involved a few high-cost funds.  The problem is that the same fund with a lower-cost was not selected which meant the company failed to perform their fiduciary duty.  I believe a company may not be performing its fiduciary duty if the expense ratios of the selected investments are not in the lowest decile of expense ratios in its peer group.

Why the fuss? Fees eat into profits. In fact, according to a 2014 study from the Center for American Progress, a liberal think tank, even a small differential in fees can significantly erode earnings. The Center found that higher fees of just 1 percent a year would erase $70,000 from an average worker’s 401(k) account over a four-decade career.

Prior to the high court’s ruling, a federal appeals court dismissed the Edison employees’ claims under the federal Employee Retirement Income Security Act (ERISA.) The appeals court said the employees’ lawsuit was filed too late to contest the original choice of funds and that corporate executives selecting funds have to reconsider their original choices only if corporate circumstances and market conditions change dramatically.

The Supreme Court disagreed with the appellate decision, insisting that people in charge of selecting investment options, plan fiduciaries, have an ongoing responsibility to monitor and review investments–and to get rid of any poor choices. The Supreme Court held that the lower court had erred “by applying a statutory bar to a claim of a ‘breach or violation’ of a fiduciary duty without considering the nature of the fiduciary duty.” The problem was not with the original selection of the funds, but in their failure to “conduct a regular review of [their] investment,” the “nature and timing” of which the Court holds is “contingent on the circumstances.”

In closing, I’ll share an amusing haiku poem I found while researching this post. Apparently, the Supreme Court Haiku Reporter drafts poems for all Supreme Court’s decisions.  The blog is labeled “Supreme Court Haiku Reporter: The Law of the Land in Seventeen Syllables.”  Here is the poem:

Fiduciary
Has an ongoing duty
To pick funds with care

That’s the gist of the decision, alright!

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