Another university 403(b) plan has won yet another victory in staving off an excessive fee suit by the Schlichter law firm.
The most recent case[1] involved Cornell University, which had already successfully fended off most of the claims in 2019 in the U.S. District Court for the Southern District of New York, when Judge P. Kevin Castel ruled that the plaintiffs had plausibly argued that it was imprudent to pay annual recordkeeping fees of more than $115 per participant—but presented no evidence that this caused the plan to suffer losses.
At that time Judge Castel also found in favor of the Cornell defendants on charges that specific plan investments underperformed or were too expensive,[2] noting that Cornell’s retirement plan committee reviewed these investments and weighed the pros and cons of retaining them in the plan. Indeed, as recently as May, Judge Castel encouraged the parties to either settle the case or consider waiving the jury trial, citing the impact COVID-19 has had on civil jury trials. The one remaining claim—and the one item that was addressed in the September 2020 settlement (albeit for a relatively small $225,000)—was the issue of the plan’s utilization of retail class mutual funds (TIAA-CREF Lifecycle target-date funds) when less expensive, institutional class shares were available.
However, the plaintiffs here (Cunningham v. Cornell Univ., 2d Cir., No. 21-88, 11/14/23) sought to challenge the district court’s award of summary judgment on two counts alleging that Defendants breached their duty of prudence. They also argued that the district court erred in dismissing one of their prohibited transactions claims for failure to state a claim and in parsing one of their claims.
The Ruling
Wasting no time, Judge Debra Ann Livingston (joined in the opinion by Judges Amalya L. Kearse and Michael H. Park) agreed with the district court’s dismissal of the prohibited transactions claim and certain duty-of-prudence allegations for failure to state a claim—and concluded that the district court “did not err in granting partial summary judgment to Defendants on the remaining duty-of-prudence claims.”
“In so doing,” the court explained, “we hold as a matter of first impression that to state a claim for a prohibited transaction pursuant 29 U.S.C. § 1106(a)(1)(C), it is not enough to allege that a fiduciary caused the plan to compensate a service provider for its services; rather, the complaint must plausibly allege that the services were unnecessary or involved unreasonable compensation, thus supporting an inference of disloyalty.”
‘Absurd Results’
In considering the challenge, the court noted that Section 1108 “provides certain ‘[e]xemptions from prohibited transactions,’ including, as relevant here, § 1108(b)(2)(A), which permits ‘[c]ontracting or making reasonable arrangements with a party in interest for office space, or legal, accounting, or other services necessary for the establishment or operation of the plan, if no more than reasonable compensation is paid therefor.’” Without that exemption, of course, the court noted that otherwise “ERISA would appear to prohibit payments by a plan to any entity providing it with any services,” but “[i]nvoking the precept that ‘[a] statute should be interpreted in a way that avoids absurd results,’ … ‘[s]everal courts,’ including the Third, Tenth, and Seventh Circuits, ‘have declined to read ERISA [in this manner] because it would prohibit fiduciaries from paying third parties to perform essential services in support of a plan.’”
On the other hand, the court noted that two other federal district courts—the Eighth Circuit, and more recently the Ninth Circuit “have embraced the expansive reading of the statute that these other circuits have rejected as absurd”—the latter case where the court characterized as a “literal reading” of §1106(a)(1)(C).
The appellate court noted that the district court had gone with the less “expansive” reading and “instead concluded that to state a claim under this provision a complaint must allege that the challenged transaction involved ‘self-dealing or disloyal conduct’” before concluding that the plaintiffs had failed to make a sufficient case based on that threshold.
The Rationale
The plaintiffs here, as might be expected, wanted the court to adopt the more expansive view—and they did, but only in part. “While we agree,” the court explained, “that the language of §1106(a)(1) cannot be read to demand explicit allegations of “self-dealing or disloyal conduct,” we do not agree with the Eighth Circuit that, at the pleadings stage, the §1108 exemptions should be understood merely as affirmative defenses to the conduct proscribed in §1106(a). To the contrary, we conclude that at least some of those exemptions—particularly, the exemption for reasonable and necessary transactions codified by §1108(b)(2)(A)—are incorporated into §1106(a)’s prohibitions.”
Said more succinctly, the court noted that in order to make that case, “a complaint must plausibly allege that a fiduciary has caused the plan to engage in a transaction that constitutes the ‘furnishing of . . . services . . . between the plan and a party in interest’ where that transaction was unnecessary or involved unreasonable compensation.” And in making that case, “the burden of raising those exemptions lies, at least in part, with the plaintiff.” More precisely, “while the fiduciary retains the ultimate burden of proving the appropriateness of the transaction pursuant to §1108(b)(2)(A), it falls on the plaintiff in the first instance to allege—and, at the summary judgment stage, to produce evidence of—facts calling into question the fiduciary’s loyalty by challenging the necessity of the transaction or the reasonableness of the compensation provided.”
Burden of Proof
As for the case at hand, the court commented that “plaintiffs allege simply that ‘[b]ecause TIAA and Fidelity are service providers and hence ‘part[ies] in interest, their ‘furnishing of’ recordkeeping and administrative services to the Plans is a prohibited transaction unless Cornell proves an exemption.’” However, the court said that “as we have explained, it falls on Plaintiffs—not Cornell—to allege in the first instance that the transactions were unnecessary or that the compensation was unreasonable. Plaintiffs have done neither.”
In considering another allegation, the court noted that “while Plaintiffs have alleged several forms of procedural deficiencies with regard to recordkeeping, their complaint does not plausibly allege that the compensation was itself unreasonable.” Turning to the claim that Cornell failed to seek bids from other recordkeepers and neglected to monitor the amount of revenue sharing received by TIAA-CREF and Fidelity, the court noted “such process-oriented allegations may well be sufficient to state claim for a breach of the duty of prudence, as the district court here found, but they cannot sustain a claim pursuant to § 106(a)(1)(C) and §1108(b)(2)(A).”
Describing as “closer, yet still insufficient” were claims that the plan paid “substantially more than what the Complaint identified as a ‘reasonable recordkeeping fee.’” Even with the examples provided, the court noted that “it is not enough to allege that the fees were higher than some theoretical alternative service.”
As have other such cases, this court noted that “whether fees are excessive or not is relative ‘to the services rendered,’ and it is not unreasonable to pay more for superior services. ‘Yet, here, Plaintiffs have failed to allege any facts going to the relative quality of the recordkeeping services provided, let alone facts that would suggest the fees were ‘so disproportionately large’ that they ‘could not have been the product of arm’s-length bargaining’”—and affirmed the district court’s dismissal of that claim as well.
The court also found that, even though the district court felt that sufficient evidence had been presented to move past summary judgement on the issue of timing in moving to a less expensive share class, that the plan had attempted to make the move sooner, but had been rebuffed in those efforts—and affirmed the grant of summary judgement on that claim as well.
What This Means
While this case landed on the less “expansive” view—which is, at present, a majority read among the federal district courts—it should serve as a reminder that it is not a uniform conclusion, including the very recent decision in the Ninth Circuit involving AT&T. Further, this court has actually gone with a standard in something of a middle ground between those other circuits—so now we (potentially) have yet a third standard to consider—which arguably serves neither the plaintiffs’ bar nor plan fiduciaries very well. All in all, this might well be heading for a ruling by the United States Supreme Court to resolve the split.
Additionally, considering that the initial suit was filed more than seven years ago—and that there have been a series of interim filings and decisions in that interim—a reminder of the cost in time and resources that this litigation requires—all the moreso when the standards for establishing a case, or defending against it—are uncertain.
Footnotes
[1] The suit—one of the first of the genre of 403(b) university excessive fee suits filed back in 2016—was filed on behalf of some 28,000 current and former plan participants (represented by the persistent law firm of Schlichter Bogard & Denton LLP) in Cornell’s 403(b) plan, a plan that, as of December 2014, had $1.9 billion in assets.
[2] More specifically, the Complaint alleged that Cornell and its appointed fiduciaries violated their duties of prudence and loyalty under ERISA by: (1) offering certain products—namely, the CREF Stock Account and Money Market Account, as well as the TIAA Traditional Annuity (“Count I”); (2) failing to monitor and control recordkeeping fees (“Count III”); and (3) failing to monitor and offer appropriate investment options (“Count V”). Plaintiffs also brought prohibited transactions claims on each of these three theories (“Counts II, IV, and VI,” respectively). And in Count VII, Plaintiffs brought a claim premised on Cornell’s and Opperman’s general failure to monitor the appointed fiduciaries.
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