Fiduciary case law provides insight

Most of today's headlines about the fiduciary standard are about deadlines, not details. Will or won't the Securities and Exchange Commission and Labor Department move forward with changes to the fiduciary standard? The devil, of course, is always in the details.

The thing about the fiduciary standard is that it can be dynamic and doesn't always wait for Congress or regulators to act.

Away from the headlines, the fiduciary standard continues to evolve in the way it always has, anchored by core duties of loyalty and care, and tested over time through common law. More so than from legislation and rule making, the fiduciary standard that shapes best practices for financial advisers comes from the courts' interpretation and enforcement of the law.

The most broadly meaningful example of this for advisers is the statutory construction of the Investment Advisers Act of 1940, which doesn't even explicitly mention a fiduciary duty. It took the Supreme Court reading between the lines in SEC v. Capital Gains Research Bureau (1963) to affirm that the broad legislative purpose of the Advisers Act was to substitute a philosophy of caveat emptor with one of full disclosure by investment advisers.

BOUNDARIES CLARIFIED

Likewise, it is under the Employee Retirement Income Security Act of 1974 that we find a robust series of court decisions that clarify the boundaries of the twin duties of loyalty and care that pension advisers must abide by today.

As the highest standard under law, it makes good business sense for advisers to consider ERISA case law when looking for trends and developing a single efficient investment process for all clients, whether institutional or retail.

Clearly, excessive-fee disputes are the hot topic du jour when it comes to fiduciary concerns under ERISA, both in the courts and as mandated by the DOL. The seminal Supreme Court case is LaRue v. DeWolff (2008). LaRue is key because it allowed ERISA plan participants to file claims for individual losses in self-directed accounts where previously, courts limited claims to plan losses. This unanimous Supreme Court decision essentially opened the floodgates for further inquiries into questions regarding investment processes and related costs.

A series of noteworthy class actions in recent years — Abbott v. Lockheed Martin, Braden v. Wal-Mart, Hecker v. Deere, Tibble v. Edison International, and Tussey v. ABB — are examples of excessive-fee cases that have been reviewed by federal appellate courts across the country.

FEES ADDRESSED

The Tibble court addressed both fees and investment selection. The plaintiffs asked the 9th U.S. Circuit Court of Appeals to prohibit any retail share class from being offered as an investment option within a 401(k) plan when a lower-cost institutional share class is available. The court declined to do so, stating that the selection of retail funds was not categorically imprudent, only that Edison and its fiduciaries failed to properly investigate lower-cost institutional share class options as an alternative. Tibble bears watching, since it appears likely the Supreme Court will take up the case.

Tibble and the other cases mentioned above also illustrate the imprecise nature of case law and the need for advisers to reasonably interpret and apply a roughly similar set of facts to their own due-diligence process. Broadly speaking, the takeaway from these cases is that there are no black-and-white prohibitions on cost or investment selection.

You do not always have to select the least expensive investment product. However, given the current focus on costs, you should document, and be prepared to explain in a court of law, the process that you followed and why a higher-cost investment option was in fact a prudent choice.

Stay tuned, because the next enforcement action will provide guidance for fiduciary advisers no matter the jurisdiction. Following best practices is a way to avoid problems in the first place.

Blaine F. Aiken is president and chief executive of fi360 Inc.