Cetera, plan sponsor sued for excessive fees in $25 million 401(k)

The lawsuit has a few rare elements, such as the adviser being named a co-defendant and the small size of the plan

Jul 19, 2016 @ 12:01 pm

By Greg Iacurci

For the second time in two months, a small 401(k) plan is at the center of a lawsuit alleging excessive plan fees. The independent broker-dealer, Cetera Advisor Networks, has been named as a co-defendant — a move experts call a twist of sorts from other 401(k) litigation.

The suit alleges fiduciaries of the $25 million Checksmart 401(k) plan breached their duties under the Employee Retirement Income Security Act of 1974 by allowing “grossly excessive” fees to be charged for investments that delivered “extremely underwhelming performance” over a six-year period.

Plaintiffs also attack the plan's higher concentration of active versus passive funds, saying actively managed and “extremely expensive” mutual funds “rarely add value or can be justified as investment options, especially in the absence of a broad array of passively managed index funds being also made available,” according to the complaint.

A spokesman for Checksmart didn't return a request for comment. A Cetera spokesman declined comment due to the firm's policy of not publicly discussing legal matters.

Jeffrey Goldenberg, partner at Goldenberg Schneider and lead attorney for the plaintiffs, didn't return a request for comment.

For a firm like Cetera Advisor Networks, an independent broker-dealer, to be named as a co-defendant in the lawsuit is a slight irregularity, experts say.

“I haven't seen too many advisers, broker-dealers or other advisory firms named in any of these class actions. It's very rare to see that, at least at this point,” said Duane Thompson, senior policy analyst with fi360 Inc., a fiduciary consulting firm.

Plaintiffs allege Cetera is a “co-fiduciary” under ERISA, which is difficult to assess because there aren't any details in the complaint as to the specific services Cetera provided to the 401(k) plan, Mr. Thompson said, calling it a “facts-intensive review.”

Proving Cetera is a fiduciary to the plan could be difficult under the current five-part test used to assess fiduciary status. That test says to be deemed an ERISA fiduciary, an adviser must satisfy all five components, including that advice be ongoing and serve as the primary basis for an investment decision.

The Labor Department's fiduciary rule for retirement accounts amends this definition to close perceived loopholes in avoiding a fiduciary designation.

“I'm not sure some of the arguments in this lawsuit will hold water,” Mr. Thompson said.

He sees the argument that there are too many actively managed versus passive funds in the plan as a “long shot.”

“It basically assumes that active is excessive or imprudent,” he said. “I think you're comparing apples and oranges when you compare active versus passive investment options in an ERISA plan, because active is always going to be more expensive and ERISA doesn't prohibit actively managed funds.”

The average expense ratio weighted by the 401(k) plan's assets was “an astronomical” 104 basis points, according to the complaint.

For comparison, plans with between $10 million and $50 million in assets pay an average 70 bps and 90 bps for domestic and international equity mutual funds, respectively, on an asset-weighted basis, according to a joint study by the Investment Company Institute and BrightScope Inc.

'UNCHARTED WATER'

“I think we're kind of in uncharted water in terms of having lawsuits filed involving small plans,” Mr. Thompson said.

“Whether it's a trend by the plaintiffs' bar or not is hard to say right now,” he said, in reference to the lawsuit, Enrique Bernaola v. Checksmart Financial et al, filed last Thursday in the U.S. District Court for the Southern District of Ohio.

401(k) lawsuits alleging fiduciary breach for excessive plan fees have proliferated among large corporations that typically sponsor multi-billion-dollar retirement plans. Those cases, however, haven't really trickled down to smaller plans yet.

In perhaps the first of such litigation, fiduciaries of a $9 million 401(k) were sued in May, leading some to call it a harbinger for such legal matters moving down-market. The suit was dismissed in June.

Because some of the larger cases have been lucrative for plaintiffs' attorneys, other firms are beginning to file “copy-cat” cases in smaller markets, according to Jason Roberts, chief executive of Pension Resource Institute, an ERISA compliance consulting firm.

The caveat for these firms, however, is smaller plans aren't as lucrative and these sorts of lawsuits are expensive to litigate, Mr. Roberts said.

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