Judge gives blessing to $25M settlement in Vanguard target-date fund tax lawsuit

A federal judge in Philadelphia has granted preliminary approval to a $25 million settlement between Vanguard and investors who alleged the mutual fund giant’s actions left them on the hook unexpectedly high tax bills.

The decision comes after an earlier, larger settlement proposal was rejected for not providing sufficient benefit to investors.

According to reporting by Reuters, US District Judge John Murphy described the revised agreement as “sufficiently fair, reasonable, and adequate” in his ruling on Monday.

This follows his May decision to reject a $40 million settlement, citing concerns that Vanguard could have offset that amount against a related settlement with the Securities and Exchange Commission, ultimately leaving investors no better off after legal fees were deducted.

Addressing that concern, the new $25 million settlement is separate from a $133 million fair fund established as part of Vanguard’s agreement with the SEC earlier this year, according to attorneys representing the investors.

The $100 million-plus SEC settlement announced in January, which included $92.9 million in restitution and a $13.5 million civil penalty, resolved allegations that Vanguard failed to properly disclose potential tax implications of certain share-class movements to investors in its target-date funds.

The litigation centers on Vanguard’s December 2020 decision to lower the minimum investment required for its lower-cost institutional share classes from $100 million to $5 million. That move prompted a significant number of investors to shift from higher-cost retail share classes to the institutional ones.

As a result, retail funds faced large-scale redemptions, forcing them to sell assets and distribute the resultant taxable capital gains to remaining investors – many of whom were not prepared for such tax consequences.

Read more: Vanguard clients decry tax debacle

Target-date funds, which are widely used by retirement savers, are designed to automatically adjust their mix of stocks, bonds, and cash to become more conservative as investors approach retirement. They are also marketed for their tax efficiency, a feature that was called into question by the events at the center of this case.

The SEC’s investigation found that while Vanguard had warned investors that tax liabilities could fluctuate from year to year, it did not adequately disclose the specific risks associated with the mass migration from retail to institutional share classes.

"Materially accurate information about capital gains and tax implications is critical to investors saving for their retirements,” said Corey Schuster, chief of the SEC enforcement division’s asset management unit at the time.

Vanguard, which is headquartered in Valley Forge, Pennsylvania, managed $11 trillion in assets as of July 31. The firm has denied any wrongdoing in agreeing to the settlement, maintaining its commitment to supporting the more than 50 million investors and retirement savers who rely on its funds.

The firm's latest settlement with investors is in addition to other payouts Vanguard has made in response to similar claims, including a separate $40 million class-class action settlement in Pennsylvania last November and a $6.25 million settlement with Massachusetts regulators in 2022.

A final hearing to approve the $25 million settlement reached in Philadelphia is scheduled for January 6, 2026.