The United States Department of Labor recently commenced legal action against a plan investment manager who failed to diversify plan investments, then sold the portfolio and left the proceeds uninvested for a period of two months, causing $7 million in losses. The complaint  also named members of the Retirement Committee that retained the manager, and particularly cited them for failing to monitor the investment manager and take action to correct this problem. In addition to seeking restoration of plan losses, the complaint asks the court to remove the committee members and appoint an independent fiduciary in their place.

This complaint serves as a forceful reminder to plan committee members that their responsibilities to monitor investment managers are ongoing and don’t end when the hiring process is completed.

What Happened Before?

The Department of Labor filed its suit in Pennsylvania, but there is existing litigation in New York involving these same parties and plans. In that case, a lawsuit was initiated by the plan’s Retirement Committee after it had fired the adviser in 2009, alleging the same fiduciary breaches as the recent Department of Labor complaint.

Earlier this year, the New York court issued a key ruling that the adviser was functioning as an ERISA fiduciary with respect to the plans, and a trial was held over the summer. We are awaiting a decision on the merits in New York. If the New York court orders the manager to make up the $7 million in losses and it does so, it may affect the relief sought by the Department of Labor, as the plans should not have a right to a double recovery.

Asleep at the Switch?

Despite the fact that s the Retirement Committee woke up and attempted to address past wrongs, the lawsuit did not protect these Committee members from being investigated and ultimately sued by the Department of Labor.

Committees need to meet regularly and establish procedures for regularly monitoring the service providers they hire. These plans apparently had an investment policy requiring proper diversification. A regularly scheduled review process would have brought the manager’s inaction to the committee’s attention. But too often, pension plan committees have irregular meetings without formal agendas, and as a result are taking huge risks by demonstrating lack of accountability. The lawsuit also revealed the fact that the retirement committee gave the manager authority before the agreement defining the manager’s obligations was actually finalized, which is another red flag that this committee was not following good fiduciary practices.

Who Else Could Be Liable?

Members of the board of directors of the plan sponsor have a residual fiduciary responsibility to prudently appoint and monitor the named fiduciaries, including committee members, that they hire. Although they were not named in the Department of Labor’s complaint, as we discussed in our recent webinar on “The Intelligent Fiduciary”, the board can never shed all of its fiduciary responsibility by delegation to a pension committee or hired advisors. We can conceive of situations in which the members of the board would also be named as defendants in actions such as this because they failed to adequately supervise the committee.

The Bottom Line

Plan participants suffer most when the supervisors fail to supervise, but the supervisors are also exposing themselves to material liability for losses and lost profits when they fail to review what their service providers are doing. Establishing and following good plan governance practices is the best way to protect everyone involved. Those practices should include requiring all investment professionals who manage plan assets to acknowledge fiduciary status in their service agreements. Establishing a pre-determined schedule to meet with advisors is also a good idea, although it doesn’t relieve the fiduciaries of their duty to review advisor activity between meetings.