A recent Third Circuit decision (Santomenno v. John Hancock, et. al.) has been described as a win for service providers to ERISA plans. It certainly is important because this decision, along with other fairly recent decisions, helps to illustrate when service provider actions become significant enough to make them fiduciaries. A somewhat less discussed point, however, is that this decision also serves as a reminder to plan sponsors about their fiduciary duties and the need to be vigilant in monitoring fees. This blog will provide a brief summary of the decision and the lessons it offers both to service providers to plans and plan sponsors.

Case Background

In Santomenno, the plaintiffs alleged that John Hancock, a service provider to the 401(k) plan, was an ERISA fiduciary that breached its fiduciary duties by charging excessive fees. John Hancock offered a “Big Menu” of mutual funds that consisted mostly of John Hancock funds but also included a few independent funds. Plan trustees would select funds to create a “Small Menu” of investment options that would be available under their specific plans for plan participants. John Hancock would monitor the funds in the Big Menu and occassionally replace those funds. Additionally, if a particular plan sponsor created a Small Menu that contained at least 19 John Hancock funds, John Hancock would warrant that the Small Menu satisfied ERISA’s duty of prudence. Ultimately, however, the plan sponsors would make the final selection of funds that comprised the Small Menu and negotiate fees with John Hancock.

Under ERISA Section 3(21)(A), a person is a fiduciary with respect to the plan to the extent that such person (1) exercises discretionary authority or control over management of the plan or plan assets, (2) renders investment advice for a fee or other compensation with respect to money or property in the plan, or (3) has discretionary authority over administration of the plan. The plaintiffs argued that John Hancock’s conduct satisfied items (1) and (2) above. The Third Circuit rejected both arguments.

Decisions Relating to John Hancock

First, the plaintiffs argued that John Hancock exercised discretionary authority over plan assets. Specifically, the ability to compose and change the Big Menu provided discretionary authority over plan assets. The Third Circuit rejected this argument. It explained that assembling a menu of options by itself does not create fiduciary status. That is because the trustees have the final say over the actual menu offered to plan participants. The trustees could always reject John Hancock as a service provider and select a different service provider.

Second, the court rejected the argument that John Hancock was providing investment advice. Under current Department of Labor regulations, “investment advice” requires an agreement that the advice provided serves as the primary basis for investment decisions. The DOL has since proposed a less stringent standard, and the plaintiffs held that the less stringent standard should apply. The court held that until the final regulations are changed, the current regulations remain effective.

Lessons for Service Providers

One of the takeaways from this decision is that plaintiffs must show a considerable level of actual fiduciary conduct by service providers in order to have a valid claim for breach of fiduciary duty against them. Mass Mutual provides an example of this type of conduct. In Golden Star v. Mass Mutual Life Insurance Co., the District Court in the District of Massachusetts found Mass Mutual to be a fiduciary. Similar to John Hancock, Mass Mutual offered investment options to plan trustees, from which they could compose a smaller investment menu for their individual plans. Additionally, Mass Mutual had the ability to assess separate management fees and also contracted with third party mutual fund companies to receive “revenue sharing” payments in exchange for adding those funds to the Mass Mutual menu. The court held that these facts showed that Mass Mutual had control over its own compensation. That was a key difference with John Hancock—the plaintiffs were never able to demonstrate that John Hancock had the ability to control the amount of fees it received.

Lessons for Plan Sponsors

This case provides good news for service providers. It also serves as a reminder to plan sponsors that plaintiffs are continuing to allege that the funds under various plans are charging excessive fees. It is important for plan sponsors to remember their own fiduciary duties when it is selecting and monitoring the investment options it is providing to participants. As we have discussed in the past, plan sponsors should take the following steps:

  1. Engage in a thorough decision-making process.
  2. Follow the plan’s investment policy.
  3. Understand the fees and revenue sharing payments under the plan.
  4. Negotiate with service providers for lower fees, rebates of revenue sharing payments, and better share classes of investment options.

The final reminder is that fiduciaries are not required to select funds with the lowest fees. It’s that they must make sure that the fees being charged are reasonable in comparison to what is being provided.