I’m not sure what this says about me, but every time someone mentions Socrates, I think of Steve Martin’s depiction of the ancient philosopher in his 1980 TV special Steve Martin: Comedy is Not Pretty. (“…And not once did anyone ever say: ‘Socrates, hemlock is poison!’”)
In real life, Socrates usually said things much smarter like:
- “Know thyself”, and
- “The unexamined life is not worth living.”
By definition, the fact that these quotes have held up for thousands of years makes them sound advice for life in general. But it recently occurred to me that there may be a new application for these tenets for defined benefit (DB) plan fiduciaries.
DB plan sponsors are accustomed to bearing certain risks such as investments, interest rates and mortality. (Indeed, the desire to avoid these risks has been a significant driver of defined contribution (DC) plan popularity.) Employers have recently realized, however, that other risks exist beyond the economic and actuarial ones traditionally discussed in risk management conversations.
One of these is the fiduciary risk of fee litigation. In these cases, lawsuits have been filed alleging that insufficient monitoring of retirement plan fees (and payment of perceived excessive fees from plan assets) amount to a breach of the fiduciary duties of loyalty and prudence.
Fee Oversight…or Fee Oversight?
It is extremely unlikely that any plan fiduciary would knowingly agree to paying unreasonable fees for unnecessary services from plan assets. Such alleged breaches almost invariably occur because fiduciaries simply didn’t realize the situation in the first place. They did not know thyselves. Their fees remained unexamined.
But we Americans are a fairly litigious people, and plaintiffs’ attorneys won’t consider whether fiduciaries intended to breach duties or not, only if they appear to in the eyes of the law. Without documentation to demonstrate a process of monitoring fees, fiduciaries have less chance of successfully defending their past actions no matter how well intended.
To assist plan sponsors in appropriately documenting their fees, Principal created a Fee Policy Statement in November 2016 for use by DC plan fiduciaries.
DB Fees Not As Obvious
It makes sense that DC plans were the first to experience fee litigation. Since investment fees and administrative fees can directly affect the account balances of individuals, it was just a matter of time before people began to notice them and question their legitimacy.
On the other hand, DB expenses are much more opaque to plan participants. Plan paid expenses do not directly impact the benefits of individuals, but rather are absorbed by the funding sponsor in the form of lower net returns and higher contributions in the long term. But this opacity doesn’t entirely protect DB fiduciaries from fee litigation.
What are the risks?
DB plans generally require a more complex collection of services than DC plans which can make price benchmarking difficult for fiduciaries. A single plan may require service providers for data management, benefit calculations, participant services, trust and custody of assets, investment advisory services, actuarial consulting and legal document support.
The value of these services to plan participants and the fees they generate can vary widely based on the complexity of the plan and the level of sophistication of each service. Unless fiduciaries can demonstrate that they have considered the level of these fees relative to the quality of services being provided on behalf of participants, they remain at risk.
(Of course, for the purposes of this blog we’ll assume all actuarial fees are reasonable!)
This risk may be less likely to be recognized by participants in the absence of obvious harm to individual benefits. But, being a previously established fairly litigious people, it is probably only a matter of time before resourceful attorneys devise ways to mobilize plaintiffs to investigate DB plan fees more thoroughly.
DB Fee Policy Statement
In response to this latent risk, Principal has introduced a new Fee Policy Statement specifically designed for DB fiduciaries along with an accompanying checklist to help sponsors document their fee management processes, including:
- Amount and reasonableness of fees paid to each provider
- Value of services received
- Method by which fees are paid
Regular documentation forces fiduciaries to examine their plans, to know thyselves. Not only will this deep introspection bring them fulfillment, but it will also protect them from potentially damaging fee litigation.
Heck, it might even save them a few bucks. That Socrates really was a smart guy!
Mike Clark is a fellow of the Society of Actuaries (SOA) a member of the American Academy of Actuaries (AAA), so he knows a thing or two about life examinations.
The subject matter in this communication is educational only and provided with the understanding that Principal® is not rendering legal, accounting, or tax advice. You should consult with appropriate counsel or other advisors on all matters pertaining to legal, tax, or accounting obligations and requirements.
Insurance products and plan administrative services are provided by Principal Life Insurance Company, a member of the Principal Financial Group® (Principal®), Des Moines, IA 50392.