The Fiduciary Who Chose the Share Class
You serve as a 3(38) investment manager for a 200-participant 401(k). The plan offers 14 funds. You recently moved the plan into the cheapest share class of the recordkeeper's proprietary target-date series and two index funds. A participant complaint alleges the plan paid excessive recordkeeping fees and that the target-date series underperformed a lower-cost competitor. The plan's total expense ratio is now 0.38%, down from 0.61% two years ago, and recordkeeping is paid from plan assets at $42 per participant per year. The former advisor was paid a 12b-1 fee that was eliminated when you moved the funds. The plan committee asks you to prepare a defense and to explain your process.
1. Explain the fiduciary standard that applies to your fund selection and fee decisions, and how your documented process supports the defense.
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As a 3(38) investment manager you are an ERISA fiduciary acting with the care, skill, prudence, and diligence of a prudent person familiar with such matters, and you must act solely in the interest of participants (exclusive purpose). The test is process, not outcome - the question is whether a prudent, informed process was followed, not whether the chosen fund later outperformed.
Your defense rests on documentation showing:
- A prudent, systematic process for selecting and monitoring the funds (criteria, data sources, committee/manager review cadence).
- Reasonable fees - total plan cost fell from 0.61% to 0.38%, and the 12b-1 fee was eliminated, which is strong evidence of a fee-conscious process.
- Benchmarking of both investment performance and recordkeeping fees against comparable plans.
- Consideration of share classes - moving to the cheapest available share class of the same series is exactly what a prudent fiduciary does.
Underperformance of one fund versus a competitor is not a breach if the selection was prudent when made and monitored thereafter. Courts apply a deferential standard to fiduciary judgments made with proper process.
2. The complaint targets the $42 per participant recordkeeping fee. How should you evaluate and document the reasonableness of that fee?
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Reasonableness is judged by the services rendered for the fee, not the dollar figure in isolation. Document:
- Scope of services - what the $42 buys (recordkeeping, testing, participant website, call center, statements, loan administration, compliance support).
- Benchmarking - obtain comparable quotes or benchmarking data for plans of similar size and complexity. A 200-participant plan paying $42/participant ($8,400 total) is generally within a reasonable range, but the analysis should be on file.
- Revenue-sharing offset - confirm whether any fund revenue sharing offsets the fee. You eliminated the 12b-1 fee, so there should be no hidden revenue sharing inflating cost; document that.
- Periodic re-quote - show the committee solicited or reviewed competitive proposals within a reasonable cycle.
- All-in cost - present total plan cost (fund expense ratios plus recordkeeping) so the committee sees the whole picture, since a low recordkeeping fee can mask high fund expenses and vice versa.
The defense is a documented, benchmarked, periodically re-evaluated fee review - not a claim that $42 is 'low.'
3. The committee asks whether the target-date underperformance alone creates liability. Answer and note one governance step to reduce future risk.
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No. Underperformance versus a competitor, standing alone, does not establish a breach. Fiduciaries are not insurers of investment results. Liability turns on whether the selection and ongoing monitoring were prudent. A target-date fund that lags a lower-cost peer is a monitoring trigger, not automatic liability - you must show you reviewed it against appropriate benchmarks and peers and made a reasoned decision to retain or replace.
Governance step: adopt and follow a written investment policy statement with defined monitoring criteria (e.g., underperformance versus peer group/benchmark over rolling periods triggers formal review) and document each review. This converts a complaint about a single fund into evidence of a disciplined, ongoing process.