Supreme Court remands excessive fee case to Seventh Circuit to determine pleading standard

Practitioners and parties awash in the wave of excessive fee litigation flooding retirement plan fiduciaries hoped that the Supreme Court’s decision in Hughes v. Northwestern University would clearly articulate the necessary pleading standard to survive a motion to dismiss in such matters. Unfortunately, the Court’s unanimous decision merely announced what the pleading standard is not, and remanded the case back to the Seventh Circuit Court of Appeals to determine the applicable pleading standard.

The Hughes case arrived at the Supreme Court after the Seventh Circuit affirmed the granting of a motion to dismiss plaintiffs’ claims that the fiduciaries of the university-sponsored defined contribution plans had breached their fiduciary duty of prudence by (i) allowing excessive recordkeeping fees to be charged to participants, (ii) allowing investment options offered under the plan with allegedly excessive expense ratios and (iii) offering too many – over 400 – investment options under the plan. The Seventh Circuit agreed these claims were properly dismissed for several reasons, including on the ground that the plans’ participants could have chosen other investments from the plans’ lineups that charged lower fees.

The Hughes case is indicative of many decisions rendered in the lower courts in recent years in which courts facing the same or similar excessive fee allegations have reached opposite conclusions. Some courts have found the allegations sufficient to survive a motion to dismiss, while other courts have not, even after giving plaintiffs opportunities to amend their complaints.

Writing for the Court (Justice Amy Coney Barrett did not participate), Justice Sonia Sotomayor wrote that the Seventh Circuit was wrong to rely on “the participant’s ultimate choice over their investments to excuse allegedly imprudent decisions by” the university plan’s fiduciaries. Instead, the Supreme Court said the Seventh Circuit needed to apply the Supreme Court’s directives articulated in Tibble v. Eddison Int’l, often referred to as the continuing duty to monitor. “In Tibble, this Court explained that, even in a defined-contribution plan where participants choose their investments, plan fiduciaries are required to conduct their own independent evaluation to determine which investments may be prudently included in the plan’s menu of options. . . . If the fiduciaries fail to remove an imprudent investment from the plan within a reasonable time, they breach their duty.”

Accordingly, the Supreme Court vacated the Seventh Circuit’s decision and remanded the case back to that court to assess the proper pleading standards, to consider the duty of prudence articulated in Tibble and to apply the pleading standard discussed in the Court’s Ashcroft v. Iqbal decision. According to Iqbal, to “survive a motion to dismiss, a complaint must contain sufficient factual matter, accepted as true, to state a claim to relief that is plausible on its face.” Moreover, the Court explained that two working principles underlie this pleading standard in deciding a motion to dismiss:

“First, the tenet that a court must accept as true all of the allegations contained in a complaint is inapplicable to legal conclusions. Threadbare recitals of the elements of a cause of action, supported by mere conclusory statements, do not suffice. . . . Second, only a complaint that states a plausible claim for relief survives a motion to dismiss. Determining whether a complaint states a plausible claim for relief will, as the Court of Appeals observed, be a context-specific task that requires the reviewing court to draw on its judicial experience and common sense. But where the well-pleaded facts do not permit the court to infer more than the mere possibility of misconduct, the complaint has alleged—but it has not shown—that the pleader is entitled to relief.”

Plan fiduciaries may find some comfort in the Supreme Court’s guidance to the lower courts in determining the proper pleading standard. The Supreme Court explained that, because “the content of the duty of prudence turns on ‘the circumstances . . . prevailing’ at the time the fiduciary acts, the appropriate inquiry will necessarily be context specific,” citing Fifth Third Bancorp v. Dudenhoeffer. In Dudenhoeffer, which involved a fiduciary breach related to offering employer stock in a plan, the Supreme Court replaced the Moench presumption of prudence that had previously been applied to motions to dismiss in “stock-drop” cases with what has turned out to be a much more stringent pleading standard. The result has been that plaintiffs have been largely unsuccessful meeting the pleading standard in stock-drop suits ever since.

Perhaps even more encouraging to plan fiduciaries is Justice Sotomayor’s final directive: “At times, the circumstances facing an ERISA fiduciary will implicate difficult tradeoffs, and courts must give due regard to the range of reasonable judgments a fiduciary may make based on her experience and expertise.”

So, whether it be the Seventh Circuit or any number of the other federal courts deciding the many pending motions to dismiss excessive fee suits, the courts will need to develop a pleading standard that requires plaintiffs to show, not just allege, that they are entitled to relief, while giving “due regard to the range of reasonable judgements a fiduciary may make.” At minimum, the language of the Hughes decision gives plan fiduciaries additional arguments to support their motion to dismiss. However, because the parameters of the pleading standard remain unsettled, litigants remain adrift. In the meantime, plan fiduciaries are encouraged to continue to proactively and closely monitor plan investments and identify ways to reduce participant costs.