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Exclusive Interview: Roger Levy Says 401k Fiduciary Advisers Should Heed Results of Putnam Case

Exclusive Interview: Roger Levy Says 401k Fiduciary Advisers Should Heed Results of Putnam Case
March 19
00:02 2019

Roger L. Levy, LLM, AIFA® is CEO of Cambridge Fiduciary Services, LLC which provides services aimed at reducing fiduciary risk for institutional investment committees, investment advisors and asset managers, through consulting advice and assessments of their conformity with a fiduciary standard of care. Formally educated in England, Mr. Levy practiced law in London after becoming a Solicitor in 1970. He was a partner in Taylor & Humbert, one of England’s oldest law firms before immigrating to the United States in 1975 where he joined Saul Ewing Remick & Saul, in Philadelphia. Mr. Levy obtained a Master of Laws Degree from Temple Law School.

In the mid-80’s, Mr. Levy became a founding member of Cambridge Financial Services Inc., which provided investment advisory services to retirement plans, endowments and foundations and, until 2013, when Cambridge’s advisory business was sold, he served as its in-house legal adviser, while also advising clients on prudent investment practices.

Roger earned the Accredited Investment Fiduciary Analyst® Designation and is a Lead Analyst for the Centre for Fiduciary Excellence (CEFEX). Through this affiliation, Cambridge Fiduciary Services, LLC has performed fiduciary assessments for investment advisors, pension plans and fund administrators and has advised investment committees on fiduciary responsibility. Mr Levy speaks at investment conferences on fiduciary issues and publishes articles on fiduciary topics. He is the coauthor with Dr Peter Roland of Your 401K – The Danger Within, published by Amazon. In addition, Mr. Levy consults on behalf of law firms engaged in ERISA fiduciary breach litigation and provides expert testimony.

Mr. Levy lives in Scottsdale, Arizona. He was a Founding Trustee of the Facial Pain Research Foundation and a past Board Chairman of the Facial Pain Association (2000 – 2012).

The salient points of this interview derive from his presentation “How to Bullet Proof a 401k Plan from Fiduciary Breach Risk – PROCEDURALLY!” given at the 2019 Fi360 Annual Conference in Nashville, Tennessee (April 3-5, 2019).

FN: Roger, we like to give our readers a little bit of the backstory of each of our interview subjects. How did you get to where you are today? What was the particular event that propelled you into the fiduciary arena?
Levy: In the early 1980s, I left the practice of law to be part of a startup company focusing on employee benefits, including retirement plans. At that time, 401k plans were a fairly novel employee benefit and much of the business was being handled by brokerage firms, who were not fiduciaries, and by pension consultants, who went to great lengths to avoid fiduciary status, even though registered under the 40 Act.[1] In face of this, we decided to handle our client’s retirement plans as an RIA and to compete for business on the basis that we were fiduciaries while our competitors, being brokers or consultants, were not, and that we would help our clients to fulfill their own ERISA fiduciary responsibilities. Although I did not come from an ERISA background, I quickly learned the fiduciary framework of ERISA and the elements of procedural prudence, and this assisted us to attract and retain clients over many years.

[1] See STAFF REPORT CONCERNING  EXAMINATIONS OF SELECT PENSION CONSULTANTS, May 16, 2005. The Office of Compliance Inspections and Examinations, SEC

FN: Today we think of “fiduciary” as something within the realm of investment advisers. As a trained lawyer, in particular one from England, can you give us a brief history on the roots of today’s “fiduciary” as it pertains to trust law.
Levy: English trust law is the foundational law of trusts not only in England, but in the US and throughout much of the world. Trust law developed in the Middle Ages from the time of the Crusades, when Crusaders wanted to turn over title to their estates to another who would manage the Crusaders’ property while they were gone. Such arrangements were not recognized by common law and the Lord Chancellor, recognizing the “inequity” of common law, established the Courts of Chancery with power to determine “in equity” whether it was fair to let people with legal title to hold on to it. This then led to the establishment of “fiduciary” responsibilities for those who held the property of another, the term “fiduciary” being drawn from the Latin, fides, meaning faith or trust.

Curiously, I had the opportunity to investigate the origins of trust law when I wrote the thesis for my Master of Laws degree at Temple Law School. My thesis concerned how English and US law differed in the treatment of abuse made of inside information by corporate directors. This took me to an English foundational case, Keech v. Sandford (1726), which very well explains the strict nature of fiduciary responsibility. In this case, a child inherited a lease. It was held in trust. The landlord would not renew the lease for the infant but agreed to give the lease to the trustee in his personal right. When the child grew up, he sued the trustee for the profits from the lease.  The Lord Chancellor found in favor of the infant, saying:

This may seem hard, that the trustee is the only person of all mankind who might not have the lease: but it is very proper that rule should be strictly pursued, and not in the least relaxed; for it is very obvious what would be the consequence of letting trustees have the lease, on refusal to renew to cestui que use.”[2]

This was an early recognition of conflicts of interest and that equity required that they should be resolved in favor of beneficiaries.  Of course, today, we see somewhat similar treatment of conflicts of interest in ERISA prohibited transactions, although exemptions have gone a long way to mute the impact of the strict rule in Keech v. Sandford.

[2] “Cestui que use” is an early term for “beneficiary”.

FN: What is the biggest and least understood fiduciary liability that comes from trust law?
Levy: The US Supreme Court reminded us in the Tibble case that fiduciaries must often look to trust law to determine their fiduciary responsibilities. Trust law is extensive – the Restatement of the Law of Trusts (3rd) itself runs to several volumes – and it would be presumptuous of me express a legal opinion now that I no longer practice law. However, based on my experience with prudent practices, I expect one of the outcomes of from increased focus on trust law to be that, where the facts allow, trust law will be invoked when claims challenge the selection of actively managed funds. Trust law places particular emphasis on the need to justify the added costs and risks, including trading costs, when preferring active over passive investment strategies.[3] Active funds have not generally been challenged as being imprudent per se. Some may find sufficient grounds under trust law to raise this argument.

Another topic which could draw attention is described in the book I co-authored, Your 401K – The Danger Within, where I argue that plan participants would have more trust in their 401k plan if the investment process was completely transparent, meaning that participants would have access to the investment policy statement and receive an explanation of how funds are selected and how the reasonableness of services and fees is established. ERISA does not directly permit this, but trust law recognizes a duty to disclose information that a participant needs to protect his or her interests, including investment information. Courts seem divided on this issue and plan sponsors would see this as burdensome, but the more that trust law impacts the outcome of 401k fiduciary breach law suits, the more likely it is that disclosure obligations will expand. After all, for whom are plan assets held?

[3] See Restatement of the Law of Trusts (3rd) at §90.

FN: Why do you feel plan sponsors are less aware of their fiduciary liability than they should be?
Levy: When employers first added 401k plans to their employee benefit offerings, I don’t think that many, particularly those who also sponsored defined benefit pension plans, recognized the tradeoff that occurred. The more informed recognized that, in exchange for being released from the funding and investment risk of a defined benefit plan, they were incurring stringent fiduciary obligations with respect to the management of participant account balances, when adopting a 401k plan. That said, I think that a lot of plans have suffered in the past from benign neglect, or “a set it and let it” approach. Clearly, more recent DOL regulation and fiduciary breach lawsuits have heightened awareness but I suspect that many plan sponsors still think that they are unlikely targets for fiduciary breach lawsuits or DOL investigation, irrespective of the fiduciary conformity of their plans. They should be disabused of this belief because plan participants are also becoming better educated about their retirement plan and the DOL is only a phone call away. In 2018, the DOL reportedly dealt with over 170,000 individual employee benefit inquiries and restored over $443 million as a result.

All of these considerations lead to a strong recommendation for plan fiduciaries to receive fiduciary education. In my work as an expert witness, I see a lot of ignorance and misunderstanding on the part of plan fiduciaries. Investment advisors have a vested interest as co-fiduciaries in ensuring that their clients are well versed in their fiduciary responsibilities, whether they deliver the education themselves or recommend third parties for this purpose.

FN: What do you see as the greatest threat to 401k fiduciaries?
Levy: In order to be successful in a fiduciary breach lawsuit, plaintiffs must first establish a breach of fiduciary duty and a loss. Further, they may also have to establish “causation,” meaning proof that the breach caused the loss, noting that, in some jurisdictions, the contrary applies and that, once a breach and loss are established, the burden shifts to the plan fiduciaries to disprove that the loss resulted from the breach.

Leaving “causation” aside for the moment, establishing a fiduciary breach generally involves establishing that the plan fiduciaries did not follow a “prudent process.” This requires a detailed look at the process followed by the plan fiduciaries, to determine whether that process accords with a prudent standard of care. This can be discerned from documentation and from testimony. Unsurprisingly, testimony is often at odds with the documentation. Accordingly, in my view, the area of greatest concern for plan fiduciaries should be to ensure that they have adequate documentation to support their fiduciary decisions.

This brings us back to the issue of causation and the decision on this issue in Brotherston v. Putnam, where the US Supreme Court is being asked to decide where the burden of proof lies when it comes to damages. Does it lie with the Plaintiffs, who generally have the burden of proof in litigation, or, as found by the Court of Appeals for the First Circuit in the Putnam case, does it lie with defendant plan fiduciaries who, under trust law among other sources, have the burden to disprove that the loss results from the breach, once a breach and loss are established?   Assuming that the Putnam appellate decision stands or is affirmed, the documentary record of how plan fiduciaries arrived at their investment decisions will become an even more important element of fiduciary breach litigation, and the plan fiduciaries will need a convincing record if they are to disprove that the fiduciary breach established by the plaintiffs was the cause of loss suffered by a plan. 

FN: How might 401k fiduciaries begin to mitigate these threats?
Levy: First, as the answer to the last question suggests, fiduciaries must establish an appropriate documented process for their fiduciary decisions in general. This should start with a documented due diligence process and be followed by documented deliberation in which the alternatives are considered and discussed. Then, the fiduciaries must arrive at a reasoned decision supported by the evidence they considered, and the decision and its reasons should be documented. This is not very complicated but is often overlooked or mishandled. In light of the Putnam appellate decision, plan fiduciaries will also pay particular attention to the processes followed by their investment advisor and ensure that adequate documentation sustains the advisor’s advice. 

FN: How does the Uniform Prudent Investor Act help plan sponsors reduce their fiduciary liability?
Levy: Generally speaking, plan fiduciaries are to be encouraged to engage independent advisers as experts to assist them with investment matters, and, provided that the independent advisers have been properly qualified as “experts,” plan fiduciaries should be able to establish that their reliance on expert advice was reasonable in the circumstances and that they themselves should be absolved of fiduciary responsibility. However, reasonable reliance requires more than simple acceptance. Plan fiduciaries must still perform independent evaluation of the advice they receive, if they are to mitigate their responsibility.  

FN: Let’s turn our attention to those professional fiduciaries. What advantages do professionals who hold themselves out as fiduciaries have over those professionals who do not?
Levy: The threshold problem for plan fiduciaries is that it may well be imprudent to rely on the investment advice of those who do not acknowledge in writing their fiduciary responsibility to the plan. So, as a plan sponsor, why take that risk? Then, even if you engage an adviser who acknowledges fiduciary responsibility, remember that you still have to qualify that adviser as an “expert” in order for your reliance on their advice to be considered reasonable. However, once these requirements are met, plan fiduciaries have the opportunity to mitigate their fiduciary risk, subject to a continuing obligation to monitor the performance of their experts, or professional fiduciaries, if you will, on a periodic basis through adequate oversight. Thus, by offering their clients risk mitigation opportunities, advisers who act as fiduciaries enjoy a significant advantage over advisors who do not acknowledge their fiduciary status.     

FN: What disadvantages do professionals who act as fiduciaries expose themselves to compared to non-fiduciary professionals?
Levy: First, so-called non-fiduciary professionals are not off the fiduciary hook simply by failing to acknowledge their fiduciary status. If they provide investment advice to a plan for a fee or other compensation, they may well become a “de facto” fiduciary, however they describe themselves. Of course, the key is whether such a professional is providing “investment advice,” a role which securities brokers have been able to avoid in order to fall outside the fiduciary net. That said, this is the other side of the coin to the last questions, and fiduciary professionals are assuming some measure of fiduciary risk in fulfilling their responsibilities. Those responsibilities are usually defined in a client services agreement and will be most likely limited to providing investment advice and performing other functions of a fiduciary nature, such as the preparation of an investment policy statement suited to the needs of the plan.

The extent of the professionals’ services will in large part define their fiduciary exposure. For example, when giving investment advice on a non-discretionary basis, i.e., where the decision making responsibility remains with the plan, the professional has fiduciary responsibility for that advice under ERISA 3(21) but the plan fiduciaries retain fiduciary responsibility for the decisions. Hence, the importance of plan fiduciaries qualifying their professional advisers as experts to help justify reliance placed on the professionals’ advice.

On the other hand, where professional fiduciaries take on the role of an investment manager under ERISA 3(38), they have the opportunity to further mitigate the fiduciary responsibilities of plan fiduciaries but they are increasing their own fiduciary exposure for the investment decisions they make on behalf of the plan. While accepting the role of investment manager can be a win-win for the plan fiduciaries and the professional fiduciaries (who can justify a higher fee), there may be increased fiduciary risk on the horizon for those professional fiduciaries, if they are to be the first line of defense in fiduciary breach lawsuits when it comes to proving that investment losses suffered by a plan following a breach are not the result of that breach.  Thus far, few professional fiduciaries have been named as defendants in 401k fiduciary breach lawsuits. After Putnam, that may change. Further, professional fiduciaries may become targets of fiduciary breach lawsuits filed by clients. It’s too early to tell but it’s never too early to plan for such an eventuality. 

FN: What’s the legacy of the now-vacated DOL Fiduciary Rule?
Levy: I was never a fan of the proposed rule and the only winners throughout the tortuous adoption process were lawyers and consultants selling solutions to the chaos which the rule would create. That said, the rule’s fate has at least spurred more diverse discussion about meaningful steps to protect the “best interests” of 401k plan participants and other investors, and this may lead to meaningful regulation. However, that investment advisers of all stripes should not be universally held to strict duties of loyalty and due care undermines public trust, even in those advisors who accept such obligations.

FN: Speaking of state initiatives, many states are also moving forward with their own “Fiduciary Rule.” How might this be a good thing? What kinds of dangers might arise from multiple “fiduciary rules” across multiple states?
Levy: It would seem that the states are trying to fill the void left by the failed DOL rule. While laudable, this heralds chaos in interstate activities and interferes with the certainty that is required by those who deliver and those who receive investment advice and services. The DOL and the SEC should come to grips with this and act expeditiously to establish federal rules. In the meantime, the slicing and dicing of proposed state rules is the province of those lawyers and consultants made redundant by the failure of the DOL rule. 

FN: What other matters do you feel our readers should know about?
Levy: As I said earlier, the ruling by the First Circuit in the Putnam case further increases focus on trust law when determining the scope of fiduciary responsibility under ERISA. Prudent practice already draws on trust law and sometimes prudent practice is ahead of the courts. For example, Tibble affirmed that the continuing duty to monitor was independent of the duty to prudently select investments, a state of affairs already observed by prudent practitioners. However, decisions are based on facts and circumstances that likely differ from case to case. Accordingly, one may expect the application of trust law to broaden in future 401k fiduciary breach litigation.

FN: Roger, you have certainly given us a lot to think about. The complexities of fiduciary service going forward may surprise many unsuspecting readers. They’d do well to heed your analysis and understand their evolving role in the ERISA world.

About Author

Christopher Carosa, CTFA

Christopher Carosa, CTFA

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