Selection of mutual funds and share class did not transform provider of annuities into functional fiduciary

A life insurance company that provided investment services to a 401(k) plan was not acting as a plan fiduciary when it entered into revenue sharing arrangements with mutual funds it selected as plan investment options, the U.S. Court of Appeals in Chicago (CA-7) has ruled. The court affirmed its position that the mere act of selecting funds and share classes for inclusion on a menu of investment options does not create discretionary control sufficient to confer fiduciary status.

A company secured a life insurance company to provide services for its 401(k) plan. The insurance company provided a group variable annuity contract, which enabled plan participants to invest plan contributions in mutual funds. Plan participants, however, did not invest in mutual funds directly. Rather, participant contributions were deposited into a separate account owned and controlled by the insurance company. The funds in the separate account were pooled and then invested in mutual funds selected by the plan.

The insurance company kept track of individual accounts, calculated the daily value of assets in the separate account, distributed information to the plan sponsor and participants, and provided a customer service hotline. The separate account enabled the mutual fund to reduce administrative, marketing, and service costs. In return for its services with respect to the separate account, the insurance company was compensated by the mutual funds (i.e., revenue sharing). The amount of the revenue sharing was a function of the share class of a mutual fund portfolio. The higher a share class’s expense ratio, the more the insurance company received from the fund in revenue sharing. However, the more the company received in revenue sharing, the less it directly charged the plan sponsor or plan participants for its services.

The plan trustee filed suit against the insurance company, alleging that the company’s revenue sharing practices breached its fiduciary duty to the plan. A federal trial court ruled that the company did not owe any fiduciary duty to the plan with respect to its revenue sharing practices and, therefore, was not a functional fiduciary subject to liability under ERISA.

The Seventh Circuit initially conceded that the insurance company, in creating the menu of investment options, selected the mutual funds and share classes of funds, thereby limiting the funds available to plan participants and influencing the revenue sharing it would receive. However, relying on its decision in Hecker v. Deere and Company (CA-7 (2009), 556 F. 3d 575), the court stressed that the act of selecting mutual funds and their share class for inclusion on a menu of investment options offered to 401(k) plan customers does not, standing alone, transform a provider of annuities into a functional fiduciary.

The plan trustee further maintained that the insurance company exercised control over the management and disposition of plan assets by maintaining the separate account and, thus, was a fiduciary under ERISA §3(21)(A)(i). The Seventh Circuit initially agreed with the Second, Third, Sixth, Tenth, Eleventh, and D.C. Circuits that a party need not exercise discretionary control with respect to the management or disposition of plan assets in order to be treated as a fiduciary under ERISA §3(21)(A)(i). However, the court explained that an entity will be subject to liability as a fiduciary only if it has exercised authority or control with respect to the act at issue in the complaint. Accordingly, because the trustee’s claim focused on share class selection and revenue sharing, and did not implicate the separate account, the insurance company’s maintenance and administration of the separate account did not render it a fiduciary.

Source: Leimkuehler v. American United Life Insurance Co. (CA-7).

For more information on this and related topics, consult the CCH Pension Plan Guide, CCH Employee Benefits Management, and Spencer’s Benefits Reports.

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