A recent federal appeals court decision favoring Fidelity Investments, Boston, has produced more uncertainty than finality about the use of float income in record keepers' administration of defined contribution plans.
The 8th U.S. Circuit Court of Appeals, St. Louis, on March 19 reversed a U.S. District Court ruling that had assessed a $1.7 million judgment against Fidelity for its treatment of float income — interest earned when contributions and disbursements are held temporarily in overnight or disbursement accounts.
Defined contribution plan consultants and law-yers say the 2-1 decision by the appeals court in Tussey vs. ABB Inc., containing a sharp dissent, indicates this case, which started in December 2006, still has a long way to go.
“It is certainly significant that a dissenting judge filed an opinion,” said Thomas E. Clark Jr., an attorney and the St. Louis-based chief compliance officer and director of fiduciary oversight at FRA PlanTools, a fiduciary consulting firm. “Fidelity is not the only company that charges float interest. This is a big deal.”
The key issue is whether float income — also called float interest — is a plan asset and thus subject to the Employee Retirement Income Security Act.
Fidelity argued that float income isn't a plan asset. It said investment options in the plans — rather than the plans — owned the float. Chief Judge William Jay Riley and Judge Myron H. Bright agreed with Fidelity's position.
“Fidelity's appeal to basic property rights is persuasive on this record,” they wrote. The District Court judge, they added, “erred in finding Fidelity breached its fiduciary duty of loyalty by paying the expenses on the float accounts and distributing the remaining float to the investment options.”
In a dissenting opinion, Judge Kermit Bye wrote that ERISA regulations demonstrate that “a distribution to the plan is a plan asset at the time it is placed into Fidelity's depository account, thus making depository float a plan asset.”
In addition, Fidelity “failed to negotiate float openly” with the ABB plans, Mr. Bye said. If it had “openly negotiated to retain float income as part of overall compensation,” the charge of fiduciary breach “would not be before this court,” according to his opinion.
“I think the majority was wrong,” said Marcia Wagner, managing director of the Wagner Law Group, Boston, referring to the appellate ruling. “I hope it's challenged. It is poorly reasoned.”
The decision “flies in the face of where record-keeping practice is going,” said Ms. Wagner, who isn't involved in any float income lawsuits. Despite the decision, “fiduciaries would be well advised to treat float income as a plan asset,” she said.
"A loose argument'
The appeals court majority opinion “seems like a loose argument at best,” said Martin Schmidt, principal and client services director at HS2 Solutions Inc., Chicago, a retirement plan and technology consulting firm.
Mr. Schmidt said he counsels clients to carefully monitor float income costs. “I tell clients to make sure there is disclosure,” he said.
Although Fidelity prevailed on appeal, the next legal step could be complicated because the float issue is only one portion of the complex Tussey vs. ABB case.
By 3-0 votes, appellate court judges also:
nupheld the District Court judge's ruling that ABB Inc., Cary, N.C., had breached its fiduciary duties. Among other things, ABB “failed to monitor record-keeping costs (and) failed to negotiate rebates for the plan from either Fidelity or other investment companies chosen to be on the plan platform,” the ruling stated. The U.S. District Court judge in Jefferson City, Mo., awarded $13.4 million to plaintiffs on March 31, 2012.
nvacated the lower court's ruling against ABB that had awarded plaintiffs $21.8 million based on the mapping of one investment, Vanguard's Wellington Fund, in the two ABB 401(k) plans to another investment, Fidelity Freedom Funds. The District Court judge said $21.8 million was the amount lost by participants due to mapping. The appellate court sent this case back to the District Court “for further consideration,” saying the $21.8 million “is speculative.”
Fidelity wasn't a defendant in the rulings about record-keeping costs or investment mapping. However, all three decisions are inextricably linked. Due to the complexity of the appellate decision, legal experts and DC plan consultants have predicted the case may be reheard “en banc” — by all 11 judges of the 8th Circuit — or even appealed to the U.S. Supreme Court.
In fact, lawyers for ABB and for the plaintiffs recently petitioned the appeals court to rehear the case. Their petitions don't describe the substance of the appeals; briefs are expected to be filed by April 16.
Several DC consultants credited the Tussey v. ABB lawsuit and Department of Labor fee-disclosure regulations, enacted in mid-2012, for having prompted DC plan executives to improve their understanding of float income.
“The float was one of those unknowns because sponsors weren't sure how it was factored into overall fees,” said Ross Bremen, a partner in investment consulting firm NEPC LLC, Boston. “There were always questions.”
The District Court decision and the enactment of fee-disclosure rules have led to “far fewer questions about float income practices and created greater transparency,” he said. “The case brought these (float income) practices to light.”
Mr. Bremen said record keepers have been changing their float income practices, even before the 2012 District Court ruling in Tussey vs. ABB. “Most record keepers over the years credited the float to the plans that generated the dollars,” he said. “Many use non-interest-bearing accounts ... so they avoid having to reallocate the dollars.”
In the name of greater transparency, the firms making these changes have a common goal, Mr. Bremen said: “No record keeper wants to be a defendant in the next ABB-style case.”
Since the Tussey vs. ABB suit was filed in 2006, record keepers have been “very diligent in documenting float income to make sure it is a sponsor-directed decision rather than a decision that gives discretion to a record keeper,” said Robyn Credico, the Arlington, Va.-based defined contribution practice leader for consultant Towers Watson & Co.
“Prior to the suit, some record keepers would allocate float back to participants' accounts at their own discretion,” she said. “After the suit was filed in 2006, record keepers allocated float back under the direction of the sponsor so that they were not performing a fiduciary act.”
This article originally appeared in the April 14, 2014 print issue as, "Questions remain after decision in float income case".