RICHMOND, Va. - When the closely watched class-action lawsuits brought against First Union Corp. by its 401(k) participants were settled last month, it was not the $26 million price tag that raised a few eyebrows, but the agreement to hire an independent consultant to work with First Union's fiduciary committee.
"I cannot recall another case where an employer as large and financially sophisticated as this one was required to hire a consultant to help select investments in their plan on an on-going basis," said C. Frederick Reish, partner specializing in employee benefits law in the Los Angeles-based law firm Reish Luftman McDaniel & Reicher. Mr. Reish is a charter fellow of the American College of Employee Benefits Counsel and former co-chair of outreach programs for the Pension & Welfare Benefits Administration of the U.S. Department of Labor.
The settlement was given preliminary approval March 22 in the U.S. District Court for the Eastern District of Virginia, Richmond. A final hearing on the fairness is scheduled for June 13.
Of the $26 million settlement, all to be paid by insurance, $10 million goes to settle the case brought in 1999 by former participants in Signet Banking Corp.'s 401(k) plan, and $16 million is for Charlotte, N.C.-based First Union's former and current participants. First Union bought Signet in 1997 and later merged the 401(k) plans.
On March 30, First Union chose William M. Mercer Investment Consulting Inc., New York, as its consultant, subject to the execution of final contracts, said spokeswoman Betsy Weinberger. The settlement agreement had given First Union the choice of three consultants: Mercer; Ennis, Knupp & Associates, Chicago; and Wilshire Associates Inc, Santa Monica, Calif. First Union executives were given until April to hire one of them
The consultant is expected to review the nine investment options in First Union's $3 billion 401(k) plan, said plaintiffs' attorney Michael Lieder, partner in the Washington-based law firm, Sprenger & Lang PLLC. The review might lead to new funds or a redesign.
"The first job of the consultant will be to review the options in the First Union plan to determine whether there should be any non-proprietary funds, and make recommendations," Mr. Lieder said.
Options restricted
Both lawsuits were filed under federal anti-trust and racketeering statutes. Participants in First Union's plan sued for $300 million, alleging the bank had steered the employees' 401(k) contributions into its own funds, restricting the investment options to First Union funds in order to boost fee income and create mass and scale in its proprietary funds. First Union made its wholly owned subsidiary, First Union National Bank, Charlotte, N.C., trustee of its $3 billion 401(k) plan and appointed First Union's Capital Management Group investment manager and record keeper. After First Union bought Signet, it merged its plan into the First Union 401(k) plan.
"What we were challenging in the (First Union) cases are practices we believe are common to a number of 401(k) plans of financial institutions that offer proprietary funds," Mr. Lieder said.
Under the settlement agreement, First Union will hire an independent consultant to review the plan's investment options and make recommendations to First Union's fiduciary committee. The consultant's first task is to make a recommendation as to non-proprietary funds for First Union's plan, according to the settlement agreement.
"First Union's fiduciaries had been receiving advice primarily from First Union's business side, and we believed no matter how good the intentions, that created an inherent conflict of interest and wanted to rid the First Union plan of the conflict of interest," Mr. Lieder explained.
"First Union did not settle this case because it was a mere distraction," said Eli Gottesdiener, a former Sprenger & Lang partner who led the two-year battle with First Union before leaving to start his own firm.
"I've never heard of a company paying $26 million in nuisance value. The truth is, First Union got caught with their hand in the till. They were using their employees' money to shore up an ailing 401(k) business, plain and simple," Mr. Gottesdiener said. "Discovery in the case revealed example after example of First Union executives' manipulating the in-house plan fiduciaries so they would add investment options to the plan solely to boost the company's fee income or grow the size of a new investment product."
Experts say the First Union settlement could prompt more defined contribution plan sponsors to hire outside consultants to select investment options. Also, it might convince plan sponsors to pay more attention to money management fees paid by plan participants.
"From a fiduciary standpoint, people need to establish and follow procedures" in choosing investment options, said Richard L. Menson, head of the Chicago law office of McGuire Woods Battle & Boothe and a employee benefits attorney. And those procedures should be the same whether the plan is using proprietary or non-proprietary funds, he said.
Moreover, the first question asked in U.S. Department of Labor investigations is whether the plan sponsor sought the assistance of an independent consultant, he said.
Top-dollar fees
The complaint also charged that First Union was its own largest client, but its participants paid top-dollar fees.
"You cannot give your own plan a deal inferior deal to the one you offer the public," said Mr. Reish, the Los Angeles attorney. "You have to give participants a level of performance that is competitive and you have to look at the expenses for each of the investment options in the plan. If you are paying more than the average plan in your size range, then you have to ask, `What are you getting in return for paying more than average fees?' If you can't answer that question, how are you going to answer the Department of Labor?"
While this is the first significant lawsuit brought by 401(k) plan participants to come to a close, it is just the beginning, Mr. Reish said. Other lawsuits remain in play - among them are cases against SBC Communications Inc. by participants in their 401(k) plan, and New York Life Insurance Co. by employees in both the company's defined benefit and defined contribution plans. And class-action attorneys say there are more lawsuits in the works.
