Proprietary Funds Targeted in Excessive Fee Suit

An excessive fee suit alleges an imprudent self-dealing reliance on proprietary funds—including an imbedded insurance option in the plan’s qualified default investment alternative.

The plan in question is the $1.5 billion, 5,500 participant AllianceBernstein 401(k) plan, and participant-plaintiffs Donald S. Bloom, David C. Greenfield, Damian L. Smikle and Justin A. Sternhell who allege that the fiduciary defendants “selected for the Plan and repeatedly failed to remove or replace imprudent proprietary investments (‘AllianceBernstein Options’) managed and offered by Defendant AllianceBernstein L.P. and/or its subsidiaries or affiliates.” 

They go on to allege (Bloom v. AllianceBernstein LP, S.D.N.Y., No. 1:22-cv-10576, complaint 12/14/22) that “these funds were not selected and retained as the result of an impartial or prudent process but were instead selected and retained because Defendants benefited financially from their inclusion in the Plan to the detriment of the Participants,” and that “by choosing and then retaining these proprietary  investment funds, to the exclusion of alternative investments available in the 401(k)-plan marketplace, Defendants enriched themselves at the expense of their own  employees.” Or perhaps more succinctly, “in effect, Participants (and their hard-earned retirement investments) were used as a captive investor base to effectuate AllianceBernstein’s self-serving business strategies that ran counter to the Participants’ interests.”

Proprietary Funds

The plaintiffs[i] acknowledge that, “while an ERISA fiduciary’s use of proprietary investment options in its employee 401(k) plan is not a breach of the duty of prudence or loyalty in and of itself, a plan fiduciary’s process for selecting and monitoring proprietary investments is subject to the same duties of loyalty and prudence that apply to the selection and monitoring of other investments, and if certain criteria for these investments are not met (especially over a prolonged period of time), fiduciary action must be taken to protect the plan.” 

For the most part, the issues raised are familiar with this brand of litigation. There are the customary allegations that less expensive, better performing alternatives were available, but not considered, or at least not taken. In fact, the reality that they weren’t taken in the plaintiffs’ eyes was itself an inference that the fiduciaries employed no prudent process of review. And while it’s not always a factor in these proprietary fund lawsuits, in this one there is an allegation that the funds were used “…as seed money for the newly launched proprietary AB funds) to the detriment of the Plan. Indeed, with the exception of a government cash portfolio and a so-called ‘brokerage window’ built into the Plan, Defendants offered Participants only the AllianceBernstein Options, thus treating Participants as captive investors to prop up the Partnership’s investment management business, while other investors were exiting or decreasing their positions in these investments, and the Partnership was thereby losing the revenue from non-Plan investment sources.”

Insurance Aspect

One aspect that was unusual—the (proprietary) target-date fund series employed here included an insurance component—one designed to provide a guaranteed income protection (not that the plaintiffs acknowledge THAT), but one that, for that income protection (beginning at age 50), charges an annual fee of 1%—and it was that fee—tied to a fund/approach that into which participants might be defaulted—that the plaintiffs focused on. As well as its inclusion as part of a new target-date fund suite—and approach.[ii] “As such, virtually every Participant whose retirement savings are invested in the LIS becomes subject to the annual insurance fee once reaching the age of 50—which insurance fee is, among other things, roughly double the fee burden typically associated with retirement plan-suitable target date funds as to which the LIS investments are otherwise comparable,” the suit alleges.  “Participants defaulted in one of the Vanguard Target Retirement Trust Funds when they turned 50 instead of the AllianceBernstein LIS funds would have saved 0.945 cents for every dollar they invested for their retirement, or $8.1 million during the Relevant Period,” they continue.

“Given the facts alleged here, it is objectively not plausible that Defendants used unconflicted and prudent fiduciary judgment in selecting for the Plan’s menu of designated investment alternatives an array of AllianceBernstein’s own investments,” they continue. “Likewise, it is not plausible that Defendants faithfully followed a suitable Investment Policy Statement (‘IPS’), outlining the process of diversifying the Plan investments, so as to minimize the risk of large investment losses by the Plan and its Participants.” Here again, they acknowledge that “a fiduciary’s failure to follow an appropriate IPS in investment selection and retention for a qualified 401(k) plan is of itself not a freestanding ERISA violation, but it is circumstantial evidence Defendants failed to use a viable and unconflicted fiduciary process with respect to the Plan’s investments—and that process failure is an ERISA violation….”

‘Near-Exclusive Selection and Retention’ 

The plaintiffs here, as have others in similar proprietary fund suits, challenged the notion that one fund company could be the best manager in every fund category—and include a table setting forth comparable options with better performance. “Contrary to their fiduciary duties to act in the  Participants’ best interests, Defendants’ near-exclusive selection and retention of AllianceBernstein’s proprietary investments as Plan investment options during the Relevant Period (despite these funds’  poor performance, availability of superior unaffiliated investments with demonstrably better  performance records, and outflow of other investors from the proprietary funds) indicate that the Defendants’ decision-making was tainted by the self-serving purpose of promoting and supporting the Partnership’s own funds, regardless of the detrimental impact of that investment strategy on their employees’ retirement savings.”

As further proof of the alleged imprudence of the fund selection, the plaintiffs cite their relatively modest take-up rate by other retirement programs. They note that “at the end of 2018, the AB Domestic Passive Collective Trust offered in the Plan had four total retirement plan investors in the fund; at the end of 2019, the same AB fund in the Plan had only two retirement plan investors in the fund; at the end of 2020, there was only one retirement plan investor remaining in the fund; and in 2021, Defendants added this fund to the Plan, even though other investors were fleeing the fund at the time.” Said “fleeing” also meant that the AB plan’s continued investment left the AB 401(k) plan to have a growing proportion of those fund assets. They claim that “the Plan is only one of 10 plans with over $1 billion in assets that have any AllianceBernstein funds in their plans.”

Ultimately, the plaintiffs here allege that “Defendants had a number of substantially identical, yet better performing fund alternatives to choose from for the Plan’s investment menu, but Defendants chose instead to offer only the AB Proprietary funds, costing Participants over $75 million in these three funds alone during the Relevant Period.”

Moreover, they assert that “the damages suffered by the Plan due to its above-described, imprudent investment in the Plan’s LIS SIP investments alone amount to over $17 million in investment performance over the Relevant Period, as compared to, for instance, low-cost, better-performing investment options,” and that “collectively, the underperformance of the AllianceBernstein Options other than the LIS investments cost Participants over $45 million in earnings during the Relevant Period.”

Will the court be persuaded to let the case move to discovery? Stay tuned.

NOTE: In litigation there are always (at least) two sides to every story. However factual it may turn out to be, the initial lawsuit in any action is only one side, and one generally crafted toward a particular result. In our coverage you'll see descriptions of events qualified with statements such as “the suit says,” or “the plaintiffs allege” and qualifiers should serve as a reminder of that reality.