In Which Direction Does Hughes v. Northwestern Take the ERISA Analysis of 401(k)/403(b) Investment Menus?

Yesterday, on January 24, 2022, the U.S. Supreme Court unanimously ruled in Hughes v. Northwestern University that establishing and offering a broad range of investment options for a participant-directed retirement plan does not ensure that a plan fiduciary has met its duty of prudence under the Employer Retirement Income Security Act of 1974 ("ERISA"). Hughes follows the Tibble v. Edison International¹ case (discussed previously in our October 7, 2014 OnPoint), which generally confirmed that ERISA's duty of prudence normally includes a continuing duty of some kind to monitor investments available under a plan and to remove imprudent ones.

Going back several years, a spate of lawsuits against sponsors of and other fiduciaries under participant-directed "401(k)" plans were brought alleging, among other things, that the plans' investment alternatives were imprudently selected and maintained, particularly with respect to the question of whether fees associated with the investments might be excessive. More recently, similar lawsuits have been brought regarding participant-directed 403(b) plans sponsored by educational institutions, such as the plan at issue in Hughes. The divergent approaches and analyses in the various lower courts vary in important ways, and in some cases are significantly inconsistent. Thus, there was the possibility that Hughes could provide meaningful clarification.

Hughes arose out of a claim from three current and former participants in retirement plans of Northwestern University that Northwestern University, as plan administrator, violated ERISA's duty of prudence by (i) failing to monitor recordkeeping fees, (ii) offering mutual funds and annuities with higher fees than those charged by otherwise identical share classes of the same investments and (iii) offering options that were likely to confuse participants. The U.S. Court of Appeals for the Seventh Circuit, in affirming the district court's dismissal of the case, held that there was no breach of duty here in light of the inclusion under the plans at issue of an adequate array of choices, indeed including the types of investment funds that the plaintiffs wanted (i.e., low-cost index funds).

In Hughes, the Court rejected the Seventh Circuit's reliance on a single component of the duty of prudence, stating that "the Seventh Circuit erred in relying on participants' ultimate choice over their investments to excuse allegedly imprudent decisions by [Northwestern]," and remanded the case back to the Seventh Circuit for further consideration. The Court stated: "On remand, the Seventh Circuit should consider whether petitioners have plausibly alleged a violation of the duty of prudence as articulated in Tibble, applying the pleading standard discussed in Ashcroft v. Iqbal² . . . and Bell Atlantic Corp. v. Twombly³ . . . ."

The Court in Hughes did not avail itself of the opportunity to act in effect as a sort of traffic cop, establishing rules of the road where the diverging approaches of the lower courts have not coalesced into a consistent path. That result is not particularly surprising, in that the Seventh Circuit had adopted a specific rationale that was rejected, and so the Court was left without a fully developed record and rationale upon which to build.

So what is the impact of Hughes? On the one hand, with citation to Fifth Third Bancorp v. Dudenhoeffer⁴ (discussed in our June 28, 2016 OnPoint), the Court, by reemphasizing the facts-and-circumstances ("context specific," in the words of the Court) nature of the inquiry, leaves open the possibility that cases will not be dismissed early, with the possible result that protracted litigation will be expensive and encourage settlement. But it was always the case that the inquiry is fundamentally a facts-and-circumstances one, and Hughes does not change that.

On the other hand, there is also language in Hughes potentially less helpful to plaintiffs. The Court concludes its substantive discussion by saying: "At times, the circumstances facing an ERISA fiduciary will implicate difficult tradeoffs, and courts must give due regard to the range of reasonable judgments a fiduciary may make based on her experience and expertise." Here again the Court is stating seminal ERISA principles rather than breaking new ground. But the tenor of the Court's phrasing reflects ERISA's general deference to properly make fiduciary decisions and may serve to emphasize that a plaintiff's task in a case like Hughes - including at the pleadings stage, where generally under Iqbal/Twombly the complaint must contain sufficient factual allegations to make the claim plausible - will be affirmatively to show that plan fiduciaries acted altogether outside the range of reason. Dudenhoeffer may have initially appeared to be favorable in some respects to plaintiffs; it generally does not appear to have worked out that way. Likewise, it remains to be seen just who the winners and losers are and will be under Hughes and its possible progeny.

If you would like to discuss Hughes, or any other aspect of ERISA's fiduciary rules, please contact any of the Dechert lawyers listed below or any Dechert lawyer with whom you regularly work.

Footnotes
1) 575 U.S. 523 (2015).
2) 556 U.S. 662 (2009).
3) 550 U.S. 544 (2007).
4) 573 U.S. 409 (2014).