BlackRock Faces 401(k) Excessive Fee Case

Charles Baird, an employee of Barclays from 2000 until 2009, when Barclays was acquired by BlackRock Institutional Trust Company, and an employee of BlackRock from 2009 until July 2016, has filed suit against the firm, claiming the use of proprietary funds in its 401(k) plan caused the plan participants to incur excessive fees.

In a statement, BlackRock said, “The suit is without merit and contains a number of factual inaccuracies. We will vigorously defend against the action. BlackRock is committed to making the best decisions in the interest of our plan participants, continually looking for ways to help them secure a better financial future.”

According to the complaint, the plan has approximately $1.56 billion in assets and approximately 9,700 participants. “Combined with BlackRock’s investment sophistication, the Plan has enormous leverage to demand and receive superior investment products and services,” the complaint says.

The plan fiduciaries are charged with failing to honor their fiduciary duties under the Employee Retirement Income Security Act by selecting and retaining high-cost and poor-performing investment options, with excessive layers of hidden fees that are not included in the fund expense ratios. The complaint notes that almost all of the fund options offered to BlackRock employees and participants are funds affiliated with BlackRock, Inc., meaning managed and/or maintained by a subsidiary of BlackRock, Inc., such as BlackRock Institutional Trust Company, N.A. or BlackRock Advisors, LLC.

The complaint contends that several BlackRock proprietary funds that would have been removed by a prudent and loyal fiduciary remained in the plan during the class period (April 5, 2011, through judgment in the case).

“Plan participants were subjected to higher hidden fees through excessive fund layering, where one BlackRock fund invests in a rabbit hole of other BlackRock funds. In this layering scheme, each BlackRock fund charges additional fees to employee investors and those unnecessary layers of fees cannibalize the returns of the employee,” the complaint says. “In total, 21 of the BlackRock Proprietary Funds offered to employees through the Plan funnel the employees’ retirement assets into other BlackRock funds, which charge additional fees (not reported in the expense ratio), thereby eroding the participants’ returns.”

The lawsuit alleges that in some cases, a single BlackRock fund is funneled into as many as an additional 27 BlackRock proprietary funds, and the majority of the BlackRock proprietary funds in the plan performed worse than their respective benchmarks and other comparable non-proprietary funds with similar investment strategies.

The fees charged by the BlackRock Proprietary Funds in the Plan (most of which were hidden in excessive fund layering) were higher than the fees charged by comparative funds with like assets and similar investment strategies. “The Fiduciary Defendants failed to remove and replace the BlackRock Proprietary Funds despite the fact that the continued investment of Plan assets in such funds constituted violations of ERISA’s duties of prudence, loyalty and constituted self-dealing and prohibited transactions,” the complaint says.

The suit particularly called out the BlackRock LifePath target-date funds (TDFs), saying “the $509 million in retirement assets that employees and participants invested in BlackRock’s LifePath Funds were imprudent and disloyal investments because each of the BlackRock LifePath Funds invests in 27 other BlackRock Funds, creating excessive fee layering that cannibalizes the employees’ investment returns.”

The complaint also says the BlackRock LifePath Funds in the plan underperformed relative to target-date benchmarks and alternative TDFs with comparable investment strategies. On average, between December 31, 2010, and December 31, 2015, the nine TDFs underperformed the Dow Jones Target Date Index counterparts by approximately 2,000 basis points (bps). Based on the $509 million the Plan invested in the BlackRock LifePath Funds, employees lost tens of millions of dollars in retirement assets due to the excessive fund layering of the BlackRock LifePath Funds, leading to excessive fees, the lawsuit contends. It also says, by participating in the M class, rather than in cheaper classes of the same fund, the plan incurred expenses over 10 times more than other available share classes, which offer the exact same investment for lower fees.

As with other ERISA self-dealing lawsuits, the BlackRock suit compared its proprietary funds with Vanguard funds. According to the complaint, Vanguard manages the Vanguard Target Retirement Income Trust I target-date funds, which are comparable in investment strategy to the BlackRock LifePath funds. It says the LifePath funds underperformed the Vanguard Target Date funds by approximately 8.5% on average for the period between December, 31 2010, and December 31, 2015 (after taking into account the compounding of returns realized every year). The Vanguard TDFs do not have extensive expense layering like the LifePath funds, the complaint notes.

The complaint also compares the BlackRock TDFs to the firm’s management of funds in the federal Thrift Savings Plan (TSP) for government employees, BlackRock was hired to manage the assets underlying the TSP funds; namely the C, F, G, I and S funds and applied many of the same strategies in those funds as it did for the funds underlying the LifePath funds. “The TSP funds are therefore a helpful benchmark against which to compare the performance and structure of LifePath funds available to Plan participants,” the complaint contends.

The TSP and LifePath funds that were indexed to the exact same underlying assets and managed by the same company should have performed almost exactly the same. However, in reality, the LifePath funds underperformed the TSP funds by 5.6% on average. Investment documents provided by TSP indicate that BlackRock invests the C, F, G, I and S funds in separate accounts which directly purchase the securities making up the indices, thereby avoiding the excessive fund layering utilized by the BlackRock LifePath Funds.

In addition, the complaint says, by designating the LifePath funds as the default for participants, the Investment Committee enabled all trusts layered within the LifePath funds sponsored by BlackRock Institutional Trust Company, N.A. to report large institutional participation and growing assets under management. The plan’s investment in trusts with excessive fee layering has dramatically increased.

The lawsuit contends that by acting to benefit themselves and contrary to their fiduciary duty, the plan fiduciaries caused the plan, and hence participants, to suffer losses through excessive fees and underperformance of more than $60 million.

The plaintiff seeks relief including disgorgement of all investment advisory fees paid to BlackRock and/or its subsidiaries from plan assets, as well as the losses caused to their retirement accounts from the many fiduciary breaches and prohibited transactions.