A federal judge has denied a motion to dismiss a lawsuit alleging Goldman Sachs’ 401(k) plan fiduciaries retained expensive, low-performing proprietary funds in the plan for the benefit of itself and a subsidiary.

A participant in the Goldman Sachs 401(k) plan alleged that the defendants retained underperforming proprietary mutual funds that an objective fiduciary in their position would have removed. According to the complaint, while underperforming proprietary funds saw large redemptions from other investors, the defendants retained these funds in the plan, allowing Goldman Sachs to stem the consequences of further depletion of fund assets.

The defendants only removed proprietary mutual funds from the plan in 2017, after a series of legal rulings against other financial services firms highlighted their liability risk, the plaintiff alleges. He says the action was too late and the defendants have not reimbursed participants for the underperformance of the improperly retained proprietary funds.

The lawsuit also calls into question the defendants’ failure to obtain lower-cost separate accounts or collective trusts in place of proprietary mutual funds. The plaintiff also says Goldman Sachs’ own plan paid more for proprietary mutual funds than other plans invested in the same funds.

Challenging the participant’s standing to sue, the defendants argued that because the plaintiff has only invested in three of the five proprietary funds at issue, he cannot establish any injury with regards to the two remaining funds. They further contended that the plaintiff lacks class standing because his claims will have to be proven fund by fund, showing that they do not implicate the same concerns.

But U.S. District Judge Edgardo Ramos of the U.S. District Court for the Southern District of New York said the plaintiff alleges millions in losses to the plan resulting from the defendants’ decision to maintain underperforming, high-cost funds, which specifically affected him as a participant invested in several of them. In addition, the allegation that the defendants acted in their own interest over that of the plan in offering proprietary funds with high fees over comparable but cheaper alternatives applies to the entire class of participants who invested in any of the Goldman Sachs (GS) funds. For these reasons, he says, the defendants’ motion to dismiss the plaintiff’s claims for lack of standing is denied.

The defendants also argued that because the plaintiff alleges a prudent fiduciary would have removed the GS funds by the end of 2013, the only relevant GS fund performance data is from that period. Based on the 2013 data, the defendants reasoned that selection of the GS funds for inclusion in the menu was not imprudent because all but one had exceeded their benchmarks over the prior year. However, Ramos said the defendants’ argument “neglects that the GS funds missed most of their benchmarks at the end of 2013, and that even a 1% difference in net returns each year can reduce a participant’s savings by over a fourth by retirement.”

Citing Tibble v. Edison, Ramos noted that the defendants’ “argument also ignores that fiduciaries must not only exercise care in ‘selecting investments at the outset’ but also have ‘a continuing duty of some kind to monitor investments and remove imprudent ones.’ By 2015, the GS funds had continued to underperform over most of their benchmarks, and all but one had underperformed over the prior 10-year period.”

The defendants also contended that the fees were within a reasonable range and that the fees charged for an index fund cannot be meaningfully compared to the fees of an actively managed fund. Ramos pointed out that the plaintiff pleads the expense ratios of similar mutual funds as well as index funds, showing that the GS funds’ expense ratios were 1.1 to 3.7 times higher. “Whether such fees are reasonable is a question of fact not determinable on a motion to dismiss,” Ramos said in his opinion.

While Ramos agreed with the defendants that they need not pick the cheapest or best-performing funds to offer participants, he pointed out that is not the argument the plaintiff presents. “Taken together, plaintiff’s allegations that the GS funds underperformed and failed to warrant their elevated expense ratios as compared to similar funds sufficiently states a claim of imprudence,” he decided.

Ramos found that the plaintiff alleged several other indications of imprudence. Fourteen of the 18 non-proprietary funds offered by the plan exceeded their benchmarks at the end of 2013. “Since the GS funds did not perform as well, there is an inference that defendants held proprietary funds to a different standard,” he said. “That inference is further supported by plaintiff’s assertion that the plan represented increasingly significant percentages of the GS funds as other investors increasingly dumped their shares towards the end of the class period.” Ramos also pointed out that the plaintiff pleaded that the defendants waited until unrelated litigation challenging the maintenance of expensive, underperforming proprietary funds to remove the GS funds from the plan’s menu. He said: “These allegations raise the specter that defendants maintained the GS funds as menu options for their own benefit.” These are the same points Ramos made when rejecting the defendants’ argument that the plaintiff’s disloyalty claim must fail because it overlaps with his imprudence claim.

Regarding the allegation that the defendants failed to obtain lower-cost separate accounts or collective trusts in place of proprietary mutual funds, the defendants argued that they are barred from offering proprietary separate accounts under the Employee Retirement Income Security Act (ERISA). In addition, they contended, even if proprietary separate accounts were permitted, they are not required to offer them. But Ramos pointed out that the plaintiff’s claim is not necessarily limited to proprietary separate accounts; it is that the defendants failed to consider superior, cost-effective pooled investment alternatives to the GS funds, including separate accounts and collective trusts. “This may be true even though the defendants offered separate accounts managed by third parties because, ultimately, the plaintiff’s point is that the GS funds were imprudent and other investment options should have replaced them sooner,” he wrote in his opinion.

The defendants contended that there were good reasons to offer proprietary mutual funds—there were 30 other investment vehicles to choose from and they had used a fiduciary investment adviser—so it is implausible that the GS funds were offered for their benefit. But Ramos countered that “the availability of other investment options does not excuse the offering of any imprudent ones. Nor does the existence of an investment adviser immunize disloyalty.”

Regarding the prohibited transactions claims in the lawsuit, Ramos found that the “plaintiff’s allegations give rise to the suggestion that defendants offered the GS funds and kept offering the GS funds despite underperformance and higher fees in order to collect those fees through their subsidiaries. He pointed out that “by the plain words of” ERISA, Goldman Sachs’ subsidiaries are a “party dealing with” the plan by collecting the fees from which Goldman Sachs ultimately benefits, and that the Second Circuit has approved “piercing the corporate veil” to hold subsidiary entities liable for violation of ERISA’s prohibited transaction provisions.

The defendants asserted that they are exempt from any violations of prohibited transaction provisions under Prohibited Transaction Exemption (PTE) 77-3, the Department of Labor (DOL)’s exemption for affiliated mutual funds. Ramos determined that because of “such vast disagreement between the parties, dismissal at this stage of the litigation on this basis would be inappropriate.”

The defendants argued that the plaintiff’s monitoring claim is derivative of his other claims and otherwise conclusory. Because Ramos allowed the other claims to survive the defendants’ motion to dismiss, he allowed the plaintiff’s monitoring claim to survive as well.