US-based investment giant Vanguard is facing a lawsuit in the state of Pennsylvania brought by a group of retirement fund account holders.
They allege they received large capital gains tax (CGT) bills following Vanguard’s opening its institutional retirement funds to retail investors.
This triggered an “elephant stampede sell-off from its retail funds”, the lawsuit alleges.
The firm’s retirement retail funds were for individuals with less than $100m (£73m, €87m), while the institutional products were only accessible to those with more than that to invest, but the lawsuit alleges that the holdings and strategies “are the same”.
International Adviser contacted Vanguard but the firm declined to comment on the lawsuit.
Mass sale
In December 2020, Vanguard reportedly lowered the minimum requirement for its institutional funds to $5m, so retail clients could move over to the cheaper institutional funds.
But the complaint alleges that the move set off a mass sale of assets from the retail funds – with many selling 15% or more.
When the assets were sold, they realised capital gains. These were distributed among investors, but while those holding the target date retirement funds in tax-advantaged accounts – such as 401(k)s – were able to reinvest the gains without incurring in tax liabilities, this was not the same for those who held the funds in taxable accounts.
The complainants – all of whom held the retirement fund in taxable accounts – claim that the large capital distribution meant large CGT bills as well – with some being hit with liabilities “at least 40 times larger than ever before”, the lawsuit says.
This resulted in “enormous tax bills for tens of thousands or even hundreds of thousands of dollars”, the investors’ lawyers at Dovel & Luner said.
Avoidable harm?
The account holders claim that Vanguard had two options it could have deployed to not hurt clients in taxable accounts:
- Lower the retail fund fees for plans that had at least $5m invested; or
- Merge the retail and institutional funds given they had the same strategy, asset mix and management.
In September 2021, the investment firm reportedly merged the two funds, which the account holders claim would have saved them tens of thousands of dollars in tax had it been done in December 2020.
The investors also claim that they have now lost the ability to earn compounding returns on the distributions.
As a result, the clients have accused Vanguard of breach of fiduciary duty, gross negligence, breach of the covenant of good faith and fair dealing, and unjust enrichment.
They are seeking damages, an injunction prohibiting Vanguard from triggering any additional sell-offs, restitution, disgorgement, pre- and post-judgement interest, attorneys’ fees and costs, and any additional relief as decided by the court.
