Excessive Fee Litigation by Mutual Funds Face Serious Implications with the Passing of the Financial CHOICE Act by the House

The passing of the Financial CHOICE Act (H.R. 10) on June 8, 2017, along House party lines aims to replace and repeal several clauses of the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act. The Financial CHOICE Act is a big reform for financial regulation which will contain possible amendments to section 36(b) of the 1940 Act that will raise the burden of proof and heighten the standards of pleading for plaintiffs in situations of litigation fee that are excessive. It was passed 233-186 along the party divide.

Investment advisers face a fiduciary duty imposed by section 36(b) instead of the compensation they receive for the advisory services they provide to funds which give the shareholders of the funds a private action right to enforce the duty against all the affiliates and their advisers who receive the compensations from the funds. By a preponderance of the available evidence, the burden of proof will be on the plaintiffs who will be required to show that the fee they pay for advice is excessive. In other words, they will need to give evidence that the services the defendant rendered and the fee charged are so disproportionate that they do not bear any relationship, and that the negotiations could not take place at an arm’s length.

Therefore, the Financial CHOICE Act will impose a requirement that under Section 36(b) any complaint brought should state all the peculiar facts that establish a breach of fiduciary duty, and to prove that if any such alleged facts are based on existing beliefs and information, the complainant shall use all means to state the peculiarities on which the facts and opinions are based or on which the opinion are formed. Apart from the raised or stricter standards of pleading that the complainants will have to face, the plaintiffs will also be confronted by heightened burden of proof imposed by the Act from a state of legal “preponderance of the evidence” to a legally acceptable state of “convincing and unequivocal evidence.”

The new rules will not make the playing field any simpler for all the parties involved, and in the event of a process of litigation, it is clear that the cases will be long-drawn and complicated. Under the Financial Choice Act, the shareholder of a fund will have the burden to prove that there was a breach of fiduciary duty by convincing and clear evidence.

 

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