Vanguard Target Date Funds Taxes on Smaller Investors Class Action

This class action speaks of the Vanguard Group, Inc. as “one of the most respected and successful investment companies in the world.” However, the complaint brings suit against Vanguard and the Vanguard Chester Funds, alleging that they disadvantage smaller investors when assets of the funds are sold, in particular during what the complaint terms “a massive sell off” of assets that began in December 2020, which caused investors to incur significant tax bills.

The National Class for this action is all US investors in Vanguard’s Retail Funds who held their funds in taxable accounts and who received 2021 capital gains distributions. A California Subclass has also been defined for those in the above class who live in California.

At issue are a series of target date retirement funds offered by Vanguard. These funds specify a target year for retirement, then adjust their investment strategies to reflect the distance from that date.

Vanguard offers two categories of these funds: the Retail Funds, for individuals and retirement plans with less than $100 million, and the Institutional Funds, for retirement plans with more than $100 million. The strategies and investments are the same, but the Institutional Funds are charged lower management fees.

When the funds sell assets, Vanguard must distribute capital gains to the shareholders.

The complaint alleges, “Investors who hold target date funds in tax advantaged accounts do not incur any tax liability, rather [they] can simply reinvest these distributions.” Larger investors in the Vanguard plans, such as retirement funds, do not incur this liability, but the complaint claims that smaller investors who have the funds in taxable accounts must pay taxes on these gains, even when they are reinvested.

In 2020, Vanguard decided to change its policies and allow retirement funds with at least $5 million to invest in its Institutional Funds. This means that some who were invested in the Retail Funds would sell their shares and reinvest them in the cheaper Institutional Funds.

To allow this to happen, the Retail Funds had to buy back shares from those leaving, which meant it had to raise cash by selling assets, beginning in December of 2020. The complaint alleges, “The resulting capital gains distributions to investors were unprecedented, indeed, 40 times previous levels. While retirement plans in nontaxable accounts did not have any impact, investors with taxable accounts were hit with large tax liabilities.”

The complaint alleges that this did not have to happen, and that Vanguard had other options that would not harm investors with taxable accounts. But, it claims, “in gross violation of its fiduciary duties and other legal duties, Vanguard did not consider other options which would have avoided harming smaller, taxable investors.”

Also named as defendants in this case are a group of individuals who are officers and trustees who make decisions for the funds.

Article Type: Lawsuit
Topic: Investments
Tags: Capital Gains Taxes, Investments, Tax