79–006 

115TH CONGRESS REPT. 115–662 " ! HOUSE OF REPRESENTATIVES 2d Session Part 1 

MUTUAL FUND LITIGATION REFORM ACT 

MAY 7, 2018.—Committed to the Committee of the Whole House on the State of the 

Union and ordered to be printed 

Mr. HENSARLING, from the Committee on Financial Services, 

submitted the following 

R E P O R T 

together with 

MINORITY VIEWS 

[To accompany H.R. 4738] 

[Including cost estimate of the Congressional Budget Office] 

The Committee on Financial Services, to whom was referred the 

bill (H.R. 4738) to amend the Investment Company Act of 1940 to 

provide complaint and burden of proof requirements for certain actions for breach of fiduciary duty, having considered the same, report favorably thereon without amendment and recommend that 

the bill do pass. 

PURPOSE AND SUMMARY

On January 8, 2018, Representative Tom Emmer introduced H.R 

4738, the ‘‘Mutual Fund Litigation Reform Act.’’ H.R. 4738 amends 

section 36(b) of the Investment Company Act of 1940 (ICA) to provide that in a derivative action brought pursuant to the ICA a 

claim for breach of fiduciary must state with particularity all the 

facts that establish the breach of fiduciary duty and the breach of 

fiduciary duty must be shown by clear and convincing evidence. 

BACKGROUND AND NEED FOR LEGISLATION

The goal of H.R. 4738 is to reduce abusive litigation against mutual fund advisers that lack merit, waste the time and resources 

of an already burdened court system, and traditionally seem to operate to the benefit of plaintiffs’ lawyers rather than the mutual 

fund shareholders on whose behalf they purport to be filed. 


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In 1970, Congress enacted section 36(b) of the ICA to: (1) create 

a federal fiduciary duty on the part of fund advisers with respect 

to the receipt of compensation for services; and (2) provide fund 

shareholders and the Securities and Exchange Commission (SEC) 

a right of action in federal courts against investment advisers for 

breach of fiduciary duty with respect to compensation. The purpose 

of the 1970 legislation was to protect shareholders and prevent conflicts of interest by allowing fund shareholders the right to sue mutual fund advisers for charging fees that are excessive to the point 

of breaching of fiduciary duty. 

Section 36(b), however, does not define what constitutes an excessive fee that violates a mutual fund adviser’s fiduciary duty. The 

Supreme Court resolved some of this ambiguity in 2010 when it 

held in Jones v. Harris Associates L.P. (559 U.S. 335) that the 

‘‘Gartenberg Standard’’ is the appropriate test for a breach of fiduciary duty under section 36(b), with Justice Samuel Alito writing 

for unanimous Court. This legal standard provides: ‘‘To be guilty of 

a violation of 36(b) . . . the adviser-manager must charge a fee 

that is so disproportionately large that it bears no reasonable relationship to the services rendered and could not have been the product of arms-length bargaining.’’ 

Unfortunately, while Jones offered clarity on what an excessive 

fee might be, the Supreme Court did not specifically address certain problematic aspects of section 36(b) lawsuits—aspects which 

continue to incentivize the plaintiffs’ bar to file claims regardless 

of merit. Further, while the Supreme Court indicated that as lower 

courts evaluate section 36(b) claims they should defer to a fund 

board’s determination if the board had a good process and received 

appropriate information—an indication that 36(b) claims should be 

evaluated against a heightened standard of proof—the Court did 

not explicitly articulate what that burden of proof is and how it relates to the ‘‘preponderance of the evidence’’ burden of proof. H.R. 

4738 resolves this open legal question by providing that the appropriate burden of proof for 36(b) claims is ‘‘clear and convincing evidence’’—one step up from the preponderance burden. This is a 

change long overdue. 

In the past 45 years, not a single section 36(b) action has resulted in a final judgment against a defendant adviser. But such 

a track record does not mean that significant costs are not imposed 

on the mutual fund industry to respond and defend against these 

claims—costs disproportionately higher than what it costs to simply assert a claim. For example, litigation costs are estimated to be 

three-to-four times higher for defendant advisers than the plaintiffs, largely because plaintiffs’ attorneys can file multiple similar 

lawsuits, while advisers have to respond to expensive and time-consuming discovery, ultimately taking away an advisers ability to effectively manage their funds. In other words, under the current litigation regime, plaintiffs’ attorneys know that non-meritorious 

claims still can result in a fees windfall because it often is in a 

company’s best financial interest to settle in lieu of spending 

money on pre-trial discovery, or on a trial. Unfortunately for shareholders, though, the financial incentive is not passed onto the 

shareholders, as the settlements rarely result in material payments 

for shareholders—while conversely increasing costs on mutual 

funds that ultimately are borne by investors. 


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The reason plaintiffs’ attorneys can so easily shake down fund 

advisers is that a 36(b) claim need only to allege ‘‘enough factual 

matter’’ to make the plaintiff’s claim ‘‘plausible on its face.’’ This 

is an extremely low burden of proof for plaintiffs, which essentially 

allows plaintiffs’ firms to rely on cookie-cutter complaints at little 

expense to the filing party. Further, the current requirement to 

only prove a claim by a preponderance of the evidence means 

that—even after extensive, costly discovery—plaintiffs can relatively easily defeat a motion for summary judgment (which requires a defendant to show there is no genuine issue of material 

fact that remains for the court to decide). 

Representative Emmer’s bill, H.R. 4738, addresses these problems by requiring 36(b) claims to be pleaded with particularity and 

clarifying that such claims should be subject to the clear and convincing standard of proof. It also requires any claim for breach of 

fiduciary duty to be pleaded with particularity. The heightened 

pleading requirement will make it less likely for plaintiffs’ attorneys to file cookie-cutter complaints and still survive a motion to 

dismiss; and the clear and convincing evidence standard will allow 

courts to more easily end Section 36(b) cases on summary judgement. This change is reasonable approach to this problem because 

it does not bar shareholders or the SEC from challenging fees with 

a section 36(b) claim, but it discourages non-meritorious lawsuits 

that may be filed simply to threaten funds into settlement to avoid 

disproportionate litigation costs. 

Requiring plaintiffs to plead claims with particularity is not a 

new solution and is well-established in the Private Securities Litigation Reform Act (PSLRA). Congress passed the PSLRA, in part, 

as a response to frivolous class actions alleging securities fraud 

under both the Securities Act of 1933 and Securities Exchange Act 

of 1934. The PSLRA reforms state that if a plaintiff is alleging the 

defendant made misleading statements and omissions, ‘‘the complaint shall specify each statement alleged to have been misleading, the reason or reasons why the statement is misleading, 

and, if an allegation regarding the statement or omission is made 

on information and belief, the complaint shall state with particularity all facts on which that belief is formed.’’ Additionally, under 

the PSLRA if the plaintiff alleges intent against the defendant, 

‘‘the complaint shall, with respect to each act or omission alleged 

to violate this chapter, state with particularity facts giving rise to 

a strong inference that the defendant acted with the required state 

of mind.’’ 

The clear and convincing evidentiary burden also is not new. It 

is the standard required for lawsuits under the Employee Retirement Income Security Act, various federal whistleblower statutes 

(e.g., Sarbanes-Oxley Act of 2002), patent law, and several other 

federal statutes. 

Using the PSLRA as a model, H.R. 4738 requires plaintiffs to allege specific facts to demonstrate each element of the claim. This 

requirement will facilitate the ability of courts to terminate lawsuits that lack merit on motions to dismiss and save much of the 

expense of pre-trial discovery. Mr. Emmer’s bill also requires plaintiffs to show that their claims are substantially more likely to be 

true than not before they can recover. This standard—higher than 

the typical ‘‘preponderance of the evidence’’ for civil lawsuits—will 


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facilitate the ability of courts to terminate Section 36(b) lawsuits 

that lack merit on summary judgment and avoid the expense and 

waste of resources of trial. 

HEARINGS

The Committee on Financial Services held a hearing examining 

matters relating to H.R. 4738 on April 26, 2017, and April 28, 

2017. 

COMMITTEE CONSIDERATION

The Committee on Financial Services met in open session on 

January 17, 2018, and January 18, 2018, and ordered H.R. 4738 

to be reported favorably to the House without amendment by a recorded vote of 31 yeas to 25 nays (recorded vote no. FC–148), a 

quorum being present. 

COMMITTEE VOTES

Clause 3(b) of rule XIII of the Rules of the House of Representatives requires the Committee to list the record votes on the motion 

to report legislation and amendments thereto. The sole recorded 

vote was on a motion by Chairman Hensarling to report the bill favorably to the House without amendment. The motion was agreed 

to by a recorded vote of 31 yeas to 25 nays (Record vote no. FC– 

148), a quorum being present. 


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COMMITTEE OVERSIGHT FINDINGS

Pursuant to clause 3(c)(1) of rule XIII of the Rules of the House 

of Representatives, the findings and recommendations of the Committee based on oversight activities under clause 2(b)(1) of rule X 

of the Rules of the House of Representatives, are incorporated in 

the descriptive portions of this report. 

PERFORMANCE GOALS AND OBJECTIVES

Pursuant to clause 3(c)(4) of rule XIII of the Rules of the House 

of Representatives, the Committee states that H.R. 4738 will reduce unsubstantiated lawsuits against mutual fund advisers by updating the burden of proof for section 36(b) claims to clear and convincing evidence, and requiring that any complaint be pleaded with 

particularity. 

NEW BUDGET AUTHORITY, ENTITLEMENT AUTHORITY, AND TAX

EXPENDITURES

In compliance with clause 3(c)(2) of rule XIII of the Rules of the 

House of Representatives, the Committee adopts as its own the estimate of new budget authority, entitlement authority, or tax expenditures or revenues contained in the cost estimate prepared by 

the Director of the Congressional Budget Office pursuant to section 

402 of the Congressional Budget Act of 1974. 

CONGRESSIONAL BUDGET OFFICE ESTIMATES

Pursuant to clause 3(c)(3) of rule XIII of the Rules of the House 

of Representatives, the following is the cost estimate provided by 

the Congressional Budget Office pursuant to section 402 of the 

Congressional Budget Act of 1974: 

U.S. CONGRESS, 

CONGRESSIONAL BUDGET OFFICE, 

Washington, DC, April 10, 2018. 

Hon. JEB HENSARLING, 

Chairman, Committee on Financial Services, 

House of Representatives, Washington, DC. 

DEAR MR. CHAIRMAN: The Congressional Budget Office has prepared the enclosed cost estimate for H.R. 4738, the Mutual Fund 

Litigation Reform Act. 

If you wish further details on this estimate, we will be pleased 

to provide them. The CBO staff contact is Stephen Rabent. 

Sincerely, 

KEITH HALL, Director. 

Enclosure. 

H.R. 4738—Mutual Fund Litigation Reform Act 

H.R. 4738 would raise the burden of proof required for a security 

holder of a registered investment company to bring a civil action 

and to prove a breach of fiduciary duty by an investment advisor 

in certain circumstances. 

Using information from the Securities and Exchange Commission 

(SEC), CBO estimates that implementing H.R. 4738 would have no 


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significant effect on the agency’s costs or operations. Moreover, the 

SEC is authorized to collect fees sufficient to offset its annual appropriation; therefore, CBO estimates that the net effect on discretionary spending would be negligible, assuming appropriation actions consistent with that authority. 

Enacting H.R. 4738 would not affect direct spending or revenues; 

therefore, pay-as-you-go procedures do not apply. 

CBO estimates that enacting H.R. 4738 would not increase net 

direct spending or on-budget deficits in any of the four consecutive 

10-year periods beginning in 2029. 

H.R. 4738 contains no intergovernmental or private-sector mandates as defined in the Unfunded Mandates Reform Act. 

The CBO staff contact for this estimate is Stephen Rabent. The 

estimate was approved by H. Samuel Papenfuss, Deputy Assistant 

Director for Budget Analysis. 

FEDERAL MANDATES STATEMENT

This information is provided in accordance with section 423 of 

the Unfunded Mandates Reform Act of 1995. 

The Committee has determined that the bill does not contain 

Federal mandates on the private sector. The Committee has determined that the bill does not impose a Federal intergovernmental 

mandate on State, local, or tribal governments. 

ADVISORY COMMITTEE STATEMENT

No advisory committees within the meaning of section 5(b) of the 

Federal Advisory Committee Act were created by this legislation. 

APPLICABILITY TO LEGISLATIVE BRANCH

The Committee finds that the legislation does not relate to the 

terms and conditions of employment or access to public services or 

accommodations within the meaning of the section 102(b)(3) of the 

Congressional Accountability Act. 

EARMARK IDENTIFICATION

With respect to clause 9 of rule XXI of the Rules of the House 

of Representatives, the Committee has carefully reviewed the provisions of the bill and states that the provisions of the bill do not 

contain any congressional earmarks, limited tax benefits, or limited 

tariff benefits within the meaning of the rule. 

DUPLICATION OF FEDERAL PROGRAMS

In compliance with clause 3(c)(5) of rule XIII of the Rules of the 

House of Representatives, the Committee states that no provision 

of the bill establishes or reauthorizes: (1) a program of the Federal 

Government known to be duplicative of another Federal program; 

(2) a program included in any report from the Government Accountability Office to Congress pursuant to section 21 of Public 

Law 111–139; or (3) a program related to a program identified in 

the most recent Catalog of Federal Domestic Assistance, published 

pursuant to the Federal Program Information Act (Pub. L. No. 95– 

220, as amended by Pub. L. No. 98–169). 


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DISCLOSURE OF DIRECTED RULEMAKING

Pursuant to section 3(i) of H. Res. 5, (115th Congress), the following statement is made concerning directed rulemakings: The 

Committee estimates that the bill requires no directed rulemakings 

within the meaning of such section. 

SECTION-BY-SECTION ANALYSIS OF THE LEGISLATION

Section 1. Short title 

This section cites H.R. 4738 as the ‘‘Mutual Fund Litigation Reform Act’’. 

Section 2. Complaint and burden of proof requirements for certain 

actions for breach of fiduciary duty 

This section amends Section 36(b) of the Investment Company 

Act of 1940 to provide that in actions alleging a breach of fiduciary 

duty the plaintiff must state with particularity the facts establishing a breach of fiduciary duty and that the plaintiff must prove 

the breach of fiduciary duty by clear and convincing evidence. 

CHANGES IN EXISTING LAW MADE BY THE BILL, AS REPORTED

In compliance with clause 3(e) of rule XIII of the Rules of the 

House of Representatives, changes in existing law made by the bill, 

as reported, are shown as follows (existing law proposed to be omitted is enclosed in black brackets, new matter is printed in italics, 

and existing law in which no change is proposed is shown in 

roman): 

CHANGES IN EXISTING LAW MADE BY THE BILL, AS REPORTED

In compliance with clause 3(e) of rule XIII of the Rules of the 

House of Representatives, changes in existing law made by the bill, 

as reported, are shown as follows (new matter is printed in italics 

and existing law in which no change is proposed is shown in 

roman): 

INVESTMENT COMPANY ACT OF 1940 

TITLE I—INVESTMENT COMPANIES 

* * * * * * * 

BREACH OF FIDUCIARY DUTY

SEC. 36. (a) The Commission is authorized to bring an action in 

the proper district court of the United States, or in the United 

States court of any territory or other place subject to the jurisdiction of the United States, alleging that a person who is, or at the 

time of the alleged misconduct was, serving or acting in one or 

more of the following capacities has engaged within five years of 

the commencement of the action or is about to engage in any act 

or practice constituting a breach of fiduciary duty involving personal misconduct in respect of any registered investment company 

for which such person so serves or acts, or at the time of the alleged misconduct, so served or acted— 


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(1) as officer, director, member of any advisory board, investment adviser, or depositor; or 

(2) as principal underwriter, if such registered company is an 

open-end company, unit investment trust, or face-amount certificate company. 

If such allegations are established, the court may enjoin such persons from acting in any or all such capacities either permanently 

or temporarily and award such injunctive or other relief against 

such person as may be reasonable and appropriate in the circumstances, having due regard to the protection of investors and 

to the effectuation of the policies declared in section 1(b) of this 

title. 

(b) For the purposes of this subsection, the investment adviser of 

a registered investment company shall be deemed to have a fiduciary duty with respect to the receipt of compensation for services, 

or of payments of a material nature, paid by such registered investment company, or by the security holders thereof, to such investment adviser or any affiliated person of such investment adviser. 

An action may be brought under this subsection by the Commission, or by a security holder of such registered investment company 

on behalf of such company, against such investment adviser, or any 

affiliated person of such investment adviser, or any other person 

enumerated in subsection (a) of this section who has a fiduciary 

duty concerning such compensation or payments, for breach of fiduciary duty in respect of such compensation or payments paid by 

such registered investment company or by the security holders 

thereof to such investment adviser or person. With respect to any 

such action the following provisions shall apply: 

(1) It shall not be necessary to allege or prove that any defendant engaged in personal misconduct, and the plaintiff shall 

have the burden of proving a breach of fiduciary duty. 

(2) In any such action approval by the board of directors of 

such investment company of such compensation or payments, 

or of contracts or other arrangements providing for such compensation or payments, and ratification or approval of such 

compensation or payments, or of contracts or other arrangements providing for such compensation or payments, by the 

shareholders of such investment company, shall be given such 

consideration by the court as is deemed appropriate under all 

the circumstances. 

(3) No such action shall be brought or maintained against 

any person other than the recipient of such compensation or 

payments, and no damages or other relief shall be granted 

against any person other than the recipient of such compensation or payments. No award of damages shall be recoverable 

for any period prior to one year before the action was instituted. Any award of damages against such recipient shall be 

limited to the actual damages resulting from the breach of fiduciary duty and shall in no event exceed the amount of compensation or payments received from such investment company, or the security holders thereof, by such recipient. 

(4) This subsection shall not apply to compensation or payments made in connection with transactions subject to section 

17 of this title, or rules, regulations, or orders thereunder, or 


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to sales loads for the acquisition of any security issued by a 

registered investment company. 

(5) Any action pursuant to this subsection may be brought 

only in an appropriate district court of the United States. 

(6) No finding by a court with respect to a breach of fiduciary 

duty under this subsection shall be made a basis (A) for a finding of a violation of this title for the purposes of sections 9 and 

49 of this title, section 15 of the Securities Exchange Act of 

1934, or section 203 of title II of this Act, or (B) for an injunction to prohibit any person from serving in any of the capacities enumerated in subsection (a) of this section. 

(7) In any such action brought by a security holder of a registered investment company on behalf of such company— 

(A) the complaint shall state with particularity all facts 

establishing a breach of fiduciary duty, and, if an allegation of any such facts is based on information and belief, 

the complaint shall state with particularity all facts on 

which that belief is formed; and 

(B) such security holder shall have the burden of proving 

a breach of fiduciary duty by clear and convincing evidence. 

(c) For the purposes of subsections (a) and (b) of this section, the 

term ‘‘investment adviser’’ includes a corporate or other trustee 

performing the functions of an investment adviser. 

* * * * * * * 


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MINORITY VIEWS 

H.R. 4738 was unanimously rejected by Committee Democrats as 

it would make it harder for mutual fund investors to reign in excessive advisory fees. 

Mutual funds are a popular choice for Americans saving for 

school, retirement or a rainy day, but when advisers levy excessive 

fees, they rob everyday working people of their future. In 1970, 

Congress bolstered protections for mutual fund investors by amending the Investment Company Act of 1940 to (1) require that investment advisers act in the best interest of their mutual fund clients 

when assessing advisory fees, and (2) provide mutual fund investors the right to sue when investment advisers breach this duty by 

charging excessive fees. Importantly, the right to challenge excessive advisory fees is the only private cause of action granted to investors under the Investment Company Act. 

In 2010, the U.S. Supreme Court in Jones v. Harris Associates 

L.P., 559 U.S. 335 (2010), adopted a pro-industry standard that has 

kept investors who try to challenge excessive advisory fees from 

prevailing in court. The standard is nearly impossible to meet as 

it requires investors to prove that a challenged fee is ‘‘so disproportionately large that it bears no reasonable relationship to the services rendered and could not have been the product of arm’s length 

bargaining.’’ As a result, excessive fee lawsuits rarely proceed to 

trial. 

H.R. 4738 would make it even harder for mutual fund investors 

seeking to challenge excessive and arbitrary advisory fees to get 

their day in court. The bill would increase both the pleading standard and the burden of proof for excessive fee lawsuits above and 

beyond what is generally required of civil plaintiffs in federal court. 

Currently, an excessive fee complaint, like most federal civil pleadings, is subject to dismissal unless it includes sufficient facts to 

state a plausible claim for relief. H.R. 4738 would increase the likelihood of dismissal for excessive fee claims by requiring that the 

complaint ‘‘state with particularity all facts establishing a breach 

of fiduciary,’’ even before the plaintiff gets access to such evidence 

through the civil discovery process. Additionally, H.R. 4738 would 

increase the burden of proof from the traditional ‘‘preponderance of 

the evidence’’ standard, to ‘‘clear and convincing evidence.’’ That 

means that investors would have almost no chance of winning excessive fee cases even if they successfully plead their claims. 

The North American Securities Administrators Association 

(‘‘NASAA’’), which represents our state securities regulators, wrote 

to the Committee opposing H.R. 4738. NASAA stated that H.R. 

4738 would ‘‘tip the scales of justice in [excessive fee] disputes 

strongly in favor of investment advisers, to the detriment of ordinary American retail investors.’’ 


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Investor advocacy groups, like Americans for Financial Reform 

(‘‘AFR’’) and Consumer Federation of America (‘‘CFA’’), also oppose 

H.R. 4738. CFA, citing large price differences in even cost-sensitive 

investment vehicles like S&P 500 index funds, found that existing 

legal restraints have not been uniformly effective in controlling excessive fees. CFA advised that Congress should ‘‘look[] for ways to 

further discipline excessive fund costs, rather than further 

undermin[e] the already inadequate protections against excessive 

fees.’’ 

We agree and oppose H.R. 4738. 

MAXINE WATERS. AL GREEN. 

STEPHEN F. LYNCH. 

JUAN VARGAS. 

CAROLYN B. MALONEY. 

EMANUEL CLEAVER. 

BRAD SHERMAN. 

JOYCE BEATTY. DANIEL T. KILDEE. 

MICHAEL E. CAPUANO. 

NYDIA M. VELA ́ ZQUEZ. GWEN MOORE. KEITH ELLISON. 

Æ 


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