If the term predatory loan makes us think of bankers taking advantage of the disadvantaged, what about a predatory 401k? Are you or other executives responsible for the 401k knowingly or unknowingly letting your employees be taken advantage of by your 401k providers? Let’s look at a few factors.
Predatory 401k fees
If your employee’s investment returns are poor, it may be the 401k fees? I find most plan sponsors do not understand 401k fees. Many employers elect to pass the investment and recordkeeping fees on to their employees. This not only makes it harder to identify the fees but creates a disincentive to investigate. Many responsible plan fiduciaries don’t know they are personally liable for selecting and monitoring their service providers.
Naturally, many executives primarily focus on the fees that the company pays rather than their employees pay. One plan sponsor said to me that “there are probably some investment fees but I’m not that concerned about them”. The Department of Labor recognized the difficulty in getting true 401k fees that they developed what’s known as the 408(B)(2) employer fee disclosure in order to help employers monitor fees. If your plan has more than 100 participants www.BrightScope.com may have researched your plan and its fees. It categorizes fees on its website from highest fees to lowest fees. their research cannot tell if the fees that you are authorizing your employees to pay, are fair and reasonable.
It’s generally expected that smaller plans likely will have higher fees. This assumes that certain fees aren’t reduced over a broad enough participant base. It is popular to charge fees based on assets under management rather than per person. One has to question if the fees should be a flat charge rather than based on assets. For example, I recently reviewed plan where broker is charging about ½ of 1% (50 basis points) on the assets. That means that a participant with a million-dollar balance is paying $5,000 worth of the plan fees. Someone with a $1000 balance is paying $5.
Predatory investments
Is your broker recommending you use the investments that bear the same name as the recordkeeper? Many plan sponsors are using a target date investment strategy for their qualified default investment alternative (QDIA). If so, how much is the broker’s advice worth? If this is the case, your employees would be better off if you went direct to the recordkeeper and cut out the broker’s fee. The GAO estimates 1 percent difference in fees and expenses would reduce your account balance at retirement by 28 percent.”1
Your use of target date investment strategies is not guaranteed to qualify for QDIA status. The Department of Labor has listed requirements on its website, including prudent selection, monitoring and removal. This practice could therefore be a double whammy.
Predatory 401k recordkeeping
Are you engaged in s a process known as revenue sharing? You may be using it and not even know it. Noted ERISA attorney, Fred Reish recently said 1 :
“Revenue sharing paid by a plan’s mutual investments often covers the cost of the recordkeeper/ provider and sometimes the cost of the consultant/adviser. Since there is no such thing as a free lunch, the investments that pay revenue sharing usually have higher expenses. If all of the investments pay revenue sharing, and if they all pay approximately the same amounts, fiduciaries can take the view that participants are being treated relatively fairly. However, that conclusion gets dicey when some pay revenue sharing and others do not, or when the payments are materially different.”
Some plan sponsors have a rude awakening. The judge in the Asea Brown Boveri versus Tussey case ruled that it against ABB when they chose a fee structure higher than what the size of their plan qualified for. If you qualify for institutional pricing why would you pay retail? Purchasing agents for the company would not do so, so why is that wise to do so regarding the company sponsored 401k plan. In fact, you may not be using revenue sharing and letting your employees pay more than they should.
Do you have a predatory 401k?
If your plan has any of the practices discussed earlier it would appear that you might have a fiduciary breach. That has personal liability which has cost some fiduciaries hundreds of thousands of dollars and subjected others even more. There are more potential predatory practices then have been highlighted. The best way to find out is to have a plan review by a qualified retirement plan consultant 401k advisor. I recommend working with one that is co-fiduciary to your plan. One that has retirement specialist designation such as professional plan consultant, accredited investment fiduciary or qualified plan financial analyst, etc. there are different levels of review ranging from what I would call a EKG to an MRI. Get a review. Want ours?
(1) United States Government Accountability Office, PRIVATE PENSIONS Changes Needed to Provide 401k Plan Participants and the Department of Labor Better Information on Fees, November 2006
(2) Just out of Reish: 401k Freeloaders, Plan Sponsor Magazine, August 2014
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing.