Data and Research December 15, 2017

401(k) Fees Can Cost an Average Working Couple More Than $150K

For someone making $90,000 a year, that would jump to $277K, America's Best 401k says.

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While industry studies have shown that 401(k) fees have declined in recent years—the Investment Company Institute recently issued a report saying they averaged 0.49% in 2016, down from 0.51% in 2015—America’s Best 401k says that data is only part of the story.

As America’s Best 401k researchers note, fee data in the retirement industry is often based on the data that plan sponsors include on the Form 5500 that they file annually with regulators. However, in its white paper, “Fees Run High for Small Business 401(k) Plans,” the company points out that 89.9% of 401(k) plans, those with 100 or less participants, file a “short” version of Form 5500, which contains very little data and excludes pertinent information such as the name of the plan provider, compensation paid to brokers and advisers, compensation paid to recordkeepers and third-party administrators, and the mutual funds in the plan along with their corresponding expenses.

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“By omitting nearly 90% of all 401(k) plans from comprehensive analysis, one might draw false conclusions about broader industry trends, such as the lowering of fees or greater access to low-cost index funds,” America’s Best 401k says. Of course, due to their far larger stature compared with the smallest plans, the relatively small number of large and mega-size retirement plans represent a majority of all retirement plan participants/assets in the U.S. 

To generate a more complete picture of the fees paid by all participants, America’s Best 401k reviewed the thousands of participant 404(a)(5) and plan sponsor 408(b)(2) fee disclosure forms that it has received from small businesses. The company focused on the asset-based fees withdrawn from participant accounts, finding that the average working couple making $30,000 a year between them and contributing 5% each to their 401(k)s would pay $154,794 in 401(k) fees over their working careers. For a couple making $90,000 a year, that would be $277,000 in fees.

“It’s simple math that a reduction in fees, whenever possible, is important for the financial future of plan participants,” the company says.

Analyzing data from the top 11 providers to the small plan market, America’s Best 401k found that they charge an average of between 1.19% and 1.95% to participants.

“It’s worth pointing out that most of the plans had limited or no access to low-cost index funds,” the company says. “Certain plans, typically those with under $1 million in assets, are told they do not yet qualify for low-cost index funds until the asset size reaches a minimum level. Most plans in the analysis had exclusively or a substantial majority of actively managed funds. These are significantly more expensive than index funds and may also deliver a portion of their revenue to the providers or brokers in a practice known as revenue sharing.”

Citing data from BrightScope and the Investment Company Institute, the company notes that plans with assets exceeding $10 million pay an average of 0.27% in fees.

America’s Best 401k predicts that new providers will enter the market and offer low-cost index funds and actively managed funds without revenue sharing—“giving participants access to the same institutional share classes that much larger plans enjoy.” The company expects these fees to range between 0.55% and 0.75%.

The white paper can be downloaded here.

Opinions December 15, 2017

What to Know About Adding Religiously Compliant Funds to a Retirement Plan

Participants’ desire to invest according to faith-based principles can be a tricky proposition for employers that manage a retirement plan.

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In recent years, there has been growing interest in investing according to religious principles. Devout Muslims might wish to invest in Sharia compliant funds. Members of the Jewish faith might look for kosher funds that exclude non-kosher food companies. Christians might want to avoid investing in companies that produce cigarettes or alcohol.

 

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Regardless of the religious affiliation, a participant’s desire to invest according to faith-based principles can be a tricky proposition for employers that manage a retirement plan.

 

Do Plans Need to Offer Religious Accommodations?

As far as the legal requirement to offer religious accommodations in fund choices, this is a question you should review with your legal counsel. However, typically court cases have held that, if making a religious accommodation causes more than a de minimus hardship to the employer, the employer is not required to make it. The interpretation of de minimus hardship is, of course, the key concept the employer must explore.

 

Adding Compliant Funds to a Plan

Administratively, it may seem that just adding compliant funds to your plan is the easiest choice. However, it isn’t always so simple. Oftentimes, finding such funds available on your plan’s platform—and such funds that pass muster as “best in class”—can be difficult.

 

Remember, to include a fund in a plan requires a fiduciary due diligence process—a review of quantitative and qualitative characteristics. Some funds, while religiously compliant, might not pass the criteria used to judge other funds in the plan.

 

Additionally, it is common for investment policy statements (IPSs) to require updating to include these types of funds. It’s possible, in some cases, to add a fund to a plan’s options by justifying religious compliance. This is something you should consider with your adviser.

 

Unfortunately, these funds would be available to all employees—not just those with the religious preferences. As a result, a company could face increased liability if a participant invests without understanding why these funds are on the menu. Participant education would be key for any company deciding to add religiously compliant funds.

 

It’s important to note that not only religious restrictions can raise these questions for plan administrators and participants. Any mutual fund with a restriction, whether political, environmental or social, could have difficulty passing a screen.

 

Allowing Self-Directed Brokerage Windows

Another possibility is to provide self-directed brokerage windows. This would allow plan participants to invest in the universe of publicly traded securities, as well as choose their own religiously compliant funds to add to their accounts.

 

However, brokerage windows remove investing “guard rails” that come with fiduciary-chosen fund menu options in an employer plan. For unsophisticated investors, this can lead to confusion—especially because the brokerage window option would have to be available to all participants and not just to those who have religious objections to the plan’s regular offerings. Moreover, brokerage windows come with additional costs, to both plan sponsor and participant.

 

Additional litigation risk can also be an issue with self-directed brokerage windows, as the employer wouldn’t be able to vet the investment options chosen in the accounts. These windows are in a gray area when it comes to fiduciary risk, no matter why—for religious reasons or otherwise—they are included in a plan.

 

Slippery Slope

Perhaps the single largest problem with adding these funds to the plan is the question of where it stops. Especially in today’s society, the inclusion of funds associated with one religion will almost automatically prompt a request for funds deemed acceptable by other religions, respectively.

 

This opens the door to those who are not faith-driven but who potentially feel strongly about a particular cause—environmental or social, for example. Soon what was a neat, consolidated plan lineup has turned into a mix of segmented groups of funds. This will only add cost and oversight requirements for the plan sponsor.

 

Ultimately, trying to cater to all employees’ desires to invest according to their values, whether religious, social or political, can be a dicey proposition. Like most plan decisions, it is a case by case determination. Obviously, if a company has a large population of one religion over another, then this type of accommodation may make sense. For large employers with a diverse work force, it is probably best to stick to a set of criteria that is religiously neutral.

 

Andrew Zito, AIF, is executive vice president, Retirement Plan Services of LAMCO Advisory Services, an independent Retirement Plan Consulting and Advisory firm.

 

This feature is to provide general information only, does not constitute legal or tax advice, and cannot be used or substituted for legal or tax advice. Any opinions of the author do not necessarily reflect the stance of Strategic Insight or its affiliates.

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