Starting soon, 401(k) plan sponsors will be required to tell employees clearly just how much they pay in fees. In turn, investment firms will have to spell out for plan sponsors what they shell out in charges. How might all this candor about costs change the settled world of 401(k) plans?
By one estimate, fees could plunge $700 million per year as plans bargain harder, buy services à la carte, and replace mutual funds with less-expensive institutional funds and separate accounts. Benefits officers might be swamped with employees incensed at 401(k) charges. And recordkeepers could find themselves having to frantically rewrite computer programs.
Or, then again, nothing much might happen. Participants still won’t bother to read 401(k) material, and hence will continue to ignore fees. And retooling computer systems might cost recordkeepers only a few dollars per investor.
Whatever the case, the 401(k) realm will know soon enough: The Department of Labor hopes to issue plan participant rules by this summer, and has released a plan sponsor–service provider version.
“For individuals, it’s really important to understand how their account balance is affected by fees,” says Phyllis Borzi, the DoL assistant secretary who supervises the Employee Benefit Security Administration, which oversees 401(k)s.
Without Washington’s saying a word, annual fees for the most common 401(k) funds slid from an average of almost 66 basis points in 1997 to 54 in 2008, according to the Investment Company Institute. One reason: Plans can negotiate better rates as they grow. In addition, plans are shopping around for lower-priced funds. Lawsuits alleging overcharging have also spurred closer scrutiny by employers.
There are three basic 401(k) levies: investment management fees, fees for special services like loans, and administrative fees covering recordkeeping, accounting, compliance and other planwide work. Participants pay the first two in all cases, and in 59 percent of plans they also fork over the administrative fee, according to consultant Hewitt Associates of Lincolnshire, Illinois.
Payment information must already be included in fund prospectuses and may also appear in plan descriptions or on employers’ Web sites. Yet most experts say that few employees understand what they’re paying, because it typically comes out of returns. “There are participants who don’t realize they’re paying a thing,” says Robert Liberto, a senior vice president at New York benefits consultant firm Segal Co.
Many plan sponsors, especially at smaller companies, aren’t much better informed. “A lot of employers think recordkeeping is free,” because it’s wrapped up with other fees, Borzi says. Particularly mysterious is the fee-splitting arrangement called revenue sharing — the fees that outside funds pay to a recordkeeper to be included in a plan. The DoL worries that such arrangements hide a conflict of interest.
Some in the industry are skeptical of the whole thrust of disclosure. The 2008 proposals were going to require so much information that it’s not likely participants would have read it, says Robyn Credico, national director of defined-contribution consulting for New York consulting firm Towers Watson.
By contrast, most consultants and plan sponsors, too, want a detailed fee breakdown. Employers, says Hewitt’s director of retirement research, Pamela Hess, should know the answers to such questions as “How does my vendor make money on rollovers?” Nevertheless, as Segal’s Liberto points out: “Providers have been reluctant to give this information. It identifies the significant amount of money they’re receiving.”
David Wray, president of the Profit-Sharing/401(k) Council of America, says a detailed breakdown may not matter much for most employees, who have become less active in reading the fine print. With the advent of automatic enrollment and target-date funds, he says, participants are saying, “Make the decision for me.”
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