In the early days of employee retirement programs, mutual fund and insurance companies figured out that a plan’s continuous contribution feature acted as a steady cash flow into their funds and other investment products.
This underlying motivation pushed them to create the “back-end” systems necessary to track the activity and regulatory requirements of retirement plans. To compound the problem, mutual fund and insurance companies doubled down on their revenue stream by charging their recordkeeping fees using an asset-based convention rather than aligning them with their actual workload.
What’s more, providers recognized that they could effectively subsidize recordkeeping, administration, and other costs by merely increasing fees associated with the plan’s investments. Such a move hid or buried rising costs, giving the impression that plan administration was free.
For years, recordkeeper representatives teamed up with stock and health insurance brokers, leveraging connections within companies’ financial and human resources departments to secure business for their retirement plan products.
By and large, companies loved the approach because it was truly a “one-stop shopping” solution. What plan sponsors didn’t realize was that layers of fees were being paid to multiple service providers through the plan’s investments. They were being told the plan was provided for free. In reality, the plan was much more expensive than necessary, eroding the balances of plan participants and restricting their ability to retire on time.
In recent years, the Department of Labor has worked to expose and curtail these deceptive practices and the negative impact they have had on Americans’ ability to retire. In 2012, the department implemented a requirement that recordkeepers and plan administrators must transparently disclose the total fees being paid by plan participants. While the rule was a start, a recent White House study estimated that conflicts of interest in retirement plans still cost Americans $17 billion each year. We believe there is a better way.
Key Roles and Responsibilities
Recordkeepers should be kept to providing the following services:
- Account for employee investments
- Execute, as directed, all buys and sells of mutual funds
- Record the origins or sources of the contributions
- Generate employee plan disclosures that the employer can deliver to employees. Most recordkeepers will mail these to employees for a fee.
- Record 401(k) participant loans
- Mail participant account statements
- Process employee enrollment
- Provide a service center for customer support
Those who offer plan administration in addition to recordkeeping (a bundled solution) should also include the following services within their model:
- Help with plan design
- Prepare or sign IRS Form 5500
- Manage government compliance
- Partner with you and your advisor to meet the goals of the plan
- Provide fiduciary protection
- Select Investment options for a plan
- Give investment advice
- Eliminate unnecessary costs
Investment selection should be left to an advisor that also has a fiduciary obligation to the plan and its participants. This investment professional must be able to choose from an open array of investments that includes or comes close to including the full menu of funds in the investment universe.
Unfortunately, many of the recordkeeping platforms that have been set up in the “old” retirement plan world included proprietary investment products—mutual funds, collective investment trusts, and pooled investment accounts, as well as other investment structures that required little-to-no disclosure. This allowed recordkeepers to effectively create black boxes where it was virtually impossible to find the expenses being charged to the investors or who was being paid out of them.
While fee disclosure requirements represent an incremental improvement, there are still many retirement plans that are set up using expensive, proprietary investments.
We recently came across a prime example of the flawed retirement plan solution detailed above when we were asked to review a $50M+ plan with more than 500 employees.
While the plan sponsor was happy with their recordkeeper and administrator, they were looking for more support from an advisor. When reviewing the plan, we found several areas for improvement, but as it pertains to investments and recordkeeping, we found that:
- The advisor conformed to the recordkeeper’s “platform” based on beneficial revenue-sharing. This conflict with fiduciary best practices did not allow for the proper unbiased selection of investment options or for decisions to be made in the best interests of plan participants.
- The recordkeeper was getting paid a reasonable asset-based fee and was also receiving compensation from the investment options in the plan. These options were product-driven models and a stable value fund. The product-driven models were also set as the Qualified Default Investment Alternative (QDIA) in the plan. These models (which also included the stable value fund) had the highest account balances because the recordkeeper was incented to drive participants and their account balances to these options.
- We were hired as the plan’s new advisor taking on the role of an ERISA 3(38) investment manager. We replaced the investment options and the recordkeeper, as they wouldn’t allow a non-commissioned or non-product-based option on the “platform” to be used for the client’s plan. As a result of these implementations, we have been able to deliver significant savings to plan participants.
We recommend that plan sponsors hire an independent advisor who specializes in retirement plans before settling on a recordkeeper. That way, sponsors ensure that their plan includes low-cost, best-in-class investment options, not to mention supporting service providers that are not collecting unwarranted fees.
Taking these steps puts plan sponsors on track to fulfill their fiduciary obligations and helps employees meet their goals—a real win-win.
Are you looking for advice specific to your situation? Reach out to our team of retirement plan advisors.
Eric Sholberg, CPA, AIFA serves as a retirement plan advisor at Brighton Jones.
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