Are 401(k) Revenue-Sharing Deals on Their Way Out?

About 13% of plans had no form of revenue sharing whatsoever last year, a figure that most expect will only grow

More On Legal & Compliance

from The Advisor's Professional Library
  • RIAs and Customer Identification Just as RIAs owe a duty to diligently protect their clients’ privacy and guard against theft, firms also play a vital role in customer identification. Although RIAs are not subject to an anti-money laundering rule, securities regulators expect advisors to address these issues in their policies and procedures.
  • The Custody Rule and its Ramifications When an RIA takes custody of a client’s funds or securities, risk to that individual increases dramatically. Rule 206(4)-2 under the Investment Advisers Act (better known as the Custody Rule), was passed to protect clients from unscrupulous investors.

New disclosure rules and the threat of fiduciary violation lawsuits have helped bring down investment management, recordkeeping and other fees in 401(k) and other retirement accounts. Now revenue-sharing is following suit. 

According to a 2013 survey by Boston-based investment consultancy NEPC, total plan costs for sponsors declined 0.02% from 2012 to 2013, falling to 0.53%. That’s equivalent to a yearly charge of $5.30 for every $1,000 invested. That figure had been 0.59% in 2010, so the savings are in the many millions of dollars. 

NEPC’s survey also found that revenue-sharing arrangements – used to help offset, or in some cases, to pay for all plan-related expenses – began to decline in 2010 and continued to do so in 2013. It found that 13% of plans had no form of revenue sharing whatsoever, a figure that most expect will only grow. 

NEPC found that the weighted average revenue share in 2013 was under 0.11% vs. more than 0.16% in 2008. 

While that’s good news, concerns about excessive revenue-sharing and transparency remain.   

That’s because, as things still stand, participants in most qualified plans pay the majority of plan costs through a combination of investment-related expenses and contract charges. These are typically netted from performance on a daily basis, but they are not expressed in dollars and cents. As a result, many participants mistakenly believe they are not paying expenses at all and that they are getting a 401(k) plan “for free.” 

The Department of Labor’s 404(a)(5) disclosure form, which is issued annually by each plan and addresses participant-level fees, is supposed to help make these deal more transparent.  

Gregory C. Lewis, a principal at Boston’s Pinnacle Financial Group, said the DOL had good intentions in mind in adopting its new disclosure rules. “Since qualified plans can be costly undertakings, and participants bear the majority of plan costs, the DOL has endeavored through 404(a)(5) to educate participants about the various costs and fees that impact their plan accounts,” he said.

But the DOL has fallen short in its bid to adequately inform participants, according to Evan Rapp, managing partner with RPG Consultants, Valley Stream, New York. 

“The 404(a)(5) participant disclosure notices include quarterly fee reporting, as well as an annual fee report. (But) this report is extremely complicated and many pages. There is no way the average participant understands it,” Rapp said. 

“I believe the government had the best of intentions when they passed these laws. Sadly, they have done little good for 401(k) participants,” he said. “Revenue-sharing is still permitted, but now must be disclosed in a 50-page document that is distributed once a year. So, except for additional paperwork, nothing really has changed. They can advertise ‘free’ 401(k) plans while getting all their revenue from the funds.” 

The DOL hasn’t issued any explicit guidance on how to deal with revenue-sharing, so plan sponsors have needed to be careful about possible conflicts of interest, as well as the reasonableness of amounts paid to service providers. 

Jason Chepenik, a 401(k) plan consultant in Winter Park, Fla., recently helped Intersil Corp., a semiconductor maker in Milpitas, Calif., revamp its 401(k) plan using low-cost funds with no revenue-sharing fees. 

To fill the gap from the loss of revenue-sharing, workers pay an annual administrative fee equal to 0.09% of their account balances, he said. In all, Intersil workers will save more than $600,000 a year in fees on the $330 million they have invested, with the savings coming from both lower charges from a new plan recordkeeper and the use of lower-cost funds, Chepenik calculated. 

In addition to switching to lower-cost mutual funds, some brokers have adopted another form of advisory arrangement with plan sponsors.  “We have seen some brokers moving to an RIA arrangement and also moving to share classes with little or no 12b-1 (marketing or distribution) fees,” said Carol Ringwald, vice president at July Business Services, Waco, Texas.  

But that’s not always ideal, either, at least from a participant’s viewpoint. 

Which is why, Ringwald said, “we have also seen RIA arrangements where they are using share classes that pay a level 12b-1 fee across all of the funds and we are still allocating that back to the participants to offset their RIA fee.”   

Daniel A. Notto, senior retirement plan counsel at AllianceBernstein, thinks it may be “most prudent” for sponsors to rethink revenue-sharing altogether. 

Beyond turning to lower-cost mutual fund share classes, Notto suggests sponsors consider using collective investment trusts as the underlying investment vehicles instead of mutual funds. CITs typically don’t engage in revenue-sharing and are usually less expensive than mutual funds because they have lower compliance, marketing and administrative costs, Notto recently wrote. 

“The bottom line for plan fiduciaries is to make an informed decision,” he said. “Get enough information to think the issue through, work with the plan’s advisors or consultants, make a decision and document it. That is how plan sponsors — as fiduciaries — can do the right thing for their plan participants and protect themselves at the same time.” 

In a blog last fall, Chicago-based law firm Winston and Strawn offered sponsors some specific advice on revenue-sharing arrangements. The highlights: 

• Confirm that the compensation proposed for the recordkeeper or other service provider under the arrangement is reasonable. … Ask the provider to provide a chart showing each form of direct and indirect compensation and the corresponding fees/rates expected to be received. … Reviewing the information in this format may provide for a more comprehensive review.

• Ask your consultant (or other provider) to confirm that the revenue-sharing formula … are consistent with (or more favorable than) market trends. 

• Ask your consultant (or other provider) to provide specific recommendations on the type of reporting needed to confirm that amounts paid back to the plan are correctly calculated and applied for the benefit of the plan. 

• Allocate/track revenue-sharing payments in a trust or bookkeeping account … and establish a policy addressing how and when revenue-sharing payments paid back to the plan will be allocated among participants or used to pay plan expenses in accordance with ERISA.

---

Check out The Search for Better 401(k) Advice by Michael Finke on ThinkAdvisor.

Originally published on BenefitsPro. All rights reserved. This material may not be published, broadcast, rewritten, or redistributed.

Page 1 of 3
Single page view Reprints Discuss this story
This is where the comments go.