401(k) Fee Transparency: Best & Worst Providers

“Revenue sharing is that the expenses of the fund have been subsidizing the administrative costs of the plan,” says Ed O’Connor, managing director-retirement services at Morgan Stanley Wealth Management, in Purchase, N.Y. “Generally, plan sponsors like that because they want to show employees fund performance, not account fees being charged.”

O’Connor adds: “But if the rule leads to no revenue sharing, and fund expenses do not subsidize administrative costs, what we’ll have are account fees, with participants paying directly for things like online series.” 

The 401(k) industry grew up based on insurance companies packaging mutual funds with a recordkeeper and a third party administrator, and sold as a lump.

“The firms weren’t trying to be nefarious. Plan sponsors weren’t colluding with service providers on hidden fees. This is just the way these products developed,” says Celia Rafalko, managing principal-CEO of Piedmont Independent Fiduciaries, in Richmond, Va., an investment advisor and asset manager to service providers. “It’s the norm—layers of costs that were not apparent. It was very difficult to parse out where all the money was going, and it continues to be.”

However, adds Rafalko, former chief administrative officer of Wachovia Securities’ financial services group, “as technology improved and options changed, more and more companies have started to develop a focus on full transparency.”

A goal of the new rule, according to Dalbar, is to help plan sponsors “identify situations where service providers have a vested interest in an outcome that may not be in the best interest of plan participants. The best practice has been to disclose potential conflicts of interest clearly … including steps that protect the interest of participants.”

Dalbar singled out disclosures from TIAA-CREF and Merrill Lynch, Pierce, Fenner & Smith as examples of achieving that.

“We leveraged the broader experience of the Bank [of America] with conflict-of-interest rules to guide us in our approach to this issue,” Merrill’s Crain says. “We’re a large financial services firm with a broad array of products, so adherence to conflict rules is a key focus.”

The new rule gives plan sponsors power to hold service providers accountable. But Dalbar points to “major flaws,” among them: “Service providers are permitted to retain incomprehensible disclosure language.”

That surely presents a big stumbling block to meeting the fee disclosure document’s key objective.

 Rafalko, in her capacity as consultant, has read disclosures from 30 firms.

“It’s kind of terrifying!” she says. “I understand that companies want to make sure they’re covering all their risk, but they’re doing it in a way that obfuscates the point of the exercise.”

Still, some are doing it the right way. Dalbar gives kudos for services descriptions to BB&T, TIAA-CREF, Great-West and Wells Fargo Institutional Retirement and Trust.

“We educated people on where participants’ dollars are going,” says Great-West’s Richman, based in Denver. “Which entities are taking the money and what that means as dollars is something really new and useful to the plans.”

Wells Fargo’s Ready notes: “The regulation says we have to disclose all the services, roles and fees. We take it a step further and do the math. We boil it down to a one-page summary worksheet with a detailed breakdown of fees and services at both dollar and basis point levels. Then we provide a retirement readiness index.”

BB&T’s disclosure has a unique summary of plan services with a succinct explanation of each plan-option’s benefits for both sponsors and employees. John Hancock opens with a three-page outline of services and a hard-to-miss presentation of costs and compensation. TIAA-CREF uses reader-friendly language and includes an educational introduction.

Other mandated information zeroes in on the critical issue of fiduciary responsibility. But the new government directive concerning that is “cloaked in mystery,” Dalbar says, “since, technically, only fiduciaries are required to make a disclosure.” Therefore, when not stated, plan sponsors have no way of knowing if a service provider is or is not a fiduciary. That information, for example, could have been left out accidentally. 

Merrill Lynch’s disclosure, positioned prominently, makes a clear statement of fiduciary responsibility; and  Paychex and Morgan Stanley (Nationwide) each received perfect scores for the quality of its fiduciary disclosures.

This is a section, though, on which some recordkeepers need to brush up. Wells Fargo, for instance, uses asterisks to indicate fiduciary status but left unmarked services for which the firm does not act as a fiduciary. Dalbar deemed Great-West’s and Fidelity’s disclosures “Obscure” because they “require legal or mathematical analysis or multiple documents,” and MassMutual’s fiduciary status got a poorly rated “Omitted” because no reference was indicated.

With fee comparison now a reality, price compression is certain to accelerate. Crain says the rule makes plan sponsors “educated consumers about what they’re paying for. They can either say, ‘I’m comfortable with it’ or ‘Now that I’ve got this information and have looked at the market, things need to change.’ 

“In previous years,” Crain notes, “they didn’t even understand where they were in terms of fee structures. Now plans will challenge service providers to drop fees. They’ll say, ‘Do you want to lose this plan if you don’t drop them?’ The provider may say, ‘I can’t afford to do that,’ and the plan will move.”

Further, today’s bundled fees could be unbundled in due course. “In some cases, that will reduce fees; but in others, it might actually increase them, depending on the services that are wanted,” Ready notes.

In the months preceding 408(b) (2)’s implementation, smart service providers educated sponsors and others on the new documentation to come. Fidelity talked it up in client meetings and on webcasts. Merrill trained financial advisors, launched webinars and reached out to specific clients. Great-West even produced a video for plans, “Clarity in a Complex World,” explaining that the firm’s fee disclosure goes beyond simply what is required.

Despite the intent, all the work and considerable cost involved in compliance with the new regs, some experts predict that meaningful results will be minimal.

“The rules are certainly needed, and everything they require will be done; but they won’t have much effect,” says Saul Nirenberg, whose eponymous New York City firm advises sponsors on specific plans and how to select advisors. “ERISA will be pleased with itself, service providers will have another layer of protection and individuals will be right where they are now. Uninformed.”

He continues. “The majority of companies are content to turn everything over to their service providers. They don’t want to embark on programs to help employees make the right choices. They defend this non-action by saying they may get sued if things go wrong. But companies need to start taking their employees’ welfare more seriously.”