403(b) Webcast Series: Does Your 403(b) Plan Measure Up?

November 4, 2011 (PLANSPONSOR.com) – PLANSPONSOR’s Defined Contribution survey indicates 403(b) plan sponsors have room for improvement in benchmarking and measuring plan success.

In a Webcast, sponsored by MassMutual Retirement Services, it was revealed that despite changes brought on by new regulations, the majority of 403(b) sponsors responding to the DC survey report they have been with their provider(s) more than seven years. While it would be nice if this was solely due to provider satisfaction, it likely shows a different reality.  

Hugh O’Toole, Senior Vice President, Sales and Client Management, MassMutual Retirement Services, said that although 403(b)s predated 401(k)s by 40 years, they have included individually managed products and there were multiple providers, so no due diligence has evolved as has in the 401(k) and other DC plans marketplace. According to O’Toole, the survey findings show a need for more due diligence in the 403(b) market. He recommends benchmarking, putting out a formal Request for Information (RFI), through a third party adviser or consultant every three years, to review funds and fees. He told attendees, if they haven’t done so already, now is the time.  

According to the DC survey results, while a third (34%) of sponsors, overall, formally evaluate their provider(s) annually, as plan size grows, evaluations are performed every three years or more. It is concerning that 6.5% overall, and 7% of large plans, never do.   

O’Toole said there may be some misinterpretation of what formal evaluation looks like, as he questions the accuracy of 34% evaluating annually. Evaluating products is not a true fiduciary review, he noted, adding that it is critical to do due diligence, evaluating recordkeepers, plan sponsor services, and participant services. In addition, 403(b) plan sponsors should get real data on what is going on in their plan, regarding participation, deferrals, and withdrawal activity.  Also, on the investment side, sponsors should get information on investments from a third party quarterly, with a deeper review annually.   

O’Toole said that in MassMutual’s experience, what distinguishes plans with good benchmarking practices is the use of advisers not affiliated with a product.   

Not surprisingly given their participant-driven history, 403(b) plans in general offer more investment options than all plans types as a whole, up to 50 and even 90, the DC survey shows.   

O’Toole advises plan sponsors to look into behavioral finance; once the plan goes above seven investment choices, there is actually a decrease in diversity among participants. Sponsors and advisers need to get investment choice down to a manageable number and include target date options, offering between 10 and 12 investments if they consider a target-date series as one fund. In addition, sponsors should consider changes the investment election form to change participant behavior, placing the most conservative investment as last on the list instead of first, since participants tend to choose the first option.  

To go from an unmanageable number of investment options to 12, plan sponsors need a good adviser who knows the 403(b) market, O’Toole contends. Plan sponsors want to work with someone with specific experience in the nonprofit space because “unwinding the past is complicated,” he added.  

According to the DC survey results, more than a fifth (21.7%) of 403(b) sponsors, overall, don’t know fund expenses, and 52% reported fund expense ratios of 75 basis points or less. O’Toole said probably more should fall into the “don’t know” category because the number who think expenses are less than 75 basis points is too high. He said sponsors need to know what is charged for investment fees, recordkeeping, participant services, and administration. He added that these are things an adviser can sniff out easier than the plan sponsor who is busy with other tasks.

The PLANSPONSOR DC Survey shows that although mutual funds are the most common investment vehicle used by 403(b) plans (91.7%), a significant number are using separate (21.2%) and managed accounts (31.6%).   

New business at MassMutual indicates that nonprofits are working hard to get investments in line with corporate America’s retirement plans, according to O’Toole. He comments that the survey’s mutual fund showing is probably higher than reality because many 403(b) sponsors think they are invested in mutual funds through an annuity product.  

The survey found 43.7% of 403(b) sponsors use target-date funds (TDFs) comprised of funds from one provider, 9.6% use TDFs comprised of funds from multiple providers, and 10% use TDFs comprised of funds from their plan’s investment lineup. O’Toole commented that nonprofit and corporate sponsors are walking in step on TDFs. They can do a better job on more progressive ways to use TDFs such as using funds within current plan fund lineup.   

Measuring Plan Success  

PLANSPONSOR’s DC Survey finds that plan sponsors are still using traditional measures of plan success.  Sixty-two percent use participation rate and 29.2% use deferral rate of various employee segments.   

According to O’Toole, it is time to move from average deferral rates and balances to average income replacement ratio, from how many participants are invested in specific investment options to whether participants are sufficiently diversified to meet income replacement targets and tolerance for risk, and from how many employees are in the plan to how many participants will be able to retire comfortably based on income replacement benchmarks.  MassMutual offers a new statement showing participants their income replacement ratio and two steps they can take to increase it.  

O’Toole said participant education should evolve to include ways to create action. Auto features should be complemented with understanding. Also sponsors should celebrate results instead of only encouraging actions. Communication efforts must lead participants to take action while explaining benefits of the action - use 70% behavior finance, 30% education.  

O’Toole contended that combining standard plan criteria - investments, auto features, employer match, fees – with new criteria – plan health and retirement readiness support and service infrastructure – leads to a total value retirement plan offering.  

The PLANSPONSOR 2011 Defined Contribution (DC) Survey results incorporate the responses of 7,021 plan sponsors from a broad variety of U.S. industries. Within the survey, 719 respondents are from 403(b) Plans.

A replay of the Webcast is here.