Participant fee disclosure: 404(a)(5) compliance is sucking large amounts of resources from the retirement system: time, money and a lot of trees. Ultimately, much of these costs are being absorbed by plan participants. The information being disclosed has generally been available to plan participants all along in prospectuses, fact sheets, enrollment materials and in other routine plan communications. Lawyers, printers and the U.S. Postal Service are enjoying a windfall, but we don’t see much net benefit for employees.
In our many years interacting with plan fiduciaries, we see they overwhelmingly want to do the right thing. 408(b)(2) has been very beneficial. It has provided focus and it has made key information more accessible (see “Turn Fee Disclosure Lemons into Lemonade”). We would have advocated a wider separation between plan-level and participant-level disclosure, to give fiduciaries time to consider options and take action where indicated.
Stirring the pot: With participant fee disclosure, the Department of Labor (DOL) is stirring the pot. Rather than waiting a reasonable period to see if employers take appropriate actions based upon the 408(b)(2) disclosures, they seem to be trying to provoke participants to agitate for, or migrate to, lower cost investment options. While squeezing excess costs from plans is an incontrovertibly worthy objective, few participants have the specialized knowledge or perspective to further this goal.
This well-intentioned, but misguided “pot stirring” may bring unintended negative consequences. By understanding and being prepared for them, you can help your employees avoid cooking themselves.
- Example 1: A participant with an existing risk-appropriate asset allocation might be driven to exchange their balance into their plan’s low-cost stock index fund. 404(a)(5) told them that the annual expenses of the index fund are lower, but it didn’t tell them that the standard deviation of return (common measure of risk) of the index fund might be higher by a factor of 2 or 3 times compared with the conservative or moderate investment mix they might have had to begin with. Study after study has documented the propensity of individual investors to sell their investments during severe market downturns when their risk tolerances were exceeded.
We’re very much in favor of offering low-cost menu options, but the “cheaper is always better” camp should spend more time studying investor behavior. In the real world, locking in large losses by selling near the bottom can be far more costly to a participant than having paid a higher average expense on their original mix.
Ongoing employee education about the benefits of having a risk-appropriate mix of investments is always a good idea – especially now.
- Example 2: Even if direct plan costs are covered by plan participants, the employer still incurs expenses when they sponsor a retirement plan. These can include the staff expense associated with plan administration, the cost of any employer contributions, and the fiduciary risk involved. Some measurable portion of employers will be more than happy to stop offering this benefit if enough employees are provoked by the disclosures to complain vocally about how lousy their plan is. If it’s a really lousy plan, employees may be better off without it, but those types of plans are the real outliers. Understanding that you may receive unreasonable backlash, and being prepared for it, will help to mitigate this risk.
The bottom line: So what should you do?
- Over-communicating can further stir the pot. If you are doing your job as plan fiduciary, you probably don’t need unsolicited, uninformed employee input. (Informed employees wishing to make constructive suggestions have always been able to do so. The 404(a)(5) disclosures are simply a repackaging of information that has always been available. )
- Doing the minimum to fulfill the 404(a)(5) requirements is a viable option for many employers. Send out the info and see what happens. It is likely that little response will be received.
- Sending the disclosures with a brief explanation may be a good strategy for many employers. It could indicate that the information is being provided to comply with regulations, that nothing has changed (if that is the case), that no action is required, and to provide contact information if there are questions.
- The one thing all employers should do is to be prepared with a well thought out response to any questions that do come in related to the reasonableness of plan fees. To comply with 408(b)(2) you or your advisor probably did a benchmarking analysis. If you determined that your plan’s fees are at or below average levels, be prepared to state that. If your fees are high, but justified, state the reasons (maybe you have a large number of small balances in your plan, and the higher costs are unavoidable). If your costs are unnecessarily high, and if you are looking at alternatives, state that. Make sure that your whole team is consistent with the message.
In summary, don’t let you or your participants get cooked by participant fee disclosure. 404(a)(5) has the potential to provoke inappropriate actions. To reduce that risk, avoid over-communication on fee disclosure, but step-up your normal investment education program.
Decide ahead of time how you are going to respond to questions that come in. Take a deep breath if you receive unjustified “bleep” from uninformed employees. No plan is perfect. Implement improvements over time, as appropriate. You are unquestionably doing the right thing by offering this benefit. Without employer-sponsored retirement plans, our national retirement savings crisis will deteriorate from crisis to disaster. Thank you for what you are doing.
Jim Phillips, President, and Patrick McGinn CFA, Vice President, Retirement Resources
Patrick and Jim have over 50 years of combined investment and retirement plans experience. Retirement Resources in a Registered Investment Advisor that helps employees retire with greater security, while helping employers manage workload, costs and fiduciary liability.
NOTE: This feature is to provide general information only, does not constitute legal advice, and cannot be used or substituted for legal or tax advice.
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