Managing Your 401(k) Fees
The Department of Labor provides a great deal of flexibility in how plan fees are determined and paid. Retirement Plan Committees have a fiduciary responsibility to evaluate and document how all administrative expenses are structured and paid. Recordkeeping fees and other costs associated with managing the plan have a significant impact on retirement outcomes for employees. Understanding available options increases transparency and allows Committees to assess reasonableness.
Retirement plans commonly include funds that engage in revenue sharing, which is crediting a portion of the fund expense ratio paid by participants back to the plan. Using revenue sharing to pay all or a portion of plan administrative expenses is an acceptable practice. On the surface, this practice does not seem unfair, but unfortunately, using revenue sharing to pay plan expenses can fall far short of fair. Let’s take a look at why. Most 401(k) plans offer a combination of actively managed funds and passively managed index funds. Within this structure, actively managed funds have a higher expense ratio and, in many cases, provide a credit for a portion of the expense ratio back to the plan via a revenue sharing arrangement. Passively managed index funds, on the other hand, generally do not provide revenue sharing credits. In this example, the plan is receiving a revenue credit for each dollar invested by participants in the actively managed funds and no revenue credit for each dollar invested by participants utilizing the passively managed index funds. If the Retirement Plan Committee chooses to use revenue sharing to pay fees, plan participants utilizing the actively managed funds typically end up paying a greater share (or the entire share) of the plan’s administrative expenses than participants utilizing the index funds. While plan administrative services benefits all participants, this unequal weighting of the fees is bound to end up being unfair.
Retirement Plan Committees have several possible methods of charging for administrative expenses that fairly distributes plan fees across the participant base. Potential solutions include:
- Credit all revenue sharing back to the plan participant. Virtually all recordkeepers have the ability to periodically return the revenue sharing amounts directly to the plan participant. Plan-related expenses in the form of either a basis point fee or per participant fee can be charged directly to plan participant accounts.
- Construct the investment line-up utilizing “clean” share classes that do have revenue sharing. Depending on the fund company, clean shares can be referred to as “institutional” or various forms of “R” share classes. Plan-related expenses in the form of either a basis point fee or per participant fee can be charged directly to plan participant accounts.