401(k) Fee-Asco

A Yale professor is providing a perfect follow up to this year’s PBS episode of Frontline called "The Retirement Gamble." That program detailed America's retirement crisis and the financial services industry’s feasting on high fees inside of many employer-sponsored plans. Professor Ian Ayres has recently completed an exhaustive analysis of company-sponsored 401 (k) plans and found that many charge excessive fees. But Ayres has taken the research to a new level by sending about 6,000 letters to companies, saying he would disseminate the results of his study next spring and would specifically identify and expose those companies with high-cost plans.

The concept of reeling in retirement plan fees gained a bit more momentum last year, when the Department of Labor put new rules into effect, which required 401 (k) sponsors to disclose fees and performance data to plan participants. The first round of the more detailed information was sent in November 2012 and, despite all of the media hype, those disclosures did not make much of an impact.

According to the EBRI 2013 Retirement Confidence Survey, about half (53 percent) of defined contribution plan participants reported having noticed these new disclosures, and only 14 percent of those who noticed (7 percent of all plan participants) said they made changes to their investments as a result.

This data gibes with findings from consulting firm LIMRA, which found that half of plan participants do not know how much they pay in plan fees and expenses. In fact, about a fifth of all participants think they pay nothing for their retirement plans.

To review, there are a bunch of fees that participants pay, including administrative, trustee and investment fees. The average plan costs about 1.5 percent, with larger company plans coming in at closer to 1 percent and small to medium sized ones sometimes costing in excess of 2 percent.

You may think that a half of a percent does not seem like a big difference, but that fraction could cost you hundreds of thousands of dollars over time. As a baseline, if you were to start with $100,000 and invest it over 50 years at a 7 percent return (compounded monthly) with no fees, you would end up with approximately $3.2 million.

If you apply the average plan fee of 1.5 percent, the future amount is more than halved to just over $1.5 million. But if you are in an expensive plan and the fee is 2 percent, your future value drops to $1.2 million at the end. That’s $300,000 that could be falling to your bottom line! 

What should you do if your retirement plan is more expensive than the average? One benefit to the disclosure rules is that plan participants can be empowered to effect change. The first step is to review the disclosure that was sent. If your plan costs more than the average of 1.5 percent, gather as many co-workers as possible and lobby your boss for a cheaper plan. It may surprise the boss to learn that he or she could find cheaper alternatives. But it is notoriously difficult for smaller companies to get the best plans. The reason is that the financial services industry likes scale. It takes a lot of money to provide all of the services necessary to operate a retirement plan, so financial companies like to land the big fish.

If you hit a brick wall on a new plan, then at the very least, try to have cheaper investment options added to the current plan. Index funds, which carry much lower fees, can make a big difference. I recently helped a radio caller navigate her 401 (k) plan investment options. By shifting from costlier actively managed funds to index funds, her cost of investing dropped from over 1 percent to just 0.25 percent.

It can feel burdensome to stay on top of all of these issues, but hopefully the long-term benefit outweighs the short-term work involved.

© 2013 TRIBUNE MEDIA SERVICES, INC.

Why everyone should watch "The Retirement Gamble."

I get a lot of questions these days about my opinion of the recent PBS episode of Frontline called "The Retirement Gamble." The program details America's retirement crisis, highlighting some of the facts that I have written about in this column, including: one in three Americans has no retirement savings at all; one in two say that they can't save enough; and the demographics of an aging population are making matters worse. But the documentary goes one step further in pointing a finger directly at the financial services industry. Frontline accuses major financial companies of feasting on high fees inside of many employer-sponsored plans, pushing retirees into products that may be "suitable" but not in their best interests, and providing murky disclosures about the funds and annuities that they urge the public to buy.

The roots of the "Retirement Gamble" were planted in the early 1980s when 401(k) plans were first introduced. At that time, American workers were mostly covered by company-provided pension plans, and the new fangled 401(k) was designed to supplement pensions, not replace them. But companies soon seized the opportunity to reduce costs and dumped the long-term liability of employee pensions. Within a few years, the 401(k) became the go-to retirement vehicle.

At the time, few people saw the advent of the new plans as a massive risk transfer from corporations to employees, but that's exactly what happened. After all, corporate America was not about to tell workers, "Hey, instead of your boss paying into a guaranteed retirement plan, the risk of making contributions and managing your retirement money is entirely on you!!"

It has taken everyone a long time to wake up to this fact because of market timing: 401(k)s took hold at the beginning of the biggest bull market in history for stocks and bonds. Even as markets hiccupped every now and then from 1982-2007, they often rebounded quickly, masking the larger risks that plan participants were bearing and generally diminishing people's respect for investment prudence.

Flash forward to the present, where countless retirees and would-be retirees have discovered those risks up close and who are trying to rescue their now-depleted retirement accounts.

In the past, I would have taken a moment like this to extol the virtues of financial literacy. But my opinion on that front has shifted after interviewingHelaine Olen, author of "Pound Foolish: Exposing the Dark Side of the Personal Finance Industry." Olen notes that financial literacy really does not help change the basic facts: Some of the best-educated people still make lousy financial choices, and "sometimes bad financial events can happen to us."

One of the problems with literacy efforts is that they are often financed by big financial institutions, whose motives may be suspect. Many of these big companies promote their public education projects, while they continue to sell murky, complicated products at the same time.

The industry is not just fooling investors -- in some cases, it is fooling itself. When Frontline asked Michael Falcon, the head of retirement for J.P. Morgan Asset Management, about the negative impact that mutual fund fees have on investors' returns and whether putting clients' interests first is a better model, he seemed to be at a loss for any reasonable response.

But the most cringe-worthy part of the program goes to Christine Marcks, the head of Prudential Retirement. When Frontline correspondent Martin Smithasked Marcks about the evidence that most actively managed mutual funds fail to beat index funds, her response was, "Yeah, I haven't seen any research that substantiates that. I mean it -- I don't know whether it's true or not. I honestly have not seen any research that substantiates that."

That is an astounding response. Marcks could have evaded the question and said that actively managed funds might beat the indexes from time to time, which is why retirement plan investment consultants exist -- to find the best funds available. But to insist that she hadn't seen any research is simply not plausible. In that one response, she became the poster child for what's wrong with the industry and why everyone should watch "The Retirement Gamble."

Distributed by Tribune Media Services, Inc.