401k Fee Disclosure One Year Later: What We’ve Learned
This summer of 2013 has seen its share of big budget flops at the movie theater. But it could be that the biggest summer flop actually premiered in the summer of 2012?
With twelve months of DOL’s mandatory 401k Fee Disclosure behind us, is it too early to call the brave initiative a flop? Several leading thinkers in the 401k realm have graciously weighed in on this question. You might be surprised by their verdict. But first, let’s recap the expectations immediately before the July 1, 2012 effective date of DOL Rule 408(b)(2), a.k.a. the 401k Fee Disclosure Rule. Its companion rule, 404(a)(5) was directed at participants and became effective a month later.
A year ago this month DOL Rule 408(b)(2) became mandatory. It required all service providers to fully disclose all their fees – both “hidden” and not-so-hidden – as well as the nature of the services those fees covered. Going in, ERISA attorney Fred Reish warned plan sponsors to be wary of a data dump containing so much of both relevant and irrelevant information as to make it nearly impossible for the average plan sponsor to decipher (see “New 408(b)(2) “Guide”: Not Necessarily What 401k Plan Sponsors Hoped,” FiduciaryNews.com, May 8, 2012). His biggest fear is 401k plan sponsors will be the recipients of a core dump of information containing so much – relevant and irrelevant – data it will be nearly impossible for them to understand. Another article (“Zen and the Art of Fee Disclosure: What 401k Plan Sponsors Can Expect from 408(b)(2) Service Provider Disclosures,” FiduciaryNews.com, June 26, 2012) concluded plan sponsors using independent providers would fare far better when it comes to understanding their fees compared to plan sponsors using bundled service providers.
We’ve had a full year to analyze its effectiveness. Tim Wood, Retirement Plan Consultant at Deschutes Investment Consulting in Portland, Oregon declares the Rule a failure. “It’s too easy to ‘hide’ disclosed fees,” he says, adding, “The regulations were lobbied to death by those opposed to transparency, leaving the opportunity to use complex formulas instead of stating fees in real dollars.” Confirming Reish’s initial fears, Wood says, “I have seen ‘fee disclosure’ documents in excess of 20 pages and have seen statements that imply the revenue sharing constituted a ‘deal’ for the participants. I have also run into plan sponsors that seem to think that fee disclosure was a one-time event and are curious when I visit with them about benchmarking.”
In all, almost 70% of the respondents in a recent impromptu survey of FiduciaryNews.com readers rate the new rule a failure. Speaking for many, Greg Carpenter, Founder & CEO of Employee Fiduciary in Mobile, Alabama says, “I do not believe the 401k Fee Disclosure Rule has been successful. The Department of Labor still allows investment providers to obfuscate fees. I have not seen any evidence the 401(k) Fee Disclosure Rule has been successful. It’s been business as usual with no change before and after the new rules. What strikes me about the impact of the 401k Fee Disclosure Rule is the lack of change in behavior by 401k sponsors and participants. We are still fielding the same questions as before. We encounter people who misinterpret our fees because they are fully disclosed and not hidden in the fund’s expense ratio. Ideally, we could simply point them to a competitor’s fee disclosure to make a comparison. Because competitors do not disclose a disaggregated list of fees, we do not even attempt to do this – it will only confuse potential clients. It should be that simple, but it’s not.”
Tim Yee, Co-founder of Green Retirement Plans in Oakland, California agrees the new rule has been a failure. Not only does he think it’s too hard to find the actual fees through the core dump of information, but he also points out the DOL has not provided a uniform reporting template and has not provided a benchmark requirement so plan sponsors can understand their fees in the proper context.
Some (about 10% according to our survey) believe it’s too early to tell if 408(b)(2) is working as advertised. “I don’t think the 401k Fee Disclosure Rule has had time to be judged as successful or unsuccessful,” says Charles ‘Buck’ Blanton, Fiduciary Consultant at Independent Fiduciary Consulting, LLC in Jacksonville, Florida.
Ron Rhoades, Program Director, Financial Planning Program, Alfred State College, Alfred, New York, can be counted among the 20% of the survey respondents who believe the Rule hasn’t been a failure. “I believe the result can be categorized as a ‘qualified success,’” he says. As evidence, he points out, “The impact of the disclosures has led many plan sponsors to renegotiate fees with providers of investment solutions downward.” Rhoades remains worried, though, that some plan sponsors have not taken the disclosures seriously. “It must be remembered,” he says, “that the disclosures are only the first step. Plan sponsors must ensure fees are reasonable, and to do this they should benchmark the services and fees against those offered by comparable providers to determine whether the plan’s arrangement is reasonable. A plan sponsor stating ‘I’ve had a long-standing relationship with my retirement plan advisor, and even though her or his fees are a lot greater, I’ve decided to stick with them,’ is simply not meeting the requirements. Sadly, this too often occurs.”
But, while fee disclosure might be working for plan sponsors, it may not be working for plan participants. “In the case of plan sponsors, fee disclosure seems to have been moderately successful: Sponsors are both more aware that they are actually paying something for their plans, and specifically how much they are paying for their investment options,” says Jonathan Leidy, Principal at Portico Wealth Advisors in Larkspur, California. On the other hand, says Leidy, “With respect to participants, disclosures have been an utter non-event. We have literally sat down with hundreds of employees since fee disclosures first went into effect. During that time, not one of them has inquired about fees, and in particular, about 404(a)(5) disclosures. Participants were no more interested in their plan-level costs before disclosures. Apart from the death of several hundreds of thousands of trees, I would say that participant disclosure is more of a non-event than an out-and-out failure.
Robert M. Richter, vice president at SunGard’s Relius Solutions in Jacksonville, Florida. “I believe the sponsor level disclosure (408(b)(2)) has had some limited success. I consistently hear from customers that fees have been decreasing. Participant disclosure (404(a)(5)) does not seem to have had an impact on participants or providers (other than providers incurring significant expenses to comply with the disclosures).”
Like others, Yee blames, in part, the participants, who he believes “don’t read disclosures.” Indeed, according to our survey, nearly 60% of the respondents don’t believe participants read their statements and more than 77% believe participants don’t read their disclosures.
In pinpointing the main problem with 401k fee disclosure, fiduciaries keep returned to the points made by Reish in May 2012 and, in particular, the warning about bundled service providers in the June 2012 FiduciaryNews.com article. “Plan sponsor and participant fee disclosure rules are intended to provide an increased level of transparency to all fees that apply to retirement plans,” says Richard Rausser, Senior Vice President of Client Services at Pentegra Retirement Services in White Plains, New York. “The DOL rules are supposed to enable plan fiduciaries to determine if service provider compensation in reasonable and if the service provider has any conflicts of interest.” Unfortunately, says Rausser, “The presentation format tends to be overwhelming for the typical plan sponsor and not all that helpful. Many plan sponsors cannot seem to take the time required to read and fully understand all of the implications of the fees that are disclosed.”
Worse, the ineffectiveness of the 401k Fee Disclosure rule appears to discriminate against smaller plans, where the bulk of the nation’s workers reside. Greg Patterson, CEO of The Advisory Group in San Francisco, California says, “The dilemma is that some fund/401k product providers have found new ways to comply with the regulations, while keeping cost disclosures opaque. For example, they may provide the disclosures, but make them long and/or unclear, or require that plan sponsors track down and reference multiple documents and piece the puzzle together themselves. Smaller and lower-mid-sized plan sponsors rarely have the staff/time or knowledge to identify and push providers for greater clarity or fairer pricing or the elimination of conflicts of interest. As a result, the average participant in the US finds their situation essentially, and unknowingly, unchanged.
What can be done to improve the effectiveness of fee disclosure? Chace Cannon, Investment Advisor at Cannon Capital Management, Inc. in Salt Lake City, Utah says, “I believe the fee disclosure rules have not been as effective as they were intended. They are too confusing and not uniform enough. There are still ways to hide fees from participants, but not from the Trustees of the Plan. The DOL needs to produce a generic form that all Plan Sponsors need to have service providers fill out and list all of the fees that they receive and how they receive it (direct compensation, revenue share, commissions, etc.) Then once a year this form can be sent out to participants and made available on the Plan website, this way participants can compare that information to their statements. If the DOL is able to make the Fee Disclosure Rules less complicated and provide the generic form for ever Plan Sponsor, they would know how much is being paid, to whom it is being paid, and how it is being paid. This would also provide an easy way for the Plan to benchmark their fees as well as fulfill their fiduciary duties to the Plan of determining if their fees are reasonable.”
Along similar lines, Patterson suggests, “To improve the effectiveness of the 401k Fee Disclosure Rule, the DOL might require that plan and/or provider submit a standardized method of plan and fund cost data into an on-line tool, that would compare their costs vs. other plans by size, and the plan sponsor would have to submit the output of that tool with their form 5500. Some examples of data that could be submitted/compared are a) weighted average fund costs at the overall plan level; b) weighted average mutual fund costs at the asset class level; c) whether or not the 401k provider collects revenue from each fund in the plan; d) total plan costs; e) whether or not the fund within a certain range relative to an asset-class-specific index over longer time periods (this is a deeper subject that should help address cost effectiveness, not just cost). Plan sponsors would then by definition become more aware of their plan and participant costs and provider conflicts, and the DOL or industry specialists could then utilize/publish that data. This method would be a relatively low cost burden on the DOL.”
Plan sponsors don’t need to wait for the DOL to clarify things with a template (although that might make things easier), they can take matters into their own hands today. After all, the DOL now holds the plan sponsor liable for failure to obtain fee disclosures from service providers. Plan sponsors, if they can’t easily understand fees after receiving the usual core dump can simply declare the fees haven’t been disclosed and require the provider to provide the proper documents “or else.” “Plan sponsors should insist that disclosures occur in a single document,” says Rhoades. “They should not be forced to look at Form ADV Part 2A for some disclosures, then to a separate document for other disclosures of fees and costs.”
If there’s anything we’ve learned after a year of the DOL’s new 401k Fee Disclosure Rule, it’s that, while its effectiveness might be suspect, it has empowered plan sponsors (at the cost of greater fiduciary liability) to bully service providers when it comes to fees. That some plan sponsors have neglected to use that power can’t be blamed on the DOL.
Interested in learning more about this and other important topics confronting 401k fiduciaries? Explore Mr. Carosa’s book 401(k) Fiduciary Solutions and discover how to solve those hidden traps that often pop up in 401k plans.