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The Greatest 401(k) Book Sequel Ever, by Ary Rosenbaum – Chapter 3

The Greatest 401(k) Book Sequel Ever, by Ary Rosenbaum – Chapter 3
March 27
00:04 2018

I saw the changes in this business a mile away

People ask me all the time why I started in the retirement plan business and I jokingly say it’s because it was the first job I got. The fact is that it’s really the truth. I had a tax LL.M degree from Boston University so I knew that my future was in tax. I didn’t know it would be retirement plans until I found an ad online for a third party administration (TPA) firm that was based in Syosset. As it turns out, the TPA was moving from its New York City office to Syosset and I was hired by Harvey Berman to work for Berman, Sussman, & Forseter, which was a law firm affiliated with Mobius Tech.

In those days, I was very quiet in my work and interaction. Perhaps I didn’t have the confidence that I do know, but I think a lot to do with the fact that I was so happy to have a job, that I really had no interest in making waves.

It was an interesting time to enter the retirement plan business as the Fall of 1998 was a good time for the stock markets as there was a dot.com bubble that was a few years away. Everything dealing with technology stocks was going through the roof, so there was certainly a push for employers to shift to participant-directed daily valued 401(k) plans. While the Internet and world wide web was still a thing, online sites where participants could direct their own investments and make changes online were a couple years away.

While I had a tax LL.M degree and actually took courses in ERISA at Boston University, I really had little idea how retirement plans actually worked. I knew the basics dealing with the tax code aspects of it, but I really had no idea how they really worked, how they were administered in actuality, and dealing with administrative costs was never a concern.

Mobius Tech had a financial advisor onsite that they were affiliated with; the principals of Mobius Tech actually owned a piece of Dennis Lynch’s firm. Dennis Lynch is one of the nicest guys in the business I ever met and he taught me a lot of the financial aspects of setting up a retirement plan especially when it came time to fund selection and revenue sharing. Dennis was the financial advisor of the Berman Sussman plan, so he was kind enough to add some funds I would have liked to see especially when the plan shifted from a trustee directed plan to a participant-directed plan.

Dennis was a good financial advisor and if the folks who owned Mobius Tech cared about making money, they would have done a better job of extolling Dennis’ talents since they owned a piece of his business and the fact that they were spending a lot of money on the daily valued side of their TPA operations. Had they done a good job of promoting Dennis to the plans they administered that didn’t have advisors, they could have curbed their TPA losses by what they could have made through Dennis. That is really no surprise as most people I come across are just shortsighted.

So in my many discussions with Dennis, he told me about revenue sharing. Revenue sharing isn’t anything that was talked about in a retirement plan textbook and I always say that whatever you deal with as an ERISA attorney usually isn’t in a textbook. Revenue sharing was payments that a mutual fund pays to a TPA to offset administrative expenses. The concept is that since the mutual fund company is not doing the participant recordkeeping that the TPA has to for retirement plans, then the mutual fund company could send this sub t/a fee to the TPAs. Retirement plans holding mutual fund assets is a lot less recordkeeping than individual mutual shareowners.

On paper, revenue sharing seems fair. Mutual fund companies paying TPAs for recordkeeping services they might have been required to do. The problem is that not all mutual funds pay revenue sharing. If an index fund is only charging 10 basis points for their management fees, there is absolutely no room for them to paying revenue sharing to TPAs. So it looked like only actively managed funds who charge a large enough management fee can pay revenue sharing.

Since only certain funds paid revenue sharing, it would stand to reason that plan sponsors would be gently pushed into adding revenue sharing paying funds with the TPA and financial advisor’s claim that revenue sharing would cut down on plan expenses. It didn’t, but no one would explain that to the plan sponsor because no one in the industry in 1998 to around 2008 would explain the negative impact that high management fees in mutual funds would cause. No one would ever mention that a plan sponsor had a fiduciary duty to pay reasonable plan expenses and that revenue sharing was just really a shell game where large management fees would be used to “lower” TPA expenses. Plan sponsors who wanted to use lower costs index funds were led to believe that index funds in plans would be more expensive because there was no revenue sharing to be used.

I’m all for fairness and keeping things on the up and up, so I though revenue sharing was just some sort of “kickback” scheme. It reminded of the days of payola were certain radio disc jockeys received payment from record companies to play the music from the record companies’ artists. Mutual funds that paid revenue sharing would use that payment as some sort of enticement for plan sponsors to pick that fund for their 401(k) plan. The only difference between revenue sharing and payola is that only payola was illegal. I always say that revenue sharing is only legal because Congress hasn’t passed legislation that made it illegal. People scoffed at me, but I knew the truth that plan sponsors were being solicited to use revenue sharing because it would make the TPA’s fees look lower. Later, I knew that TPAs that would switch plans from one platform to another platform that produced more revenue sharing and didn’t properly disclose that the TPA would end up making more money than because of the revenue sharing they were pocketing. The biggest problem with revenue sharing wasn’t that not every fund was paying it, the problem was that most plan sponsors were using revenue sharing as the sole or predominant reason for picking specific funds for their investment lineup.

I remember talking to Dennis in 2000 when I heard about the first class-action lawsuit regarding revenue sharing and it was dealing with Nationwide plans. This lawsuit was prior to the DeWolf Supreme Court case that made it easier for 401(k) plan participants to sue. I told Dennis that I thought that there would be some merit to these lawsuits later down the line because it seems that plan sponsors were being pushed to select revenue sharing paying funds. While I was a big advocate of low costs index funds, most plans didn’t have any index funds and if they did, the only index fund they’d have is an S&P 500 index fund.

Mobius Tech sold their business to CBIZ and Mobius Tech became CBIZ Retirement Plan Services, Inc. in 1999. While I was told at the time that this was a great thing, I had a feeling it wasn’t and the reason why is that the same people who mismanaged Mobius Tech would still be left in charge. I was right when CBIZ decided to sell that block of business to a company called Bisys, which now is Ascensus. The deal closed in 2002 and I was soon going to be out of a job. Thanks to a recommendation of our salesman Rich Laurita, who was joining a competitor TPA known as Geller & Wind, I receive d a job offer to be an ERISA attorney. 8 weeks after joining Geller, I became their top ERISA attorney probably because I made a quarter of what the ERISA attorney they worked with was making.

Unlike Mobius/CBIZ, Geller & Wind made money and it had a lot to do with the fact that they had an affiliated asset advisory firm. It’s hard to make money as a TPA because of the competition and the thing margins, but it’s a lot easier if you can make money off the assets. So much of what I learned about plan costs and how the industry really works was at Geller. I saw the mutual fund companies trying to curry favor with the investment advisors who would make recommendations on fund lineups with gifts and sports tickets. I saw how much attention was given to pricing and how revenue sharing was such a big part of it. Everything was about the per-head charge and how plan assets could be used to lower that charge.

Towards the end of my run at Geller, I was really fed up with how so much concern was given to pricing and investment selection and not so much to competent plan administration. I told some people at Geller, namely some plan administrators that there was going to be a time when revenue sharing was going to be out of favor and there would be an increased concern into how much plan sponsors were paying in administrative expenses especially since the method paying those expenses were through hitting the participant’s accounts for payment. One of the plan administrators named David was laughing; he thought I was crazy to suggest revenue sharing would be obsolete. Since he managed the plans we had on the Nationwide platform and the fees they charged backed in the day, well reality and inevitability wasn’t something he’d understand.

I left Geller in 2007 and in 2008, the stock markets cratered thanks to the sub-prime mortgage mess. When the markets are great and everyone is making 30% annually in their 401(k) accounts, no one considers plan expenses and revenue sharing. When participants lose 30% annually, they start to be concerned about plan expenses. Around the time I started as an associate at Meyer Suozzi English & Klein in 2008, one of the biggest selling points that I had in trying to grow a practice was looking at how much a plan sponsor paid in administrative expenses and making sure they benchmarked fees. That was 4 years before the Department of Labor implemented fee disclosure regulations. It was around the time that I met the Alfred brothers who started Brightscope.com, which was one of the first websites that was dedicated to plan sponsors to identify whether their plan was paying too much in administrative expenses as compared to what other similar plan sponsors were making.

After I started my own practice in 2010, I did a ton of marketing and wrote a lot of articles talking about high fees and the pitfalls of revenue sharing. I met James Holland from Millennium through many of my posts and articles on LinkedIn and he was one of the first advisors out there that really understood fee transparency and the need for it. I remember working with James on LinkedIn against this financial guy named Elmer who claimed that small and medium-sized plans would never be sued for increased plan costs. He claimed that what James and I were doing was just selling fear.

Thanks to the issues dealing with low market returns and increased litigation against 401(k) plan sponsors, fee disclosure regulation became reality in 2012. Of course, so much of the industry claimed that plan sponsors would get rid of their 401(k) plan or select only the cheapest plan provider because of fee disclosure requirements. Guess I wasn’t the plan provider selling fear. I knew the industry would survive and thrive with fee disclosure, as transparency would create a more competitive and level playing field. Plan sponsors weren’t going to dump their retirement plan because of the headaches of fee disclosure, they’d just have to get a little more educated on what they needed to do as a plan sponsor. As we stand here in 2018, we see that so many of my predictions regarding the retirement plan business came true.

Am I a genius? Absolutely not. I just understand human nature and that the disbursement of information is inevitable. If plan sponsors were being sued for paying too much in fees, there was going to be some information being divulged how much the plan was paying in fees since they had the fiduciary duty to make sure the fees were reasonable.

If fee disclosure regulations weren’t going to kill the retirement plan industry, you’d suspect that a new fiduciary rule would do 401(k) plans in. So many broker affiliated industry groups claimed that a fiduciary rule that would encompass brokers would get plan sponsors to get rid of their plans or for some reason, cut back on employer contributions.

Like every other big business out there, the retirement plan business will adapt and survive. While the new fiduciary rule would knock out some brokers out of the retirement plan business because they don’t want the headache of complying, there will be some advisors out there who will thrive because of the new rule.

The point here is that while I saw all the changes in the business all those years ago, you can too. You just have to understand human nature and how people and businesses can react to a changing environment. Identifying where the industry is heading is a huge competitive advantage in growing your business and competing against other providers. For example, financial advisors and TPAs that practiced fee transparency before it was legally required were at a competitive advantage over the providers who were skilled at hiding their bloated fees.

While I predicted how the retirement plan industry was changing, I just wish I can predict next week’s Powerball winning numbers, that would be a lot more profitable and useful.

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Christopher Carosa, CTFA

Christopher Carosa, CTFA

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