How to Know When It’s Time to Switch Your Service Provider

service provider

By Allison Brecher, General Counsel, Vestwell

The new year is a great time to take stock of your company offerings and, for plan sponsors, that should include a thorough review of your retirement plan. With fiduciary duty on the line, not taking the time to carefully review and make any changes can be a costly mistake. But how do you know when it may be time to pull the plug and switch your service provider, rather than just make tweaks to your plan? Here are some things to keep an eye out for.

Your service provider is not proactive about compliance and/or charges extra to keep your plan compliant

Tax savings is often a main driver for offering a retirement plan, but your plan can lose its tax qualified status and fiduciaries can become liable for potentially significant penalties if your service provider falls short on compliance. Is your recordkeeper proactively monitoring your plan and complying with the legal and regulatory requirements? Or does it only get involved after an issue arises, which can be years later and typically more time consuming and costly to correct? Does your provider review your plan documents for compliance with changing regulations and prepare any necessary amendments?  Or do they alert you to regulatory changes and leave the rest in your hands?

Your service provider does not have adequate data security protections

Think about the kind of data your service provider has on your employees and then think about what can happen if that data gets into the wrong hands. A data breach can put your employees’ personal information at risk, create strained relationships with your workforce, and expose company fiduciaries to liability. It’s important to know how your service provider protects your employees’ information and what it will do when something goes wrong. Most importantly, your provider should:

Have information security protocols in place that have been independently tested and verified by outside experts. In particular, your provider should encrypt all of your employees’ data and store it securely at all times.

Stand behind its procedures by agreeing to pay for and handle instances when data becomes compromised.

Be willing to report any data security incidents to you within 24 hours.

Have cyber coverage to make sure your company is protected and that the amount of coverage is sufficient.

Always be able to restore employees’ data and accounts with minimal or no downtime and disruption. Especially in the current volatile market, your employees should be able to access their accounts 24/7.

Your provider’s fees are unreasonable

It is critical to dig into the details of your recordkeeper’s fees, especially in light of the numerous class actions where plan sponsors and fiduciaries are being sued for operating a plan with allegedly excessive fees. You do not need to select the least expensive provider, but you do need to make sure the fees are reasonable for the services provided. Some things to look out for include:

Fees that are disguised by being included with mutual fund expenses  – – sometimes in the proprietary funds offered by affiliates of your recordkeeper – – that are then kicked back to the recordkeeper. Make sure your provider has disclosed all such conflicts of interest.

Services that cost extra, since some providers will charge sponsors for things such as compliance activities and plan document reviews.

Fees that are reasonable in comparison with others. However, you  cannot know for sure whether a service provider’s fees are reasonable until you ask and shop around. You can do that by getting proposals from other providers or benchmarking their fees. If you determine that your provider’s fees are excessive, you have no choice but to get them reduced and, if your provider refuses, you must terminate them in order to avoid violating your fiduciary duties.

Advisors have a golden opportunity to help sponsor clients understand what they’re getting and the reasonableness of the charges. While some plan sponsors may want to avoid change due to the change management associated with switching providers, the implications of staying with the wrong provider are far greater.

Not Knowing Your Plan’s Fees Can Cost You Plenty

By Allison Brecher, General Counsel, Vestwell

In order to make good investment decisions, it’s important to be informed. Yet one of the more impactful components of any retirement plan is also the area where employers and participants tend to feel least clear: plan fees. While fees are not the only consideration when creating your portfolio or selecting service providers to the plan, high fees can erode retirement savings for participants and can create fiduciary – ie: personal – liability for you, the plan sponsors.

Despite the risks, many sponsors don’t take the time to carefully examine their plan fees or, worse yet, needlessly increase their risk by overpaying service providers who may be charging “hidden” fees. What you don’t see can hurt you, but what questions should you ask to prevent these pitfalls?

First, let’s understand what services are being provided to a typical retirement plan. There are three general categories:

Investment advisory – investment advisors select the investment lineup that they believe is suitable for the plan.

Administration  – recordkeepers and other service providers keep track of the transactions in your account, such as payroll deductions and employer contributions, and make sure the plan is operated in compliance with legal and regulatory requirements.

Direct charges – participants and sponsors are charged for services specifically provided to them, such as for loans, hardship withdrawals, or amending the plan.

All of these services are necessary to successfully operate a qualified retirement plan and, while there is nothing wrong with getting paid, the challenge is to understand how these service providers get paid, the reasonableness of the fee in light of the value of the services, and whether the fee has been disclosed. Unfortunately, it is often not as simple as just asking the service providers because these fees can be embedded in the expense ratios of the mutual funds offered in the investment lineup.

Given all this, how can you get to the bottom of what you’re actually paying and what you’re getting in exchange for those fees?

1. Start with the documents

You should have just received year-end fee disclosures that list all of the expenses paid by the plan. Those notices and the plan’s benefits statements will help you understand the total plan-related fees charged to their account. The plan administrator should be able to provide a list of all direct service charges. All of the expenses paid by the plan or individual participants should be clearly itemized; if they are not, you should probably ask why.

2. Understand share class

Very large employers get the benefit of being able to invest in institutional share classes, which often have lower costs. Some mutual funds create a share class specifically for smaller retirement plans, called Sub-TA fees, which include the fees paid to recordkeepers, plan administrators, or other providers. In other words, the providers’ fees are aggregated with the mutual funds’ expenses and therefore make it impossible for plan sponsors to separately identify and benchmark them. However, you can ask for them to be itemized separately. If you don’t know or understand your share class, you should find out. If you are in one with a high cost, you can insist that your plan be placed in one with lower expenses.

3. Understand conflicts of interest

If your plan provider is an insurance company, there is a good chance your plan’s investments are variable annuities and not mutual funds. Variable annuities are mutual funds owned by an insurance company “wrapped” or protected by an insurance policy, thus increasing expenses with “wrap fees,” surrender charges, or sales commissions in the process. Those fees can turn a low cost mutual fund into an expensive and illiquid investment. The same could be true for plans supported by a mutual fund provider, which has a built-in incentive to use its own funds as part of the investment lineup. Conflicts of interest are not inherently wrong; they just must be disclosed so that the plan sponsor can make informed decisions.

4. Ask about revenue sharing

While the word “kickback” could make you cringe, revenue sharing is just that—a payment made by a mutual fund to compensate service providers that use their funds. Salespeople, brokers, and insurance agents may receive finders’ fees for bringing new business to the mutual funds or negotiated loyalty incentive compensation. Regardless of the type of fee, they are all revenue sharing and they increase the investment’s expenses and reduce investor returns. Sometimes these fees are disclosed as 12(b)-1 fees, but sometimes fund companies pay different levels of fees through multiple share classes. You should ask your investment advisor or read the prospectus. Don’t overlook footnotes about how your plan expenses “may notinclude any contract-level or participant recordkeeping charges. Such charges, if applicable, will reduce the value of a participant’s account.” That is likely a red flag telling you there may be hidden fees.Ask your investment advisor whether it is receiving 12(b)-1 fees, the annual value of those fees, and whether your same mutual funds can be purchased for a different share class with lower revenue sharing fees.

5. Investigate transaction fees

These fees can be especially difficult to understand, yet they are one of the largest expenses that a participant can bear. Every time a mutual fund manager buys or sells the underlying securities within a mutual fund, there is a cost to the trade. Actively managed funds have higher transaction costs than passive funds, like index-based funds, and the participants’ investment returns are reduced by the cost of those trades. While transaction costs cannot be avoided entirely in actively managed funds, they can include brokerage commissions and other compensation paid to the service provider that should be scrutinized. Transaction fees can be found (often with some difficulty) in a fund’s Statement of Additional Information and annual report.

So how are the fees justified? There is nothing wrong with compensating service providers; again, they perform necessary services to successfully operate a qualified retirement plan. But sponsors must ask what services justify these fees and whether the provider yielded material results for participants and beneficiaries. In short, the question fiduciaries should be asking is:  Do these fees exist to pay for reasonable, legitimate, and valuable services that benefit participants of qualified retirement plans and enhance their retirement security?  Or do they exist to support the financial services industry at the expense of participants?

You can largely avoid these issues altogether by investing in lower cost mutual funds, like Exchange Traded Funds or Target Date Funds, and consider using service providers that are not financially incentivized to use certain mutual funds as plan investments. You should be asking yourself the ultimate question regularly:  Have I properly investigated and paid only those fees that were appropriate and reasonable? Hopefully after addressing the questions above, your answer will be “yes”.

 

The (Often) Hidden Costs Behind Retirement Plans

Hidden Costs

 

The number one reason for DC plan sponsors to change their investment manager or recordkeeper is high fees.1 Unfortunately, it is very difficult for sponsors to accurately assess fees because they are typically confusing, hidden, and convoluted (often intentionally). This provides a great opportunity for Advisors to add additional value by guiding their plan sponsors through fee comparisons.

While fees have different names throughout the industry, there are standard services that will typically fall into one of three categories: (1) plan administration and recordkeeping, (2) fund expenses, and (3) ancillary transactional fees. This simple framework will help us compare fees and assist clients with making better decisions about plan vendors.2

1. Plan Administration Fees

There are a LOT of players when it comes to managing a 401(k) plan. As a result, they can account for a heifty portion of retirement plan fees. Here are some service provider fees to look for:

Non-Fiduciary
  • Recordkeeper The recordkeeper tracks basic plan information. They record who can participate in the plan, the flow of money, and the investments participants make.
  • Third Party Administrator (TPA) This service provider serves as a balance between the plan sponsor and the compliance guidelines set forth by the DOL and IRS. They do this by running compliance testing, produce the 5500, preparing plan documents and benefits statements, and tracking general activities carried out by participants.
  • Custodian The Custodian is the institution that holds the retirement assets.
Fiduciary
  • 3(38)/3(21) Investment Advisor  These services are for the investment fiduciary liability that a plan may outsource to or share with an advisor or service provider.
  • 3(16) Plan Administrator This is a fiduciary that helps execute the day to day tasks of plan administration, including distributing participant notices and disclosures and filling year end compliance documents. They have an added fiduciary responsibility to keep the plan compliant.
  • Advisor  This includes plan sponsor consulting, participant education and investment expertise.
  • Trustee This service provider directs movement of assets in a plan.
2. Fund Expenses

Fund Expenses are costs associated with the underlying investment products offered by a plan; there may be any combination of Mutual Funds, Exchange Traded Funds (ETFs), or Collective Investment Trusts (CITs) found in a retirement plan. Fund expenses may like the most obvious fees, yet funds can hide fees charged by other services providers to a plan sponsor and participants. Here are some common expenses you may find wrapped inside a tradition fund expense:

  • Trading Fees charged by fund management company to buy or sell an investment instrument.
  • Fund Management Fees charged to manage a fund; usually paid periodically as percentage of assets under management.
  • Fund Administration Cost for day-to-day administration of a fund.
  • Revenue Sharing A charge that may be included as a  portion of overall fund expenses, paid out to a service provider, typically disclosed as 12b-1, or Sub-TA fees
  • Guaranteed Income Products Similar to an annuity, guaranteed income products offer a minimum level of income for life.  However, these products can charge additional fees that are not required to be disclosed on the participant fee disclosure and early redemption fees if the participant exits the program early.
3. Ancillary Fees

These are one-time fees for individual transactions that a participant may or may not choose to carry out. Below are some common activities that may result in a  charge to the participant.

  • Loans These are fees related to taking a loan against the assets in a 401(k).  They are often substantial and may be ongoing for the maintenance of loan repayments.
  • Rollover Some plans may charge participants to move assets out of a previous 401(k) and into a new one.
  • Domestic Retirement Order (QDRO) A QDRO fee pertains to the allocation of assets in a retirement or pension following a divorce or legal separation.
  • Distribution A participant may request a distribution from certain plans due to termination of service or an applicable in-service provision in the plan document.

The complexity of retirement plans requires a lot of services – and they can add up. That’s why it is so important to help plan sponsors understand what they are paying for and why. Staying on top of fees helps keep participants from over paying and gives plan sponsors an extra level of trust with their trusted advisor.

 

1 Moore, Rebecca. “Investment Manager and Recordkeeper Changes Driven by Fees.”PLANSPONSOR, 26 July 2017, www.plansponsor.com/investment-manager-and-recordkeeper-changes-driven-by-fees/.

2 Does not include all possible fees; Fees listed may or may not be included based on individual plans.