The sponsor and others responsible for managing the investments in 401(k) plans have a fiduciary duty to prudently select and monitor plan investments, investment options made available to participants, and the persons providing services. Evaluating fees associated with investment is an important part of this fiduciary duty. Fees must be "reasonable." The effect of fees and expenses on a retirement account year after year can be very expensive.
The regulators are cracking down on 401(k) plan providers who accept unreasonable hidden administration fees and have participants buy more expensive mutual funds so that they can reap bigger fees.
In October 2010, the U.S. Department of Labor (DOL) announced a rule to give 401(k) plan participants more information about the fees and expenses associated with their plans. The goal is to make sure employee/participants are fully aware of the cost of 401(k) fees and the impact on their plan balance. The regulation was to be effective July 16, 2011. Instead of producing the information, plan fiduciaries spent the time complaining that the disclosure requirements were too burdensome. The DOL delayed the effective date to April 1, 2012 and 60 days after that to actually get out statements. Penalties for failing to itemize fees range from 15% of the plan's assets to 100% if it takes the company longer than the current calendar year to fix the problem.
Some providers are already compliant with the new regulations, and use it as an advantage when selling their products. The emphasis is on transparency. Fees should not be hidden.
What sorts of fees are we talking about?
Plan administration Fees. Record-keeping, accounting, day-to-day expenses. Some providers may offer additional services such as educational seminars, access to service representatives, daily pricing info electronically available, and so on. These costs are paid either by the employer or taken out of the plan or covered by investment fees that are deducted from the plan.
Individual Service Fees. If there are special services offered, there may be additional fees. For example, if you can take a loan from your plan, there may be a fee for arranging that.
Investment Fees. The largest fees are usually a percentage of the market value of plan assets invested. They are deducted directly against your investment return. There are two main types: sales charges (also referred to as loads or commissions) and management fees (also referred to as investment advisory fees or account maintenance fees).
Sales charges are the costs of buying and selling. They can be computed in different ways. A front-end load is deducted up front. A back-end load is deducted when you sell your investment and the percentage of the load varies depending on how long you held the investment. Some are straight commissions.
Management fees are ongoing charges for managing assets, usually a percentage of the value of the assets charged annually. The percentage charged for these fees can vary widely.
If your plan invests in mutual funds, there are additional fees to consider. In addition to sales charges and management fees, mutual funds may also charge what is called 12b-1 fees. These fees can be used to pay commissions, pay for advertising, costs of promotion, and various service providers. 12b-1 fees are deep in the fine print of the prospectuses for plan funds. Not only is it hard to figure out what the 12b-1 fees are, but it's even harder to find out whom they are paid to. You might be surprised to find out that part of these fees are "shared" with your plan administrator (even though the administration was supposed to be looking for low fee providers).
If your plan invests in variable annuities, there will also be insurance charges, since annuities have an insurance component, including sales charges, mortality charges, and administration fees. Annuities often have surrender charges that apply when a contract is terminated.
Sometimes there is a single "bundled" fee paid to one service provider that covers all of the fees listed above. In other plans, each service may be charged separately. You need to make sure you are comparing apples to apples. In order to compare a single fee plan with an unbundled fee, you have to make sure you have all of the unbundled fees.
The short story is there are a lot of fees associated with your 401(k) plan. Your job is to figure out what you're paying, and it won't be so easy. Since the disclosure regulation isn't in effect yet, you will have to make sure you ask all the right questions and hope you get answers. You can ask your plan sponsor to provide a 401(k) Plan Fee Disclosure Form. If plan fiduciaries want to provide good service to you, they will provide the information. The Department of Labor provides an example here: http://www.dol.gov/ebsa/pdf/401kfefm.pdf. After all, why should fees be a secret?
The U.S. Department of Labor provides a downloadable booklet for plan participants called "A Look at 401(k) Plan Fees." found at http://www.dol.gov/ebsa/publications/401k_employee.html. Another good source of information is Bright Scope. Check out your company or Financial Advisor at http://www.brightscope.com/.
