401k Hidden Fees - What every business owner should know.
Written by Financial Advisor Peter Egolf
Employers often fail to genuinely understand the design and costs of their 401K plans. Employers want to offer the best retirement options for their employees but can fall short in executing this plan. As a result, the employer can pay a lot to offer the plan. At the same time, employees receive investment options that unnecessarily erode their potential retirement wealth in favor of the financial industry. Why is this? Fees.
1. 401K plans are a myriad of complexities. The first step is to understand the various parties involved in executing a 401K plan. They include a Recordkeeper, often a Third-Party Administrator (TPA), and many plans also use an Advisor.
- The Recordkeeper acts as the custodian, or holder, of the money in the 401K plan and provides the employer and employees’ interface to access the 401K plan.
- The Third-Party Administrator (TPA) directs the plan’s compliance, ensuring that your business meets testing and compliance procedures, and files all necessary regulatory paperwork.
- Finally, an Advisor recommends the investments to be included in the plan and ideally should provide education and guidance to employees about their plan and investments.
2. What causes fees? The answer depends on your plan. Plans come in all shapes and sizes depending on the plan provider(s). The Advisor, Recordkeeper, and TPA can be all the same company (bundled), or they could be separate companies (un-bundled). Fees come in two buckets.
Types of Indirect Fees:
- Direct Fees – Fees taken straight from the employer or employees are called direct fees. Employees see these administrative charges on their statements, or employers directly pay for these charges to the Advisor, Recordkeeper, and TPA. These fees vary depending on who the Advisor, Recordkeeper, and TPA are on your plan. The employer has the chance to lower the costs of their plan by changing providers, both for the benefit of the employer and the employees.
- Indirect Fees – These fees are where the financial industry has designed complexity. Fees not directly charged to the employer or the employee are known as indirect fees. Indirect fees often come from within the investments, out of sight, and out of mind. Why does this matter? Because the financial industry’s gain erodes the financial future of your employees.
- Sales Loads - If your Advisor or 401K plan includes mutual funds with share classes (e.g., Mutual Fund Class A/B/C), run as far away as possible. Mutual Funds with different share classes represent sales loads or charges that occur when entering, exiting, or spread throughout the investment ownership.
- Revenue Sharing – Understand the relationship your Advisor or Recordkeeper has with the investments they offer and recommend. Revenue sharing is an agreement between different parties to exchange money for getting participants (employees) to invest in particular investments.
- For example, your plan Advisor has a revenue-sharing deal with Company A and only recommends Company A’s mutual fund(s) in your 401K plan. Therefore, as employees invest in Company A’s mutual funds, your Advisor profits. These relationships can be limiting to your plan and force employees into unfavorable investments.
- Another example is if your Recordkeeper only offers limited investment products. Similarly, if your Advisor only works with certain Recordkeepers or works for the same Recordkeeper, there is the potential to limit fund offerings at the expense of employee investment options. It is critical to understand your 401K providers’ relationships to make an educated decision in your employees’ best interest.
The bottom line is that indirect fees can be eliminated by using low-cost index funds. You can accomplish this by utilizing an Advisor who only recommends low-cost index funds and who does not have a conflict of interest with the Recordkeeper and TPA that you use.
At One Day In July, we work with employers to understand their current 401K plans’ direct and indirect costs. As an Advisor to a 401K plan, we only recommend low-fee, index investments. The average expense ratio of the index funds we recommend is 0.09%.
We will help you select a Recordkeeper and TPA that best integrates with your existing payroll systems and results in the lowest direct costs. The goal is that both you, the employer, and your employees know that you have the lowest cost investments in your 401K plan without any hidden indirect fees or excessive direct fees.
Are you an employee at a business and curious about possible hidden fees in your 401k? Read on to learn about the hidden fees every employee should be aware of.
401k Hidden Fees - What every employee should know.