Retirement planning is no simple task - but it just got a little easier. A growing number of specialized firms have started digging deep into retirement plan documents to unearth competitive details about how the plans work. This new due diligence is developing ahead of Labor Department regulations, which are scheduled to take effect early next year, that will require more detailed disclosures of underlying plan expenses.
In February, the Labor Department will begin requiring retirement plan providers and third-party administrators to reveal investment expenses and service provider fees to plan sponsors. Employers, as the plan fiduciaries, will be required to disclose what participants' share of the plan costs are. The idea is to give firms and investors the data they need to make informed decisions about their retirement savings.
"This is probably one of the most transformational events I've witnessed since the elimination of front-end loads" from many mutual funds, says Ryan Peterson, president of Wisdom & Wealth Solutions, a registered advisory firm based in Raleigh, N.C. The new disclosures certainly could have far-reaching effects. There are 498,000 retirement plans with 401(k) features in the U.S., with 43.1 million active participants holding $2.8 trillion in assets, according to research from Cerulli Associates.
Seeing the Light
One firm specializing in retirement plan scrutiny is BrightScope, a San Diego-based startup that rates the quality of 401(k) plans at public and private U.S. companies. BrightScope's co-founders recognized that Americans needed better information about their 401(k) plans because the plans had become their primary means of saving for retirement, says Mike Alfred, the firm's co-founder and CEO.
"You could not go online and look up how good a plan was. You couldn't figure out if the match was good," he says. "We thought that was a problem that needed to be fixed."
That widespread opacity could affect American's ability to retire comfortably. It could also obstruct plan sponsors' judgment, because they do not always understand the fees behind their plans, Alfred says. BrightScope takes a lot of its inspiration from Morningstar, which is credited with helping purge loaded mutual funds from the industry, simply by publishing their associated costs.
Along with co-founder Ryan Alfred, he developed a process of sifting through third-party audited retirement plan tax filings at firms with more than 100 employees. BrightScope investigated about 50,000 plans, chosen based on initial criteria for company headcount and independent auditing.
BrightScope measures each plan's costs, company generosity, quality of investment options, employee participation rate, salary deferrals and account balances, and factors them into an overall rating on a scale of zero to 100. Every report displays the plan's all-in ranking and compares it with that of six other companies in its peer group. BrightScope puts its reporting front and center - posting some of it on its website for free.
"When we talk to plan sponsors, I don't think they understand the liability they face," says Peterson, a BrightScope subscriber. "When the detailed 401(k) statements come out and participants see the fees, there is a lot of potential for lawsuits to occur."
Ameriprise Financial learned that in early October, when several former employees sued. They accused the firm of steering participants toward investments that were too expensive, costing them $20 million in excessive fees.
"This is a copycat lawsuit by a law firm that has brought similar cases against companies across the country, and we plan to defend it vigorously," Ameriprise said in an emailed statement.
In mid-July, a Denver-based 401(k) plan service provider, Lincoln Trust Co., introduced the personalized expense ratio, a customized 401(k) plan cost calculation. Lincoln Trust calculates the ratio on an average daily basis, and then compares costs with average costs of similarly sized plans. To get that benchmark, Lincoln Trust relies on data from the 401(k) Averages Book, which offers independent comparisons of 401(k) fees. It also relies on the most recent findings from the Deloitte and the Investment Company Institute's Defined Contribution/401(k) Fee Study.
A plan with an ending balance of $82,581.20 and $238.16 in quarterly plan fees would end up with a personalized expense ratio of 1.20%. That example falls below the $298.54, or 1.50% cost, for a similarly sized plan, according to the 401(k) Averages Book.
The Labor Department's new rules don't go this far, as they will only require plan sponsors to disclose the expense ratio of the fund, per $1,000 balance in the participant's quarterly statements. Each investor must calculate the ratio to get a more precise breakdown.
"It can be very inaccurate, especially if a participant switches from a high- to a lower-expense ratio fund," says Tom Gonnella, senior vice president of corporate development for Lincoln Trust. Even with the new Labor Department disclosures, "you are going to get skewed costs," he says.
AVL Wealthcare, a financial planning firm in Gulfport, Miss., with 15 plan sponsors as clients, uses Lincoln Trust, among several other retirement plan administrators. The personalized expense ratio is a big step forward in terms of transparency, says Robert E. Bass Jr., a vice president at AVL Wealthcare.
"It will make the decision-making clearer because the information will be consistent," Bass says. "You can get past the nuts and bolts information, and get down to the qualitative things about what is the best fit for the company."
Fiduciary Benchmarks, based in Portland, Ore., launched its own service four years ago to get behind the numbers and show companies that sponsor retirement plans how they stack up against their peers. Each of Fiduciary Benchmark's clients gets a detailed custom report that examines its plan fees, design and participant success.
As part of this customization, the company creates unique benchmark groups it will use to measure each plan's success. Fiduciary Benchmark uses as many as nine factors to sort retirement plans into benchmark groups, including a plan sponsor's industry, the amount of plan assets, the number of participants, the last year in which a plan was reviewed or came up for a bid, and the number of plan assets in index funds or managed accounts.
"The people who built this all have substantial industry experience. We know where the bodies are," says Tom Kmak, co-founder and CEO of Fiduciary Benchmarks. "We know where people put things to sort of make things look as favorable as they can in their bid. It is our job to uncover it and normalize it. This is no time to put something in a file that would completely fall apart upon scrutiny."
The Labor Department hopes fee disclosures will allow future retirees to comparison shop among a plan's investment options. Consumers will likely start to demand plan sponsors explain what they're getting for their money, says Louis Harvey, founder and president of Boston-based research firm Dalbar.
Service providers and third-party administrators don't need to deliver the cheapest services, planners say. Rather, costs should be reasonable and in line with the quality of investments and supporting services plan sponsors and participants receive. A simple mantra of "the lowest-fee is right" won't work for retirement planning, Kmak says.
"If we are at commodity status in the retirement planning industry ... every participant would be able to retire well ... and everyone would have the same success measures," he says. "And that is clearly not the case."
Donna Mitchell is senior editor of Financial Planning.