The overriding intent of the Employee Retirement Income Security Act 408(b)(2) regulations is noble: Defined benefit and defined contribution pension plan providers now are required to disclose the internal costs and fees of operating 401(k) retirement plans. With this full disclosure, a self-correction of plan pricing may occur. As fees now are clearly stated, fiduciaries and plan sponsors will compare apples to apples and, I believe, shop for a less expensive plan. As a result, higher-cost plans will be replaced with lower-cost plans.
However, one of the unintended consequences – which may not become evident for a few years, but could have a dramatic and negative impact on 401(k) participants – is that these lower cost plans may compromise the level of service provided. As plans compete on price, service may take a backseat.
This natural progression toward less expensive plans will be occurring at a critical time. With interest rates at historic lows, and more than 10,000 baby boomers reaching retirement age every day for the next 18 years, according to Pew Research Center, plan sponsors will need to provide more service, not less.
One of our greatest concerns for current plan participants is that their plans contain target-date funds. TDFs are the default selection for many participants when plans are implemented or when plans are transferred from one investment provider to another.
But if rising interest rates cause a significant move in the bond market, participants in income-heavy target-date funds may be adversely affected. The passive management of these types of investments could be detrimental to those nearest retirement. A more active and tactical management approach may be needed to avoid negative market movements. The investments are more readily available to advisers as broker-dealers continue to move toward level compensation. With plan providers allowing advisers to select investments rather than dictating portfolio percentages, the playing field is even, leaving advisers to actively manage a plan based on the needs of the participants. Such active plan management by experienced investment advisers will be more important than ever.
Advisers that can position themselves as full-service providers will continue to gain value in the 401(k) arena over the next few years. As the needs of the baby boomers become more obvious to companies and plan sponsors, the demand on plan providers to provide a higher level of service will increase.
Reducing fees and lowering the service level may be the knee-jerk reaction for many companies as they comply with ERISA 408(b)(2). I find it ironic that 408(b)(2) may actually set the bar lower in terms of protecting 401(k) participants. As plans migrate to lower fee offerings and are mapped for older participants landing in a default target-date fund that may be imbedded with bonds, we may have an unintended consequence as a result of 408(b)(2) damaging seniors’ savings.
Article by Tom Goodson, ChFC, CLU, Founder and Chief Executive of AmeriFlex