The reasonableness of vendor fees has always been an important consideration for fiduciaries of 401(k) plans. The focus on vendor fees, especially those of investment advisors and recordkeepers, increased dramatically with the Department of Labor’s issuance of the 2012 fee disclosure rules. These rules allowed fiduciaries, for the first time, to understand and be cognizant of all aspects of investment and recordkeeper fees – both those paid directly by the plan and those paid indirectly through revenue sharing and other soft dollar arrangements. In addition, with the transparency of fees came a wave of competition among investment advisors and recordkeepers that has dramatically reduced fees for these services.
Fiduciary Fee Litigation. While market conditions have been changing rapidly, the number of participant lawsuits claiming that 401(k) and 403(b) plan fiduciaries breached their duties by allowing plans and participants to pay excessive fees has exploded. Many of these lawsuits have been successful in achieving multi-million-dollar settlements or judgments against fiduciaries. These lawsuits started with the largest 401(k) and 403(b) plans, but they have moved steadily downstream and now attack fiduciaries of plans with less than $100 million in assets. Successful claims have included, for example, that plan fiduciaries: (i) did not know or analyze the amount of fees being paid; (ii) allowed plans to pay fees based on a percentage of assets, so fees increased unreasonably as assets (but not services) grew; (iii) did not insist on a per-participant fee structure that reflects the value of the services provided; and (iv) did not perform regular investment advisor and recordkeeper searches, which resulted in higher-than-market fees as competition pushed fees lower.
Review of Recordkeeper Fees. For all of these reasons, fiduciaries need to ensure the 401(k) and 403(b) plan investment advisor and recordkeeper fees that plans are paying are reasonable for the services provided. As a general rule, we recommend that plan fiduciaries perform (i) an annual fee benchmarking based on published sources; (ii) a request for information (“RFI”) every two to three years based on a high-level, no-name inquiry of several investment advisors and recordkeepers; and (iii) a full-blown investment advisor and recordkeeper search through a request for proposal (“RFP”) every four to six years, during which detailed bids are requested with the vendor’s business on the line.
Advantages Overcome Initial Concerns. When faced with performing an investment advisor and recordkeeper search, many fiduciaries are reluctant to proceed. They often express their happiness with the current investment advisor or recordkeeper, the reduced fees that an investment advisor or recordkeeper may have just provided based on an RFI, the disruption to participants that a change in the investment advisor or recordkeeper may cause, and the lack of internal resources to perform an investment advisor or recordkeeper change if that is the outcome of an RFP. Notwithstanding these initial concerns, through the many investment advisor and recordkeeper searches we have performed, we have found that:
- Better Fit and Fees.As the services and fees of other investment advisors or recordkeepers are explored, many fiduciaries become aware that their current investment advisor or recordkeeper may not provide the best services or fees for their plans or participants, and that there is a better fit for a lower price. In other situations, a fiduciary may decide to keep the plan’s current investment advisor or recordkeeper based on enhanced services and lower fees promised as part of the RFP.
- Lower Fees. While fee reductions resulting from RFIs are advantageous, they usually pale in comparison to the fee reductions that can be obtained through an RFP. For example, an RFI a client sent a few years ago resulted in recordkeeping fees for the plan decreasing from $90 per participant per year to $84 per participant per year. When we performed a recordkeeper search two years later, the recordkeeping fee for the same recordkeeper dropped to $50 per participant per year. In another instance, an RFI resulted in a decrease in recordkeeping fees from $85 to $74 per participant per year. One year later, an RFP resulted in a fee proposal of $63 per participant per year from the same recordkeeper, and $49 per participant per year from a competing recordkeeper that the fiduciaries determined provided a higher level of services.
- Energize Participants. The concern of plan fiduciaries that an investment advisor or recordkeeper change will be disruptive for participants generally results from the fear of the unknown and is often overblown. We have found that, if the change introduces enhanced services and lower fees and is communicated effectively, participants are more likely to be energized with increased interest in the plan and their retirement savings.
- Short-Term Increase in Work for Long-Term Advantage. A change in recordkeeper does create more work for the benefits and payroll personnel during the conversion process, and a change in the investment advisor may create more work for other plan vendors. However, recordkeepers can minimize the burden on internal personnel and shoulder the largest portion of the conversion work, setting up the new recordkeeping system and obtaining all data and information from the outgoing recordkeeper. For instance, in one of the searches we performed, a recordkeeper offered as part of its RFP response to place a “conversion concierge” at the plan sponsor’s location to assist the benefits and payroll personnel. In addition, the cost of temporary personnel to assist with the conversion may be charged to the plan, still resulting in an overall fee reduction for participants. Finally, once the conversion is completed, the new recordkeeping system may result in reduced ongoing work for benefits personnel.
Summary. Investment advisor and recordkeeper searches are a very important aspect of the fiduciary duty of “procedural prudence” — i.e., setting up and carrying out prudent processes that are intended to render beneficial results for participants. They provide 401(k) and 403(b) plan fiduciaries the opportunity to ensure not only that fees are reasonable, but also that the appropriate services, technology and education are being provided to the plan participants.
Investment advisor and recordkeeper RFPs can result in significant cost savings for plans and participants, and they often result in a higher level of services even if the investment advisor or recordkeeper does not change. In addition, by carrying out these processes and ensuring that fees and services are optimized for participants, fiduciaries achieve an increased level of protection. In today’s world of aggressive plaintiffs’ attorneys mining for litigation against fiduciaries, this protection cannot be overstated, especially when the RFP process also can yield so many other benefits.