Why New Rules for 401(k) Fee Disclosures Don't Go Nearly Far Enough

The Department of Labor has finally issued an "interim final regulation" governing fee disclosure and conflicts of interest in 401(k) plans. Unfortunately, it's too little, too late.

The goal of the new regulation (effective July 16, 2011) is to allow employers and plan participants to finally figure out what they're paying for their 401(k) plan. Currently, there's no obligation to disclose "revenue-sharing" payments extracted from mutual fund families that want to be included as 401(k) investment options. These payments create an obvious conflict of interest between the adviser (who wants to maximize them) and employees (who want to minimize them). Under the new regulation, full disclosure is required.

Only in the perverse world of the securities industry would candid disclosure of fees paid to vendors be considered a victory. In all other areas of commerce, it's not an issue. How would you feel if your car dealer refused to give you the price he's charging for your car?

Advisers Should Be Fiduciaries

The new regulations don't deal with the core problems of this broken system. Disclosing revenue-sharing payments isn't nearly enough. They should be prohibited altogether. Brokers and insurance companies justify them by claiming the fees offset record-keeping costs. However, participants would be far better off paying a fully disclosed, transparent fee for these services, and getting the benefit of objective, nonconflicted advice from advisers to their 401(k) plans.

Advisers should be required to be what's known as "3(38) ERISA fiduciaries," which means they can have no conflicts of interest. But the new regulations focus on disclosure of conflicts of interest. Real reform requires their elimination

If advisers were held to this standard, you would not see retail shares of mutual funds placed in plans where lower-cost, institutional shares of the same funds were available. You would see plans with pre-allocated portfolios of low-cost, globally diversified stock and bond index funds, exchange-traded funds and passively managed funds. Currently, most 401(k) plans have a confusing mish-mash of high-cost, actively managed funds (where the fund manager attempts to beat a benchmark, usually without success). This is great for advisers and mutual fund families (high costs mean big profits), but bad for employees.

The Best Recommendation Possible

Labor Department employees don't have to look further than their own plan to find the poster child for a properly run 401(k). Their plan is part of the U.S. government's mega $240 billion Thrift Savings Plan (tsp.gov), which has extremely low fees, no actively managed funds and pre-allocated portfolios that make it easy for government employees to purchase one fund that's best suited for their investment goals and tolerance for risk. Walter Updegrave, the respected financial journalist for Money magazine described this plan as "one of the best retirement plans around."

But here's the most compelling reason for the Labor Department to look to this plan when issuing regulations intended to improve the lot of employees: The securities industry is opposed to it. As reported by Allan Roth, in an excellent column on this subject, the Investment Company Institute, a trade group that seeks to keep profits of mutual funds as high as possible, published a paper taking shots at the Thrift Savings Plan. If the ICI is against it, it has to be good for employees!

Labor Department employees already have a dream plan. They should give everyone the same opportunity for retirement with dignity.

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Dan, Advisors want to maximize fees? I think it is the employer who wants the 12b-1 fees maximized so they do not have to shell out any hard dollars to pay for the plan expenses. Also if you take a fee off the plan are you not ensuring that the participants will never beat the benchmark? Not sure I follow your line of thought here. Should employers bear all costs of a 401(k) plan? (i.e. no cost borne by participants?) if so what happens when an employer says I cannot afford to have a plan. Is an expensive plan worse than no plan at all? I am all for reform in the industry, but your commentary of saying what is bad without offering a real life solution is biased. How about a social pricing model? Take total cost, divide by total assets, come up with a number (i.e. basis points) and then add to everyones no rev share funds. It's one thing to criticize, but criticizing without offering a solution does nobody any good? There is a cost to keep these plans up and running, how do you propose to pay those fees?

August 06 2010 at 2:48 PM Report abuse rate up rate down Reply

Great column and interview, Dan! I wish I had access to the TSP. Unfortunately, I know many "advisors" who make a living off of getting people to take their money out of the TSP so they can charge 100 times the fees.

I also agree that this new disclosure is not enough. I think the 401K business may be the dirtiest part of a very dirty financial services industry.

August 04 2010 at 10:36 PM Report abuse rate up rate down Reply

In the words of Maxine Waters, "what's good for the goose, is good for the gander." The public's employees at the Labor Department or any federal department or agency should not have a better managed 401K available to them that is not available to their employer, US! This is why all federal government employees and Congress need to be on 401Ks and Social Security and not a federal pensions. Once all these self-serving "public servants" have skin in the game of 401Ks and SS we the people will have cheaper and better 401Ks available and a major Congressional effort to make SS solvent would be underway immediately.

August 04 2010 at 8:49 AM Report abuse +1 rate up rate down Reply

In my opinion, no one without fiduciary responsibility should have anything to do with the paid management of funds in any way, shape, or form, advisory or otherwise.

August 03 2010 at 5:36 PM Report abuse +1 rate up rate down Reply

At a minimum, retail brokers should not only be reqired to register as "advisors" with respect to 401 qualified plans. They should be required to register as fiduciary advisors to customers in virtually every aspect of there business. Retail brokers and there companies hold themselves out, in writing, as "advisors". Under current law, the word "advisor" is meaningless. Fiduciary registration is the only solution to curb and punish self-serving broker recommendations to increase margin investing, failure to follow financial directions from customers, false qualifications of investors as experienced, when it is obvious they are helpless novices. On top of all that all too often advice given is just plain dumb. There is an utter lack of effective training and supervision. These brokers are called "advisors" by their companies for ujtterly no reason but to mislead and cheat customers. Shame on them all. As to discretionary accounts, watch your back!

August 03 2010 at 10:29 AM Report abuse +2 rate up rate down Reply