Most 401(k) and 403(b) plan fees, especially for plan advisers and record keepers, are upside down. Their fees are based on plan assets, while their costs are based on activity and the number of participants.
As defined-contribution plan sponsors become more aware of fees and as litigation increases, the demand for more rational pricing will grow. Advisers and providers that don't adjust will be left behind.
Let's start with advisers. The move from commissions to fees heralded by advisers willing to act as fiduciaries seemed to be progressive. But whether commission- or fee-based, these structures hide the fact that as plan assets grow, fees increase, even if costs or services do not. The argument that growth in assets increases liability, thereby justifying more money, is no longer compelling.
Today, most advisers charge an asset-based fee for "Triple F" services: selecting and monitoring funds, benchmarking fees, and serving as a fiduciary. Most advisers have automated or outsourced these services, and having advisers with limited capital assets serve as a co-fiduciary provides cold comfort to clients worried about being sued.
Advisers need to go beyond Triple F services and change the way they price business for the activities that clients want and need — not a "one price fits all" model.
Most experienced advisers are moving to a fixed-fee model loosely based on the size of the plan; fees don't increase much, if at all, if a plan has more than $50 million. There are additional fees based on activities like educational meetings, one-on-one advice and plan design.
Some plan sponsors may be actively acquiring or they may be downsizing; both require unique services for a limited time. Asset-based pricing doesn't fit these needs.
This gets to the heart of the problem for advisers and record keepers. We all hear stories of $100 million-plus plans using A shares — some still exist. Advisers got a windfall because plan sponsors were clueless about the fees being charged.
Though asset-based fees have dropped — either because of broker-dealer supervision, record-keeper oversight or experienced plan advisers highlighting inequities and potential liability — charging a $10 million plan 25 basis points for Triple F services, where the adviser shows up every quarter for an hour or so to review investments, may no longer be reasonable.
Costs for most advisers are based on hours spent and activity, the quality of their services and, ultimately, plan and participant success, which today is hard to define and measure. It's not just about the size of the plan.
The same issues apply to record keepers. Whether it's through the use of proprietary assets or revenue-sharing, providers are able to supplement asset-based fees. Some clever record keepers are charging asset managers marketing fees to be on their platform, which are harder to track than revenue-sharing.
Ultimately, some clever law firm will be able to show how much revenue a provider is able to generate as gatekeeper to the plan, no matter the source, and why those fees may not be reasonable for the services provided.
The DC adviser world is getting flat. Get on board or prepare to fall off.