Sometimes one pays most for the things one gets for nothing. ~ Albert Einstein
In my case, the something for nothing was a 1983 Honda CB500 motorcycle. A gift that someone bestowed on me because they were astute enough to recognize that the time and effort required to get it running again was not worth the effort. I, on the other hand, was only too glad to devote nights and weekends (this was B.C. – before children) pouring over parts listings on the internet and then attempting to use them to breathe life into my Frankencycle.
The end result was a bike that ran quite well, at least for one memorable afternoon when a cousin happened by and we toured the neighborhood on the steel horse. That is, until it caught fire. A smallish blaze as these things go but enough to melt just about everything not made of metal.
Frankencycle was subsequently sold for nickels on the dollar (the dollar representing all of the parts I’d purchased – not the time invested). I learned a lot from the experience. In particular, I learned that there is no such thing as a free 20+-year-old motorcycle.
I continue to love the idea of a good deal. The thrill for me in any sizeable negotiation comes at the point where the sales rep says, “I’m going to have to talk to my manager.” This is, admittedly, a dance of sorts where many of the moves are simply posturing required to make each side feel it has done the best it could.
Back in the realm of my day job and 401(k) plans, the base fees for 401(k) plan administration continue to plummet. I have the privilege of conducting request for proposal (RFP) processes for my clients, and very frequently the end result is a dramatic drop in the recordkeeping fee.
We’re not quite at the “nothing” described by Mr. Einstein, but many of these deals are being struck at a price that at least appears to be a money-losing proposition for the recordkeeper. I say appears because there is often more going on than meets the eye. The curiosity on this front extends to the U.S. Government Accountability Office (GAO), which recently produced a report on the presence of managed account services within defined contribution plans. The GAO defines managed accounts as, “…services under which providers manage participants’ 401(k) savings over time by making investment and portfolio decisions for them.”
Highlights of the GAO findings include:
- Participants utilizing managed account services received improved diversification and have higher savings rates versus those not enrolled in the service – but these advantages can be offset by paying additional fees over time.
- Some participants using the service pay a low fee each year while others pay a comparatively large fee based on their account balance.
- The long-term effect of managed accounts could vary significantly … at times resulting in managed account participants paying substantial additional fees and experiencing lower balances over time.
- Participants do not receive performance and benchmarking information for their managed account.
- The Department of Labor (DOL) generally does not require plan sponsors to provide performance and benchmarking information to participants for managed account services, nor does it require service providers to provide this information to plan sponsors.
The best analogy I can provide goes back to the world of transportation, but this time involves the purchase of a new car. I mentioned that I love the point of the deal where the sales rep is forced to consult with management. Were I not aware of the nuances of the post-sale efforts, I could take my victory on the price and then emerge significantly worse for wear by the time I drive off the lot. Dealers understand that they can give on the stated price as the real profits come from the financing and the sale of optional items such as extended warranties and underbody coatings. The pricing battle is therefore ultimately won and lost over a few signatures for seemingly innocuous items where little to no information exists to benchmark the value-add or the price.
It is, therefore, not an accident that many managed account service providers are owned or affiliated with the recordkeeper, which means that the additional charges for the service go directly or indirectly to the bottom line of the recordkeeper. When these services are attached to an outside provider, the fine print (when you can compel it) often shows that a significant percentage of the managed account fee is actually being steered back to the recordkeeper.
All involved can debate the wrinkles of the fee disclosure regulations, but the stated fees for recordkeeping have definitely come down over the past few years. I believe it’s also fair to say that the increased emphasis on managed account services, which thus far are not impacted by the fee disclosure regs, is a direct reaction by the recordkeeping community to the drop in their base fees.
The GAO recommends that the DOL weigh in on the managed account element in terms of disclosure, benchmarking, and guidance for sponsors. Per the GAO, the DOL has agreed to do so. It will be interesting to see how this works in real life as many recordkeepers have only one managed account service solution, making comparisons and benchmarking difficult at best.
While we await the forthcoming guidance and regulations from the DOL, it’s probably useful to give the details of managed account solution within your 401(k) plan a hard look. This is even more important for plan sponsors who took what many service providers are calling a best practice approach and defaulted all participants into the managed account program.
At a high level, a recently struck price for recordkeeping services may look very good. Orlando Battista is quoted as saying, “The fellow who says he’ll meet you halfway usually thinks he’s standing on the dividing line.” I believe that managed account services can have a dramatic impact on the dividing line, and at this point it’s really only the seller of the services who understands that impact.