An Update on the PWBA's Investigation of 401(k) Fees

By C. Frederick Reish and Bruce L. Ashton

The inquiry by the Pension and Welfare Benefits Administration (PWBA) of the U.S. Department of Labor (DOL) into 401(k) fees and costs is almost two years old. During that time, the PWBA has held hearings on 401 (k) fees, initiated approximately 50 investigations of 401(k) plans related to their fees, published a booklet for employees concerning 401(k) fees and costs, published a brochure for employers on 401(k) fees, and worked with representatives of the insurance, mutual fund, and banking industries to develop uniform criteria for reporting and evaluating fees and costs for 401(k) plans.

At this point, it is appropriate to ask...What results have these efforts produced, and what remains to be done?

In response to the first question, the PWBA's focus on 401(k) plan fees and costs has dramatically heightened the awareness of those expenses and their impact on investment results, among the media, plan sponsors, fiduciaries, advisors to plans, and, of course, plan participants. That heightened awareness is resulting in increased scrutiny of the fees being charged in 401(k) investment products and, as a consequence, is increasing the level of competition among investment providers. Inevitably, that increased awareness and competition will result in lower fees and higher benefits for 401(k) plan participants.

The History of the PWBA's Inquiry
On October 16, 1997, the PWBA announced that it was holding hearings for the purpose of learning more about the fees and costs being charged to 401 (k) plans and about the reasons for, and consequences of, those fees. Specifically, the PWBA Notice of Public Hearing stated that the purpose of the hearings was to answer the following questions:

1. In selecting and monitoring service providers, are employers/plan sponsors being furnished with sufficient information to evaluate whether the fees and expenses associated with plan investments, investment options, and administrative services are reasonable? If not, what additional information should be provided to or requested by plan sponsors, and is it readily available? What steps are plan sponsors taking to ensure that the fees and expenses charged to the individual accounts of the participants are reasonable?

2. Are plan participants being furnished with sufficient information about the fees and expenses associated with the investment options offered under their plan to make informed investment decisions? What additional information should be provided to or requested by participants, and is it readily available?

3. Is the information regarding services, fees, and expenses that is disclosed to participants regarding their accounts provided in a manner understandable to most participants? Is the disclosure automatic or upon request? If automatic, how often is the disclosure provided and to whom is it provided (plan sponsor and/or participants)?

4. How are the services and the respective fees included in a bundled fee arrangement disclosed? How are the fees and expenses with respect to each of the covered services in a bundled arrangement determined?

5. What actions, if any, should the DOL take to improve consideration and disclosure of fees and expenses charged to 401(k) plans? If action is necessary, what information should be required to be disclosed? Would a uniform format for such disclosure be helpful to participants?

Shortly thereafter, the DOL initiated approximately 50 field investigations around the country for the purpose of gaining a greater understanding of the fees being charged to 401(k) plans and for discovering whether there were abusive practices in that area. While the PWBA has not announced the results of those investigations, we do know that all of the investigations have been completed and the results have been sent to the PWBA Headquarters in Washington, D.C. We believe the information learned from the investigations will soon be informally reflected in speeches by PWBA officials—and possibly in formal PWBA guidance.

On July 1, 1998, the DOL published a 401(k) fees brochure for plan participants entitled A Look at 401(k) Plan Fees. In addition, the PWBA released a study of 401 (k) costs prepared by an outside consultant entitled "Study of 401(k) Plan Fees and Expenses." The Study is a lengthy and detailed analysis of the types of expenses charged in connection with the investment and administration of 401 (k) plans. Both the booklet and the study can be found at the PWBA's website at www.dol.gov/dol/pwba.

In the participant booklet, the PWBA discusses the importance of fees and their impact on retirement benefits, describes the types of fees that are charged in 401(k) plans, instructs participants on where they can obtain information about fees and expenses in the plan, and provides participants with 10 questions to ask their employers about the plan's services, investments, and fees. In addition, the brochure instructs participants that their employers have fiduciary responsibilities under ERISA to understand the plan fees and to determine whether they are reasonable relative to the services purchased:

"You should be aware that your employer also has a specific obligation to consider the fees and expenses paid by your plan. ERISA requires employers to follow certain rules in managing 401(k) plans. Employers are held to a high standard of care and diligence and must discharge their duties solely in the interest of the plan participants and their beneficiaries. Among other things, this means that employers must:

• Establish a prudent process for selecting investment alternatives and service providers;

• Ensure that fees paid to service providers and other expenses of the plan are reasonable in light of the level and quality of services provided;

• Select investment alternatives that are prudent and adequately diversified;

• Monitor investment alternatives and service providers once selected to see that they continue to be appropriate choices.

Current Developments
As a result of the testimony given at the PWBA's 1997 hearings, and of information gathered during the PWBA investigations of the expenses in 401 (k) investment products, it was determined that, in addition to the guidance given to the participants through the booklet, there was a need for a standardized disclosure form to assist plan fiduciaries in understanding 401(k) fees. After discussions with representatives of the various constituencies in the 401(k) investment marketplace, the PWBA asked associations representing the insurance, mutual fund, and banking industries to collaborate in the development of a "universal" form for the disclosure of 401(k) fees and expenses. The American Council of Life Insurance (ACLI), the Investment Company Institute (ICI), and the American Bankers Association (ABA), prepared a fee disclosure form and provided it to the PWBA. On July 15, 1999, the PWBA published the worksheet, together with a brochure for employers, and a press release. Copies of all three documents can be obtained from the PWBA' s web site at www.dol.gov/dol/pwba.

The form provides for full disclosure of all investment-related expenses including, for example, front-end loads, annual asset-based charges (such as investment management fees, 12b-1 fees, trailing commissions), and rear-end charges (such as contingent deferred sales charges and back-end loads). In addition, it calls for disclosure of other expenses associated with the operation of a 401(k) plan, such as plan document costs, annual administration expenses, compliance testing, and so on.

It is likely that the disclosure worksheet will become the industry standard. If so, that would encourage more plan sponsors to better evaluate the fees and costs in their plans, which would ultimately drive down the costs for plan investments and record keeping. This would be particularly true for small and mid-sized employers who now lack the staff and the technical sophistication for identifying and analyzing the costs in 401(k) investment packages. In addition, it could provide an opportunity for third party administrators (TPAs) to provide this kind of analysis to their 401(k) plan clients.

In addition to the creation of a disclosure form, the DOL has focused on payments from 401(k) plans by revising the Schedule A for its Form 5500 for 1999. In 1998 and prior years, Schedule A, Part I, line 3, asked for "Insurance fees and commissions paid to agents and brokers." The Schedule A instructions provided:

"Line 3—Report all sales commissions in column (c) regardless of the identity of the recipient. Do not report override commissions, salaries, bonuses, etc., paid to a general agent or manager for managing an agency or for performing other administrative functions.

Fees to be reported in column (d) represent payments by insurance carriers to agents and brokers for items other than commissions (e.g., service fees, consulting fees, and finders fees)."

The instructions have also changed. They now read:

"Line 2 column (d) - Fees to be reported represent payments by insurance carriers to agents, brokers, and other persons for items other than commissions (e.g., service fees. consulting fees, and finders fees). Fees paid by insurance carriers to persons other than agents and brokers should be reported here, NOT in Parts II and III on Schedule A as acquisition costs, administrative charges, etc." (The underlining was added.)

While it is not clear whether all payments to TPAs must be reported on the new Schedule A, the trend is toward greater disclosure, and there is a good chance that, in future years, full disclosure will be required.

Conclusion
The 401(k) marketplace has grown increasingly competitive for both service fees and investment expenses for plans of all sizes. As a result of that competition and of the DOL activities, the trend is toward greater disclosure of all fees and costs-—and of the recipients of those fees. While that is good news for 401(k) plans and their participants, it also raises the danger that the cost of services will be given more weight than the quality of the services, which could ultimately hurt participants. For some TPAs, there are business opportunities to assist employers in selecting investment providers by evaluating the performance, services, and costs of the competing providers.

© 1999 by the American Society of Pension Actuaries. Article originally appeared in The Pension Actuary, Vol. XXIX, Number 5, September-October 1999.

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