The 401k service sector has evolved considerably since its introduction in the Revenue Act of 1978. Since the late 1980s and early 1990s, service providers could change the landscape quickly with new investment menus, cool technology or fee approaches.
From a technology perspective, at one time, quarterly statements with the company logo delivered within one month of the quarter’s end was considered premium service.
We have since experienced interactive voice response, call centers and internet access as cutting edge—major reasons for plan sponsors to shift service providers. From an investment menu perspective, think back to the days of the one or two fund investment menu primarily served by collective investment and separately managed funds.
Back in the day, the major reason plans switched service providers was investment return. For a brief period when mutual funds became the driving force in the 401k plans, plan sponsors switched for investment menu flexibility.
Let’s not forget at one time, participants could not sell and buy mutual funds at the close price—it was a two to three business-day event. The service providers that solved this service dilemma had a short lived advantage, especially those that solved trading across mutual fund families.
Our industry has experienced services providers selling “free,” which plan sponsors enjoyed without reviewing the expense ratio of their underlying investments. At one time, commission service models dominated our industry, but today it is fee for service, full disclosure.
Fee disclosure and the proposed fiduciary rules have essentially put a halt to service providers selling low, out of pocket fees with high revenues that the plan sponsor does not understand.
Here are four areas that we believe are likely to drive 401k changes in the near future:
Every service component of a defined contribution plan has gone through a period where it was scrutinized closely as part of the bidding process –with the exception of the investment advisor fee.
This is changing for two reasons: the fiduciary rule and investment advisors lowering their fees. For the longest time, defined contribution bids focused solely on the recordkeeping service provider, which drove prices down.
The most recent trend that is nearing its end is the emphasis on selecting an investment menu with low expenses. On a different note, we expect ETFs to continue to gain traction in the 401k marketplace, especially with service providers that can trade ETFs efficiently and on-demand when the market is open.
Investment advisors should look closely at their service models and fees, recognizing the changing emphasis. However, be aware that the fiduciary rule does not require plan sponsors to pick the lowest fee schedule; they are required to review the fees as compared to the services performed. In other words, if lower costs equate to lower service levels, it is no bargain.
In our collegiate studies, many of us reviewed the buyers’ decision between name brand bleach versus generic. Both essentially have the same ingredients with the key variance being the brand name.
In the record keeping world, the national players had a historical marketplace advantage with their investment in technology. Major players were the first with voice-response technology, internet access, call centers, etc.
However, in the last five years, the lack of a new major technology boost has been a great equalizer for the rest of the competition.
So, what are buyers primarily looking at today? Service, service, service.
Believe it or not, premium service is a trend. Think back 15 years ago, investment advisors and consultants were praised for negotiating lower fees from the service providers (see bullet one). Fees are no longer the primary focus. Service is a major consideration.
We’ve been waiting for nearly five years for legislation paving the way for open multiple employer plans (called pooled employer plans or PEPs in the legislation). There has generally been bipartisan support; however, disagreements in Congress on other, broader reforms have prevented PEPs from becoming reality.
If retirement legislation is eventually passed, we continue to believe that PEPs will be included, so investment advisors and recordkeepers should be prepared to address the option when it becomes available.
Potential advantages of PEPs include the fact that they allow investment advisors to easily manage a single menu across client plans, streamlining fund changes, reporting, and participant communication. This could make participation more affordable for smaller firms.
Be aware, however, Congress is also expected to include a number of provisions designed to safeguard adopting employers (and employees) from unreasonable restrictions and potential abuses. The potential for streamlining and cost-savings with PEPs exists.
For example, the PEP is expected to be the one required to file a Form 5500, not each employer. However, all companies that adopt a PEP may still be required to go through annual nondiscrimination testing separately, thus limiting the potential savings available. PEPs could greatly expand plan coverage, but we’ll have to wait to see the details of what Congress passes to know how much of a game-changer they will be.
Besides improving design elements and adapting to mobile usage, today’s technological trends still primarily focus on participant enrollment and full retirement planning (or robo-advisor apps). We have always indicated to plan sponsors, if we had to pick one service to provide their participants, that service would be to provide them with an annual participant statement that clearly shows their realistic retirement projections as compared to what they will realistically require in retirement.
Based on anecdotal evidence with all other variables held equal, investment advisors and recordkeeping service providers that provide this solution seem to have less turnover.
Other areas to watch
There are two other areas to keep an eye on that could impact the marketplace going forward: state-mandated plans and savings rates.
State-mandated retirement plans are being developed in California, Connecticut, Illinois, Oregon, and other states that are aimed at the 55 million working adults with no access to a 401k.
They were supposed to be exempt from ERISA, but Congress took action, changing this ERISA-exemption in May. However, the options are progressing. For example, California will introduce its plan in three phases starting in 2018.
The dearth of savings that many nearing retirement age have accumulated during their working years may not be changing their behavior, but it has sent a message elsewhere.
Millennials with access to 401k plans are contributing at far higher rates than prior generations. Approximately 82 percent of millennials are contributing now, compared to 75 percent of Baby Boomers. This generation wants access to retirement planning, whether it is a traditional 401k plan, SIMPLE, SEP or payroll deduct IRA.
Keith Clark is a co-founder of DWC – The 401k Experts, a firm dedicated to providing third party plan administration, compliance and consulting services for qualified retirement plans.