“Once your plan assets reach $5M your plan will be free of charge.” The concept of a ‘free’ 401(k) plan is laughable now however, retirement plan wholesalers and 401(k) product manufacturers use to routinely tout the possibility of free recordkeeping and administration if the assets were large enough. To us this always begged the question, what would happen if plan assets doubled? Would the plan become twice as free? While the concept is ludicrous, the inner workings that made “free” plans possible, namely mutual fund revenue sharing, still exists. Certainly the practice of using additional revenue embedded in a fund’s expense ratio to pay record keeping fees is on the decline. Annual surveys by Callan show the decline in the use of revenue sharing – from 66% of plans using this model to 27% over the last few years. However, Callan’s survey pools are small, and the plans they profile are large. We often run across plans, even large plans, where revenue sharing still exists. Sure, revenue sharing is sometimes diverted to an ERISA bucket or a fee recapture account, but that doesn’t address the inherit conflicts revenue sharing fosters, namely:
- Uneven revenue sharing means some participants are paying more than others for same service.
- Poorly disclosed revenue sharing leaves participants and many plan sponsors in the dark about what they’re actually paying for which service. Given all the recent fee litigation, sponsors should want to know, or advisors should tell their clients if existing revenue sharing is fair and appropriate.
- Revenue sharing creates the environment for disingenuousness. Can one be absolutely sure funds are selected at the platform level for their investment prowess rather than their revenue sharing?
The solution is simple: plans should both use all institutional shares and assess fees evenly across the board ideally, per capita by the recordkeeper and some combination of per capita and pro rata to the participants. Or, alternatively, revenue sharing should be returned to the participant whose funds generated the revenue.
The points are if you currently handle plans with revenue sharing, take a hard look at other arrangements. If as an advisor, you run across a plan with revenue sharing, bring up the above mentioned points to the plan sponsors. You may have just found a new client.