W. Scott Simon
Ah, ’tis the season again. Not the holiday season, of course, but the political season which, at the presidential level, descends upon us every four years. I’m always interested in this quadrennial spectacle because I served two tours of duty in Washington, D.C., politics. Yes, folks, I must confess: I am a political animal.
Politicians can be fascinating creatures. In The Crack-Up, F. Scott Fitzgerald wrote: “The test of a first-rate intelligence is the ability to hold two opposing ideas in mind at the same time and still retain the ability to function.” I think I saw a demonstration of this one time before my very own beady eyes at a lobbyist’s reception on Capitol Hill back when yours truly was a young pup politico-in-training.
A well-known politician joined our gaggle of interns standing around in a congressional caucus room gossiping about the latest political goings-on. His eyes darted around the room at warp speed as he mentally ticked off those he had to greet and those he could safely ignore. While doing so, he never locked eyes with any of us but merely scanned the horizon above our heads–all the while carrying on a perfectly normal conversation without missing a beat. Our lowly group, alas, was merely a way station for him before he buzzed off on his rounds. This encounter with the politician was remarkable to me at the time, whether or not it passed Fitzgerald’s test of a first-rate intelligence.
The Failure of Congress to Stand Up for Meaningful Fee Disclosure
Given that level of intelligence, you’d think that the political class in Washington D.C. would have jumped at the chance to correct the great disconnect in the ERISA statutory scheme that I described in this column in May: non-fiduciary plan providers have no duty to disclose the total economic impact that the costs of a retirement plan have on plan participants to fiduciary plan sponsors who have the duty to identify and understand such costs with some specificity.
The politicians, however, failed to enact any meaningful reform of fee disclosures for qualified retirement plans in this session of Congress. Passage of H.R. 3185 in the U.S. House of Representatives has been placed on hold for now to await probable reintroduction of the bill in the new Congress next year. This bill provides that the costs of retirement plans must be disclosed at two primary levels: disclosures from service providers to plan sponsors and disclosures from plan sponsors to plan participants.
These provisions are meant to give real teeth to one of the most basic fiduciary duties of plan sponsors. ERISA section 404(a)(1)(A) states, in part: “a fiduciary shall discharge his duties with respect to a plan solely in the interest of the participants and beneficiaries and for the exclusive purpose of: (i) providing benefits to participants and their beneficiaries; and (ii) defraying reasonable expenses of administering the plan.” This requires plan sponsors to identify and understand plan expenses that are paid to service providers so that they can determine whether they’re reasonable in light of the level and quality of services offered by the providers.
The fact that even many Fortune 500 companies offer retail-priced (instead of institutional-priced) 401(k) plans is a shocking indication that fee disclosure is an area needing substantial reform. Much of the media coverage on H.R. 3185 (as well as the proposed DOL regulations section 408(b)(2)) has centered, rightly, on the importance of plan sponsor-to-plan-participants fee disclosures. It might be even more important, however, to focus on the service providers-to-plan sponsor fee disclosures and why they’ve been resisted by certain interest groups which should instead, in my opinion, be leading the charge to make sure they become law.
Rational Though Misguided Resistance to Fully Transparent Fee Disclosure
Some interest groups are resistant to H.R. 3185 because the members they represent would be harmed directly by the fully transparent disclosure of the total economic impact that both “visible” and “invisible” costs have on far too many retirement plans. This bunch maintains that plan participants would see so many individual fees and costs that they would start complaining that most of the services were not worth it, and they would revolt. That revolt, which would come in the form of stopping plan contributions, would destabilize the financial services industry catering to qualified retirement plans.
That position, to me, is misguided and ultimately will be harmful to the membership of these interest groups. ERISA was, after all, enacted not for the well-being of providers of financial services or for the well-being of interest groups that represent such providers. It was enacted to protect those who put the “E” in ERISA: employees (and their beneficiaries). Nonetheless, the position of these interest groups is at least rational.
Irrational and Misguided Resistance to Fully Transparent Fee Disclosure
There are other interest groups resistant to H.R. 3185, however, that perplex me. This bunch represents plan sponsors and, if their Web sites are to be believed, plan participants as well. Why would these interest groups ever want to make it at all difficult for their (plan sponsor) membership to be able to precisely identify the nature and amount of the costs associated with the 401(k) plans they offer to their employees so that they can prudently carry out the duties that basic ERISA law prescribes for them?
Virtually all public comments made by these groups that I’ve seen are about protecting those in the financial-services industry that service qualified retirement plans. I never recall reading or hearing anything substantial, though, about such groups wanting to protect plan participants. The problem is that if there’s no support for participants, it’s that much more difficult in the retirement plan world to support the fiduciaries that actively help participants.
And it’s those fiduciaries who head the companies that make up, in part, the membership of these interest groups.
The failure of such groups to be in the very forefront of demanding full and complete cost disclosures has helped perpetuate a system in which the average 401(k) participant balance is in the mid-five figures. That, it seems to me, should really bother the companies that make up the membership of these interest groups; after all, they’re the ones that will be (or already are) legally (and even morally) blamed for this mess.
Some might argue that service providers already do enough on the disclosure front, and yet a mountain of papers and surveys has revealed how ill-informed plan fiduciaries truly are about the costs of the retirement plans for which they’re legally responsible. Start with a simple question asking if plan fiduciaries know about–much less can explain–what a sub-transfer agency (sub-TA) fee is. Then ask if they know that a service provider has the ability to either credit sub-TA fees back to a retirement plan or absorb all sub-TA fees without disclosing them to plan fiduciaries (or anyone else for that matter). A blank stare in response to such questions can mean substantial and unnecessary additions of undisclosed plan costs and a corresponding diminution in retirement plan account balances.
So I ask again: why is it that these interest groups haven’t led the charge to obtain a legislative and/or regulatory solution to make plan service providers provide complete, full and understandable disclosures of all costs to the plan sponsors that make up the membership of such groups? This information deficit places plan fiduciaries of every company member of these special interest groups in a position of personal peril. Full and complete disclosure of plan costs by service providers to plan fiduciaries, on the other hand, would make the job of such fiduciaries much easier and would legally protect them much better. Oh yeah, those that invest in retirement plans–I think they call ’em plan participants (and their beneficiaries)–would also benefit from meaningful fee disclosure. Inducing a better flow of information will inevitably lead to lower costs because of more competition. That’s good for plan participants and bad for those plan service providers that offer investment options bloated with high and hidden fees.
These interest groups take the opposite view of all this and I’m truly nonplussed as to why. They seem to think that maintaining a certain lack of cost opacity will keep new contributions by plan participants flowing and that full disclosure of costs will shut it off. This “glass is half empty” notion has helped, over the years, to create a system in which, as noted, the average account balance in a 401(k) plan is in the mid-five figures. This notion is also just plain nonsensical: Fully disclosing the costs of a retirement plan in a simple and understandable way will cause plan participants to contribute less or not at all to their retirement plans? Huh?
The notion that makes actual sense, grounded in ERISA, is the need for adequate clarity of costs so that fiduciary decision-makers can consider the cost/benefit trade-off for any given provider’s services or products, thereby allowing them to determine whether or not such are reasonable. Plan participants can then go from there, knowing that someone has actually been at the helm employing a logical process to screen out scandalously high cost and poorly performing plan investment options.
W. Scott Simon is an expert on the Uniform Prudent Investor Act, Restatement (Third) of Trusts and Title I of ERISA. He provides services as a consultant and expert witness on fiduciary investment issues in depositions, arbitrations and trials as well as in written opinions. Simon is the author of two books including The Prudent Investor Act: A Guide to Understanding. He is a member of the State Bar of California, a Certified Financial Planner® and an Accredited Investment Fiduciary Analyst™. The author’s views expressed in this article do not necessarily reflect the views of Morningstar.