Remember the phrase “caveat emptor”, Latin for “let the buyer beware”. Many employers think that applies to their employees when it comes to selecting their 401k investment. They are under the impression that they have no liability by offering a 401k to their employees if they offer the employees a prudent choice of investments. It is the employee’s choice, right? Correct, but wrong if you think that is all there is to it. Yes there is a section of the Department of Labor code called Section 404(c ) and it does state that if an employer offers employees a certain selection of investments along with a few other qualifications, that employer is not responsible for the performance of the employee’s selection. Employers are very wrong if they think that is all there is to limiting their liability for the retirement plan.
A new level of responsibility has been brought to light with further investigation of the fees that employees are being charged. Regardless of validity of the accusations of inflated fees, the dialogue has prompted the Department of Labor to further regulate fees charged to employees in retirement plans. Those new regulations detailed under Section 408(b) go into effect in 2012. Those new regulations discuss fees that are charged to employees a great deal, but do not go so far as to say exactly what is too high. As sometimes happens, the court system has taken that extra step. For example The LA Times reported in October of 2010: District Judge Stephen Wilson said in an 82-page decision that Rosemead-based Edison (International) did “substantial” harm by failing to negotiate lower prices with the outside firm running the 401(k). A large company such as Edison easily could have gotten a better deal on three of the mutual funds in its plan, but simply didn’t try, the judge said.[i]
If you read the blogs that accompany many of the recent newspaper articles about retirement plan fees you get two views of the public’s perception. First, those that say everyone should be charged the same fee as is charged for the lowest index fund. Then there are those that say you have to compare apples and oranges, low price index funds don’t have the same reporting and administrative issues as investments inside of a retirement plan. What do you think? An employer must keep track of employees’ assets, make exchanges (between different fund families or even different types of investments), make deposits, make distributions, issues tax forms to some employees, is responsible for auditing the plan, keeps the retirement plan up with the most recent tax and labor laws, and is responsible for the variety of investments available. Can they charge the same fees as a mutual fund company that just collects money and makes distributions?
So how do you know how much is too much? There is no concrete answer to that question. The best answer should be framed by what is called the “prudent man rule”. The beginnings of the rule go back to a Massachusetts court in 1830, but the most modern version applicable here would be the Department of Labor’s version:
with the care, skill, prudence and diligence under the circumstances then prevailing that a prudent man acting in a like capacity and familiar with such matters would use in the conduct of an enterprise of a like character and with like aims.
In today’s times, it would be prudent of an employer to compare their fees to other company’s of similar size and operation. That does not mean that all companies should have the same retirement plan. It does mean that employers should be able to show that they have made changes to the operation of their plan with the best interest of the employees in mind and in the business environment of that time. No one should be expected to work for free. But to the antithesis of that thought would be that no one should willingly allow employees to be overcharged. Employers should create a record of their efforts and give a basis for their actions.
Finally, it’s important for you as the reader to understand that this blog is intended to be general in nature. It is not, investment, legal or accounting advice.
