Are we Professionals Ruining Defined Contribution Plans?

    Even though defined benefit plans will not disappear completely, there is little doubt, at least in the private sector, that those employers who have the option are abandoning those plans in favor of defined contribution plans.  This trend is occurring for two primary reasons:  employers believe such plans are less expensive and that they impose less risk on the sponsor.

    Clearly the first reason is not valid for those plans which hold company stock.  It is also not proving to be valid for those plans whose fiduciaries ignore their fiduciary duties.  Here, I am referring to those sponsors who believed what they were hearing from some providers that ERISA section 404(c) protected them from fiduciary exposure.  Just set up a plan, let somebody else run it and you are home free.

     The new round for excessive fee cases is clearly proving (as though the stock drop cases hadn't already proved it) that 404(c) provides little meaningful protection.  We, as advisors, are a part of the problem in that we clearly oversold 404(c) protection to some of our clients (or at least failed to impress upon them what their responsibililty was).  I don't know of a single plan sponsor who wants to pay excessive administrative fees--even if those fees are coming out of the sponsor's pocket rather than the sponsors.  Many sponsors never knew to ask.  Likewise, I am not aware of a single plan professional who did not know--at least in general terms--that revenue sharing, commission arrangements, etc. were not common practices in the industry.  The indefensible breach of duty that most plan sponsors committed was not that they caused their plans to pay too much, but that they had no idea at all of how much their plans were paying.   

     Our conduct as professionals did not help much either.  Even when some of us tried to find out the true cost of our plans, we were met by an industry response that it was none of our business or that the prospectus contained everything we needed to know.  Until what we all knew was going on privately became public, it was all business as usual.

     And so, what is our response now?  If you lack expertize, hire an expert.  If there are design flaws in your plan, hire a consultant.  If your participants don't know how to invest, hire more educators and advisors (even though most education programs have not been models of success).  If you want to be procedurally prudent (which is the best way to avoid a lawsuit) hire more lawyers. etc. etc.

     The apparent answer to todays problems in the defined contribution world (ignore for purposes of this blog the main problem of DC plans not providing enough for retirement) is to hire more advisors, brokers consultants, and lawyers.  In fact, we are well on our way to making DC plans as complicated to run as DB plans. 

     I would submit a better answer might be to go the other way--toward simplicity, with fewer advisors and fewer costs.  For example, if a plan is big enough, hire a professional manager to invest ALL plan assets.  If a plan is not big enough, limit investment options to index funds and target date (or similar) funds.

        The fact is that most 401(k) plan participants neither want to nor are trained to handle their own investments.  Sponsors were led to believe their own risk was lessened by transfering investment responsibility to employees.  Let's face the fact that the opposite is true.  In most cases, I would submit, the safest course for sponsors as well as the best option for a majority of participants, is professional management.  The second is cheap, safe options like index funds.  Of course this would probably provide less opportunity for the advisor community, but maybe that wouldn't be such a bad thing. 

   

Comments

[Ron Dean]

This was in the news the other day: "Sixty-Percent of Participants Have Their 401(k) Professionally Managed When It's ''Automatic''
Excerpt: "Financial Engines, a leading provider of independent investment advice and managed accounts, today issued data showing that when plan sponsors automatically enrolled existing retirement plan participants into a managed account program, an average of 60 percent stayed with the program." (Human Resource Executive Online)

[Chad Griffeth]

I agree completely, with both your post and Carl Johnson's comment. The reality we see is there is a noticeable understanding now by plan sponsors that education does not work on its own. We have been attempting to teach 401(k)/403(b) participant to be good investors, when in fact we should be focusing on them being good savers. Allow professionals to do for them what they did within the DB plans that preceded them...invest on their behalf, as fiduciaries, specifically either PPA Fiduciary Advisers or independent fiduciaries. Successful advisors realize that selling education/404(c) protection is like assuming handing someone the owner's manual and a wrench will automatically translate the owner of a new car into a mechanic

[Carl Johnson]

As the old, probably not pc punch line goes, "What you mean, 'we'?" As a soon-to-retire benefits lawyer (since before ERISA), if I've failed, it's not from lack of trying. It's easy from a legal counseling standpoint to make the case for simplicity, low costs, a retirement focus, and so on in DC plans. The principal difficulty is the typical employer's lack of gumption to do the right thing, which means becoming a nonconformist.