Guest Article

(From the March 12, 2007 issue of Deloitte's Washington Bulletin, a periodic update of legal and regulatory developments relating to Employee Benefits.)

Congressional Committee Shines Its Spotlight on 401(k) Plan Fees

Two major points of agreement emerged during a March 6, 2007 hearing on 401(k) plan fees by the House Committee on Education and Labor ("Committee"). The first is that current laws and regulations do not require financial services companies and 401(k) plans to provide plan participants with the information needed to easily compare the fees associated with a plan's different investment options. The second is that 401(k) plan fees do matter, and even small differences can have a big impact on total retirement savings. But whether this Congress will take legislative steps to address the fee disclosure issue, or leave it to the Department of Labor's regulatory authority, remains an open question.

The Committee Chairman, Rep. George Miller (D-CA), opened the hearing by noting its purpose was "to examine the growing role that 401(k)-style plans are playing in helping people pay for their retirements, and to find out if hidden fees are eating into workers' retirement savings account balances without them even knowing it." The Committee then heard testimony from four witnesses, including the Government Accountability Office (GAO). A representative from the American Benefits Council (ABC) presented the employer perspective. The other two witnesses were Stephen Butler, President of Pension Dynamics Corporation, and Matthew Hutcheson, an independent pension fiduciary.

Why a Hearing on 401(k) Plan Fees?

Basically, Chairman Miller and all four witnesses made the point that 401(k) plans now represent the majority of all private pension plans, and that 401(k) plans have more active participants and hold more assets than any other type of plan. In other words, 401(k) plans have supplanted defined benefit plans as the second leg of the oft-cited retirement savings "three-legged stool" -- i.e., Social Security, private pensions, and individual savings.

And, as several witnesses illustrated in their written testimony, when it comes to fees even 50 or 100 basis points can make a huge difference in 401(k) balances over time. For example, the GAO's written testimony highlights the effect of a 100 basis point difference in fees over twenty years. Specifically, the GAO testimony assumes a 45 year old employee who terminates employment and leaves a $20,000 401(k) balance with his or her former employer. If his or her account balance earns an average annual investment return of seven percent before fees, the following table shows how different fee levels will affect his or her account balance after 20 years:

Thus, there is reason to be concerned about 401(k) plan fees and their effect on participants' retirement savings. However, this hearing was not so much about the level of 401(k) plan fees as it was about the transparency of these fees to plan participants. And the witnesses all agreed that transparency is lacking.

GAO Testimony

According to the GAO, "The information on fees that plan sponsors are required to disclose to participants does not allow participants to easily compare the fees for the investment options in their 401(k) plan. In addition, the Department of Labor (DOL) does not have the information it needs to oversee fees and identify questionable 401(k) business practices." The GAO testimony specifically notes that the summary plan description (SPD), summary annual report (SAR), and benefit statements ERISA requires 401(k) plans to provide to participants do not have to "disclose information on fees borne by individual participants." However, in the case of plans seeking the special fiduciary liability protections afforded by ERISA ? 404(c), participants must be given "sufficient information to make informed decisions with regard to investment alternatives available under the plan." This information must include:

See DOL Reg. ? 2550.404c-1(b)(2)(B).

The GAO testimony noted the DOL has "three initiatives under way to improve the disclosure of fee information by plan sponsors to participants and to avoid conflicts of interest." These are:

While GAO supports these initiatives, it believes more needs to be done. On the regulatory side, GAO recommends that DOL require plan sponsors to report a summary of all fees that are paid out of plan assets or by participants. Additionally, GAO recommends the following legislative action:

These are the same recommendations the GAO made in a report on 401(k) plan fees issued late last year. See Private Pensions: Changes Needed to Provide 401(k) Plan Participants and the Department of Labor Better Information on Fees, GAO-07-21 (Washington, D.C.: Nov. 2006).

The Business Community Perspective

Testifying on behalf of the ABC, attorney Robert Chambers expressed support for enhanced disclosure and reporting requirements in general, and for the concepts embodied in the DOL's ongoing three-part initiative. However, Mr. Chambers warned of possible unintended consequences if regulatory and legislative "reforms" go too far. For example, he pointed out that there are costs associated with complying with new legal and regulatory requirements, so there is a danger that steps taken to reduce 401(k) plan fees will end up increasing them.

Other Views

By comparison, the other two witnesses, Messers. Butler and Hutcheson, called for less restraint and more sweeping reform. Mr. Butler suggested a "simple" solution would be "to bar any organization that manages money from actually selling and administering 401(k) plans," but he admitted this would be "impractical." Thus, his more practical alternative suggestion would be "to have a national standard fee disclosure form required of any 401(k) presentation and require that it be renewed to reflect any change in investment mix." Basically, Mr. Butler suggests requiring 401(k) plans to show participants how fees will affect total returns over ten and twenty years, assuming "an even mix of investments across the entire spectrum of fund offerings."

Mr. Hutcheson suggested the following changes:

Translating Talk Into Action

This was only a hearing, so no specific legislation was considered. However, following the hearing Chairman Miller told reporters that it would be fair to assume the Committee will pursue legislation to address issues relating to 401(k) plan fees, and that inaction "is not an option." Still, it is much too early to tell whether any relevant legislation will be enacted this year, or even during the course of this Congress.

What is certain, however, is that the DOL will continue with its three-part initiative, and may seek additional regulatory solutions. Also, litigation involving 401(k) plan fees will continue making its way through the federal court system. So whatever Congress does, there will be much discussion about 401(k) plan fees in the weeks and months to come.

The information in this Washington Bulletin is general in nature only and not intended to provide advice or guidance for specific situations. If you have any questions or need additional information about articles appearing in this or previous versions of Washington Bulletin, please contact: Robert Davis 202.879.3094, Elizabeth Drigotas 202.879.4985, Taina Edlund 202.879.4956, Laura Edwards 202.879.4981, Mike Haberman 202.879.4963, Stephen LaGarde 202.879-5608, Erinn Madden 202.572.7677, Bart Massey 202.220.2104, Laura Morrison 202.879-5653, Martha Priddy Patterson 202.879.5634, Tom Pevarnik 202.879.5314, Tom Veal 312.946.2595, Deborah Walker 202.879.4955. Copyright 2007, Deloitte.