Revenue Sharing Payments

Can someone tell me how to easily explain to a client what a revenue sharing payment is and how it's generated and paid to the TPA.  We receive basis points on assets but I  need to explain exactly how that affects the participant accounts.

Ask the investment provider to provide you with an explanation that you can give to the client. At least in theory, the revenue sharing shouldn't affect the participant accounts. However, not being an investment person, I'm not the right person to comment on this.

yes the investment advisor is clueless in this case.  

16 minutes ago, HarleyBabe said:

yes the investment advisor is clueless in this case.  

That is scary. Here's how I explain it (this is a general explanation as there will be exceptions):

Each mutual fund has multiple different share classes. Mutual Fund ABC has share classes A, B, C, R1, R3, R6, Z, I etc. depending on the mutual fund family. Regardless of share class, the manager of Mutual Fund ABC needs .x% to manage the fund. .x% is the same regardless of share class. Yet, each share class has a different total annual expense. The share class expense minus the manager fee results in excess revenue (revenue sharing). The excess fee is then collected by the record keeper and distributed to the TPA, advisor, rebated back to participants and/or kept by the record keeper to cover costs. 

This impacts participants because they pay your fee (and other fees) rather than receiving a higher investment return. The revenue sharing is taken from the investment return and is netted from participant accounts. This is usually done quarterly. In this structure it is likely every participant pays a different admin fee because the mutual funds in the plan don't all produce the same level of revenue sharing. The calculation is based on the participant balance and the funds they choose. 

Many plans we see have moved away from this arrangement into a zero revenue sharing structure with an asset charge to cover cost.

WCC explained it well.  I would add - download a prospectus and look at the breakdown of fees for different classes; it will become clearer. 

You'll see that all have (or should have) the same % for "management." 

12b-1 fees are described as "distribution and/or service" but really mean "commissions."  (Although sometimes the recordkeeper keeps some of that, e.g. they might use R-3 shares that have 50 bps 12b-1 fees but only pay 25 bps to the broker; that means they are keeping 25 bps.  I'm not saying it's bad; that could still be a well-priced product.) 

There is probably also an "other" category which includes but is not limited to revenue sharing.

Don't disagree with any of the above, but would point out that the mutual fund's fees are typically divided into management fees (i.e., investment management, i.e. deciding what shares to buy and sell, and when) and shareholder servicing fees (i.e., dealing with the fund shareholders, which can be legion, i.e. individuals, IRAs, estates, etc.). The theory is that if a 401(k) with many participants is a shareholder, that greatly reduces the shareholder servicing that the mutual fund has to do, because most of it is actually being done by the 401(k) TPA. So it makes sense that the mutual fund would share some of it with the TPA. E.g., a fund's total fees might be 75 basis points, consisting of 50 basis points for investment management and 25 for shareholder servicing. The mutual fund gives 20 of the 25 shareholder servicing fees to the TPA, since it is doing most of the "real" shareholder (i.e., participant) servicing.

One of the responsibilities of a fiduciary is to monitor plan expenses. Revenue sharing is simply a breakdown of who is getting what from expenses (including, but not limited to, fund fees) paid by plan participants (whether they know it or not). Big three are recordkeeper, investment manager or broker,  and TPA. There may be other mouths at the trough as well. In the aggregate these may be reasonable (by benchmark analysis) but perhaps the investment manager is being "overcompensated" at the expense of the "undercompensated" TPA (who is being paid by the sponsor, not the participants). In such a case plan costs could possibly be trimmed. Unless all plan fees are paid by the sponsor or no revenue (such as investment fees) are shared among or between plan service providers, the plan has revenue sharing, whether it is on a brokerage or RIA platform. What can't be measured cannot be managed.