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Hellish Retirement Plans

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Forbes.com recently published an article “Retirement Plans from Hell” which did a nice job of bringing to light the excessive charges incurred by many retirement plans using an insurance company group annuity platform. This article brought to mind a consulting engagement several years ago with a local non-profit. The organization had a $9 million 401(k) plan and a $27 million pension plan both with a major insurance organization.

I was able to identify over $100,000 in annual recurring cost reductions for this organization (mostly in the 401(k) plan) resulting from hidden asset charges on the investments. This $100,000 was coming directly out of the accounts of the participants resulting in lower returns on their investments.

The article and this consulting engagement made me think about the impact of these types of group annuity plans and other expensive bundled 401(k) plans on the financial well-being of the participants.

In the Forbes article, one plan was paying a 1.25% contract charge to AIG for their services relating to the 401(k) plan, this likely included administration and other services. Still the 1.25% would be on the high side in my experience. Understand that these fees are on top of any mutual fund or sub-account expenses.

You might say so what? The so what is that on $10,000 an extra 1.25% in annual return over 10 years translates into $1,323. The numbers become even more significant on larger balances and higher levels of excessive fees.

If you are a participant in one of these “…Plans from Hell…” what are your options? Here are a few thoughts:

Invest only in the best funds available in the plan. Even the worst plans typically have a couple of funds that are good, or at least decent. If you have investments outside of the plan, you might consider investing exclusively in these few good funds within the plan and using your outside accounts to balance out your overall portfolio allocation.

Contribute at least enough to earn the company match. If your company offers a match you should contribute at least enough to receive the full match. If, for example, the match is 3% on the first 6% contributed, this is a 50% return right off the bat. Not too many investments offer this type of return.

Bite the bullet and contribute the maximum that you can afford. As poor as the plan options might be, as high cost as the plan may be, many studies indicate that the most important factor in saving for retirement is the amount contributed. Even the worst plan offers the opportunity for regular automatic salary deferral on a pre-tax basis. You might consider outside options as a total or partial alternative such as an IRA or a low cost annuity. If you go this route, please make sure that you contribute on a regular basis which is not always as easy as it sounds in the face of competing financial obligations.

In considering whether any or all of the above options are right for you should consider your own unique financial situation and consult with your personal financial or tax advisor.

Voice your concerns to the plan administrator at your company. If your plan is through an insurance company, you are likely being charged several layers of fees on an ongoing basis and may also be subject to onerous surrender charges if you to exit the plan too early. Do your best to find out ALL of the fees involved. If you feel that they are too high and the investment menu isn’t what it should be, complain to your plan administrator or your benefits department. I tend to give companies the benefit of the doubt that they want to do the right thing for their employees and that they are in this sub-par plan arrangement because they don’t understand all of the aspects of 401(k) plans. You may or may not be able to effect change via your complaints, but if the company hears it enough they may take action. Proposed legislation forcing greater fee transparency may also prod companies to take action.

As part of your strategy, send a copy of the Forbes article (see the link below) to the plan administrator and ask them if the points mentioned in the article apply to your plan.

Even if your plan is not offered through an insurance company group annuity, here are some additional questions to pose to your company’s plan administrator

How were the investments in the plan selected?

How often are they monitored?

Are the investments monitored against industry benchmarks?

How do the plan’s overall expenses compare with industry averages for plans of a similar size range?

When posing these questions to your company’s plan administrator common sense and tact should prevail in terms of how these questions are asked.

Here is a link to the Forbes article mentioned above:

http://www.forbes.com/forbes/2009/0713/group-annuity-aig-retirement-plans-from-hell.html

Please feel free to contact me with your retirement planning and investing questions. 

Retirement plan sponsors, do you need an independent review of your company’s plan?  Do you need help selecting a new plan provider?  Are you looking for ongoing financial advice to help you meet your fiduciary obligations and to provide a superior retirement savings vehicle for your employees?  Please feel free to contact me to learn about our investment consulting services for retirement plan sponsors.

For you do-it-yourselfers, check out Morningstar.com to analyze your 401(k) plan options and to get a free trial for their premium services.  Please check out our Resources page for links to some additional tools and services that might be beneficial to you.

Photo credit:  Flickr

 

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Comments

  1. JoeTaxpayer says:

    Disclosure! While I'd like less government in my life, I'd still like to see requirements for disclosure of costs within the 401(k).
    You are right about the match, grab it. But a 1%+ fee negates the tax savings over time. On one hand the 401(k) manages to convert cap gains to ordinary income, so unless your withdrawal tax rate is well below the deposit tax rate, just 10 years of that 1% is enough to make the account useless.

  2. Anonymous says:

    @JoeTaxpayer:
    How do you figure the 1% in extra fees negates an immediate 20% (or whatever your effective federal and state tax rate is)? Can you illustrate this math?

    It seems to me that, first, who works for the same company for 10 years anymore? So, you only need to live with the higher expense until you can rollover the savings. Second, If you are getting a 20% deduction in taxes, then you'd need 20 years, maybe less for fancy compounding, to have the expenses "eat" the tax deduction.

  3. FYI check out this recent article on Reuters http://blogs.reuters.com/prism-money/2010/12/27/is-your-401k-plan-ripping-you-off/. Note the DOL's study about the impact of a 1% expense increase over 25 years in the third paragraph.

  4. Thanks for sharing your thoughts about lousy 401(k) plans.
    Regards

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