Eliminating Excess Costs in Retirement Plans

Small and mid-sized businesses often have expensive retirement programs, but many of them don't realize what the true cost is. This is, in large part, due to fees being charged against assets, leaving employers with little, if any, of the service costs. These are instead charged against participant accounts. While it may seem nice to not have plan fees as a line item in the budget, this structure is rarely advantageous to anyone except the service providers. There are 3 hidden costs at play here that rarely get mentioned:

1. Guaranteed fee hikes. When service providers charge asset based fees on savings plans where contributions flow into the plan regularly, plan fees will increase at the same rate that balances do. If new contributions boosted plan assets by 2% and the investments returned 6%, assuming no withdrawals, provider fees would increase by about 8% along with the assets. Talk about inflation! Chances are, if the company was paying the fee directly, the significance of the change would result in a negotiated charge, but this rarely happens when it doesn't hit the budget for review. Out of sight, out of mind.

2. Compounding of fees. We often hear of the benefits compounding has on investments, but when fees are taken from participant accounts, there's a compounding effect from fees too. Over a 35 year period, a 1% asset based fee would be expected to reduce your balance by 28%!

3. Loss of tax deductions/credits. Companies are generally eligible to deduct administrative costs to reduce taxes or take advantage of tax credits to offset the cost of starting a plan or implementing auto enrollment.

Let's look at how this might play out in real life. We'll use a plan with $2 million in assets and $60,000 in annual contributions with investment returns anticipated at 6% annually. The business owner has 30% of the plan assets in her own account and the company is taxed at a 25% rate. The total asset based fees come in at 1.3% of assets

	If Paid by Company	If Paid with Plan Assets
Total Fee	$26,000	$26,000
Tax Deduction	$6,500	$0.00
Net Cost	$19,500	$26,000
Reduction in Future Earnings (20 Years)	$0.00	$83,385
Total Cost	$19,500	$109,385
Owner's Share of Cost	$19,500	$32,815
Excess Cost		$89,885

As you can see, the long term impact of asset based fees on plan participant accounts can be staggering with one year's fees costing the plan participants over 4 times the amount billed in fees over the next 20 years. Remember, this is only illustrating the effect for a single year. When you look at the excess costs associated with asset based fees over decades, it is outright mind boggling! The fee for the next year's services in this example would be projected to rise by over $2,300 also, making it (and each subsequent year) even more expensive.

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