Your 401K Finally Draws Attention
We were the very first (as early as in 2009) to point out that American workers were underserved by their retirement plans such as those 401k and 403b. The good news is that finally, issues in 401k plans are drawing more and more attention (read, class-action lawsuits). This newsletter summarizes some of these hot issues. We hope readers can look at your own plans and help your employer/plan sponsor to improve them.
Issues that drew legal actions
There have been many reports recently on various 401k plans under class action suits from their current or ex-plan participants. Here is a summary:
- Excessive fees: This is perhaps the number one hot issue for many 401k retirement plans. A typical example is a class-action suit against Cornell university’s 403b plan: the lawsuit alleges that for some funds in the plan, they have much higher expense ratio than those of identical funds available for institutions. An example is a fund that has 0.44% expense ratio compared with 0.19% of an identical institutional one. This is not surprising, we have repeatedly pointed out such an outrageous arrangement. Notice that for some plans with smaller asset sizes, they might be forced to pay higher fees for certain funds. But it’s not an excuse for many large plans or even for a small plan, there are many cheap good index funds available.
- Expensive or too many record-keepers: Another example is that a plan pays too much fee to record-keepers. In a lawsuit against Johns Hopkins University, it is alleged that the plan annually pays around $300 per plan participant for its record-keepers (as many as five of them). It is claimed that a reasonable record-keeper fee should be around $35 per participant. This is yet another example that a retirement plan is overlooked or underserved. There is no excuse to pay almost 10x fees here.
- Self-dealing funds: Some financial companies are accused to select mutual funds to be included in their employees’ 401k plan because of special business/financial relationship with mutual fund companies, not based on objective fiduciary criteria. An example is the lawsuit against brokerage firm Edward Jones. Another example is the lawsuit against MIT because of its tie with Fidelity’s owner Johnson family. Unless there is conclusive evidence, it’s very hard to prove a company would sacrifice its employees’ interests. However, the existence of such lawsuits can certainly help to warn against such abuse.
- “Bad” funds based on performance: A lawsuit against Morgan Stanley alleges that it includes its own proprietary funds in its 401k plan. An example is a small cap fund that underperformed 99 percent of similar funds in 2014 and 94 percent in 2015. Though it’s hard to use short term performance to judge a fund’s quality, we believe such a lawsuit would drive more plans to use low cost index funds that would fall into a safe zone for plan sponsors.
- Too many fund choices: We believe that this is actually an example that shows how pervasive this type of class-action lawsuits have become. Several universities’s 403b plans were under attack because of large selections of funds (Columbia, Northwestern, USC etc.). While we believe that it’s a good idea to offer tiers (such as core tier and complete tier) of options, it’s ridiculous to limit participants’ choices here.
Employers are now more fiduciary aware
The good news from this flurry of lawsuits is that now your 401Ks are finally drawing serious attention, especially from your plan sponsor. Bloomberg reported that more than 38% of plan sponsors are more concerned about their plans now. On the other hand, the downside of these lawsuits might force plan sponsors to spend more to fend off the lawsuits by hiring retirement plan advisors or expensive lawyers to look over their plans.
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