Plan sponsors are focusing a lot on fees these days. Fees do play a part in sponsors’ fiduciary duties, but just one part. And fiduciary duty is tied to ensuring that fees are reasonable––not simply the lowest.
There’s no question fees are a hot topic for defined contribution (DC) plan sponsors. Fees came into sharper focus with ERISA’s fee-disclosure regulation in 2012. And while DC plan sponsors have always been fiduciaries, recent 401(k) litigation and the new US Department of Labor (DOL) Fiduciary Rule, scheduled to take effect this April, are leading many financial professionals—including plan sponsors—to look even closer at fees.
PUTTING FEES INTO PERSPECTIVE…NOT JUST UNDER A MICROSCOPE
The trend for plan fiduciaries has been the line of thinking that says investing in funds with the lowest fees will ensure compliance with fiduciary responsibilities. But low fees aren’t a panacea for the numerous fiduciary considerations plan sponsors have to address. It’s fair to say that if a plan sponsor chooses a plan investment solely because it’s the lowest fee option, that plan sponsor hasn’t engaged in a prudent fiduciary process.
Ensuring that fees are reasonable involves a much wider scope of expert responsibility. It’s part of determining what the best investment solutions are for all plan participants.
DOL’S EXTENSIVE FIDUCIARY ROAD MAP
Investments must be appropriate for all participants and beneficiaries, and investing decisions must consider a number of factors.
In determining whether a particular investment is appropriate, the DOL regulations state that a fiduciary must consider, among other things:
- the role the investment plays in the plan’s portfolio
- whether the investment is designed reasonably to further the plan’s purposes
- the risk and return factors of the potential investment
- the portfolio’s composition with regard to diversification
- the liquidity and current return of the total portfolio relative to the anticipated cash-flow needs of the plan
- the projected return of the total portfolio relative to the plan’s funding objectives
- the limitation on the participant’s rights to withdraw or to transfer their interests
In addition, when plan fiduciaries focus on a target-date fund, they should consider plan demographics and the underlying investments within each target-date fund when determining whether the fund is appropriate for the specific age band of participants.
With so many factors to consider when selecting an investment, merely focusing on fees, when put in this context, seems remiss. Likewise, focusing on index or passive funds to the exclusion of other investment options—just because of fees—seems similarly shortsighted.
For example, returns after fees are an important criterion for investments—and can reveal a much different picture of what’s best for a plan’s investment menu. And the lowest cost option may carry hidden risks as participants move toward retirement readiness.