HOW IS THE ADMINISTRATION OF 401k PLANS STRUCTURED?
The administration of any 401k plan is substantially prescribed by the provisions of law and Federal regulation. Current law requires the development of a plan document as a part of the set-up of the plan as well as the submission of annual reports (Form 5500) that require extensive recordkeeping and preparation. Additionally, the tax code requires annual nondiscrimination testing to ensure that highly compensated employees do not contribute in excess of their ceiling. In 1995 a survey found that 61% of 401k plans discovered that the contributions of highly compensated employees must be restricted or adjusted as a result of nondiscrimination testing (Hewitt Associates). However, recent legislation enables plan sponsors to determine the allowable contributions of highly-compensated employees on a prospective basis, eliminating the need to make ex-post account adjustments.
These administrative requirements impose a cost. ERISA and its interpretive regulations require additional recordkeeping including periodic account statements to plan participants, at some cost to plan sponsors, participants, or both. Many plan sponsors choose to purchase this administration from service providers in lieu of using internal staff. A survey disclosed that in 1996 less than 5% of plans were being administered in-house exclusively and only 30% by in-house staff supported by vendors (Spencer & Associates).
The administration of 401k plans is also driven by the set of services that plan sponsors provide as conveniences to their employees or as inducements to increased participation. Some of these services are the participant's ability to obtain a loan from the plan, daily valuation of account balances, education and the communication of information about the plan, the ability to transfer assets among investment options frequently, and call centers. Larger plans can provide these services at relatively low per-capita costs, but for smaller plans they can be very expensive (Stone).
According to HR Investment consultants in Towson, MD, publisher of the "401k Provider Directory, "the cost of running a 401k plan with 25 participants and $750,000 in assets can range from as little as $6,750 per year to as much as $20,000, depending on which 401k vendor you select. (Sources: Nation's Business, September 1998, Myers, Randy "Your 401k Plan May Cost You Too Much." Business Week Online, July 2000, Brenner, Lynn " A Wealth of Choices."). By comparison, a 401(k) Easy or Easy Online system costs only $995 per year for a 25-person plan--a savings of between 60% and 80% in plan administration fees.. The employees of Target Laboratories (www.targetlab.com) a small company, are maximizing the benefits of the company's 401k, by saving for retirement in tax-advantaged accounts.
HOW ARE 401k PLAN SERVICES DELIVERED?
Plan sponsors have adopted a variety of arrangements to provide 401k plan services to their employees. The service delivery mechanisms they select may potentially affect the level of plan expenses, the extent to which they are charged to the plan, and the degree to which they are disclosed to sponsors and participants.
FULL SERVICE PROVIDERS
The first type of providers are the full service providers. These are the "bundled" service providers that are able to provide the entire range of administrative services to a plan sponsor. Full service providers include mutual fund companies, larger banks and insurance companies. In one estimate there are just over 200 full service providers available to plan sponsors (Valletta, February 1997). However, they must control a large segment of the market, since in a recent survey, it was estimated that 59% of 401k plans use bundled services from full service providers (Spencer & Associates). This study revealed that the full service providers are mutual funds (50.4%), banks (24.4%), insurance companies (14.1%), consultant/TPA alliances (8.1%), and others (3.0%).
Relying on one full service provider to furnish all services to the plan appears to be the most common approach to 401k plan administration. Administrative expenses are revealed to the extent that they are invoiced to the plan sponsors. When any of those expenses are paid by the plan, they are recorded on the Form 5500 report and borne by the participants. In most cases, however, at least some of the fees are not reported directly but are netted in the annual performance results of the investments. In this case they are also borne by the plan participants. Bundled services are more prevalent among small and medium sized plans. According to one study, among plans with fewer than 250 participants, 85% rely on bundled services; among plans with from 250-1,000 participants, about 75% use this product (Fink). A smaller scale survey in 1996 estimated the percentage of plans using bundled services to be 59% (Spencer & Associates). (The latter survey may have been biased toward larger plans; the number of respondents was only 298.)
A smaller group of plans have taken an intermediate approach, receiving asset management and recordkeeping services from an alliance, while providing other services with in-house staff or independent providers. Spencer & Associates report that 6.1% of respondents to their survey use this approach. Another arrangement of this type would be one in which an ostensibly full-service provider out-sources the recordkeeping tasks, allocating 15-20 basis points from the investment management fee or expense ratio for this service (Rowland).
UNBUNDLED SERVICE PROVIDERS
Plan sponsors may provide services through a combination of in-house staff and independent service providers. In this approach the plan sponsor becomes the "bundler." This practice appears to be more prevalent among the larger plans that have adequate resources to manage such a plan (Tiemann). One study suggests that about one-third of plans (30.1%) use the unbundled approach with a combination of in-house and vendor resources (Spencer & Associates). An additional 5% provide services to the plan with in-house staff alone.
ACCESS TO 401k SERVICE PROVIDERS
The costs of 401k plan services are somewhat dependent on the information that a plan sponsor has about the range of prices in the marketplace that are charged by these providers. A search of the literature shows that gaining visibility of the universe of thousands of service providers would be difficult to impossible for any plan sponsor with limited resources. For example, Valletta (February 1997) estimates that there are in excess of 1500 third party administrators and over 3,000 firms offering asset management services to 401k plans.
The directories cited offer only a small segment of the available vendors, although the majority of the larger providers are displayed. For example, the 401(k) Provider Directory, one of the best known, only contains information about the 94 of the larger full service providers (HR Investment Consultants). The other directory located in the literature search, the (k)form Catalog, contains information about both full service providers as well as TPAs and alliances. However, the (k)form Catalog lists only 79 such providers. (The publisher states that these 79 providers service over 50% of 401k plans in the country.)
Information about service providers is also available from associations, advertising, and the Internet. In addition, the 401k plan provider industry is very aggressively seeking to make their services known, frequently through well structured sales networks. However, the plan sponsor relying solely on information furnished by those service providers that establish contact through a sales force, would have incomplete knowledge of the marketplace.
The foregoing discussion suggests that the market for 401k plan services is not particularly efficient for the plans that do not have the resources or interest to search for information that would allow a comparison of available services and prices.