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Debunking the Myth of Free 401(k) Administration

December 14th, 2011 | No Comments | Posted in Financial News

By Ary Rosenbaum, Esq.

An urban legend is a form of modern folklore consisting of stories usually believed by the teller of them to be true. Whether it’s Proctor and Gamble being Satan worshippers because of an old logo or Kentucky Fried Chicken changing its name to KFC because of some Kentucky state tax, there are stories that are propagated as true that are clearly not. We see these urban legends circulated by chain e-mails and sometimes even passed off as true by the media and we are amazed as to how intelligent people can be conned into believing such fabricated stories. When it comes to the retirement plan industry, the biggest urban legend out there, the Loch Ness monster, the abominable snowman, or drugged travelers harvested for their kidneys legend, is the myth of free 401(k) administration.

The myth of free 401(k) administration is the idea that since the plan provider such as a third party administrator (TPA)charges a nominal up front charge or nothing at all, that is all the cost that a plan is being charged for the administration of their plan. Financial advisors and competing, unbundled TPAs are amazed when potential clients insist that they are being charged nothing or close to nothingfor their plan when these plan providers know full well that these plan sponsors are taken to the cleaners. While fee disclosure regulations will be implemented in April 2012, that is still quite some time before these plan sponsors are going to be in for the shock of their life. So hopefully this article will try to lessen that sticker shock when plan sponsors get disclosure from their plan providers.

The TPAs who have helped perpetuate the myth of free 401(k) administration tend to be either bundled providers (where one single vendor provides all investment, recordkeeping, administration, and education services and that vendor is either an insurance company or mutual fund company) or those using an insurance company based platform.

Since the 401(k) industry is dominated by mutual funds, it should come as no shock that many mutual fund companies offer services as a bundled provider because it’s an effective means of distributing their mutual funds. Mutual fund distribution is extremely important for mutual fund companies because their bread and butter are the funds’ asset management fees and more assets under management equal more revenue for the mutual fund company. While many mutual fund companies only offer TPA services for larger plans, they are a few mutual funds companies that have been rather aggressive in offering TPA services to small and medium size plans. While mutual fund companies do offer an attractive alternative as part of a one stop shop, plan sponsors are under misimpression that the mutual fund companies’ TPA services are free. Mutual fund companies make their money as a bundled provider through those very same mutual fund management fees that I had discussed earlier. Many of the same companies that offer TPA services are the very same mutual funds companies that offer revenue sharing or sub TA fees to unbundled TPAs for plans that use their funds. So by keeping plans under their roof, these mutual funds companies can keep their revenue sharing/ sub-TA fees to themselves. These mutual fund companies also guarantee the fees they make, by suggesting that a percentage of a plan’s assets (up to 100%) be invested into their own proprietary mutual funds. Having a mutual fund lineup dominated by one mutual fund company can be considered a liability risk.

The myth of free 401(k) administration is mostly associated with insurance company providers whether it is through an unbundled or bundled arrangement. While insurance companies do offer different types of programs that cater to plans of all sizes, the myth is associated with insurance based platforms devoted to 401(k) plans that are small (size dictated by plan asset size). Insurance company providers offer a” low” cost 401(k) program that is attractive to small companies or new 401(k) plans that have very few assets. While most independent TPAs may have minimum annual recordkeeping fees that may be between $2,500 and $7,500, an insurance company can offer their platform for $1,500 or less in administrative expenses (whether bundled or unbundled, using an independent TPA), or even “free.”

How can an insurance company offer recordkeeping services for free? Well, the recordkeeping services aren’t free; they’re “free.” The mutual funds that an insurance company offers on platform include the mutual fund (with their underlying management fee) and a wrap fee. While the local department store offers free wrapping, the insurance companies’ wrap fee isn’t free. The wrap fee is an additional asset based fee that a Plan sponsor rarely sees or never sees if they swear they get their administration for free. So while participants think the mutual fund on their 401(k) plan’s “shelf” is the brand named mutual fund they have known to love, it’s really that same mutual fund with some added fat (a wrap fee of added xpenses).

There is nothing wrong with a wrap fee because an insurance company needs to make money and the fact is without this wrap fee, most small 401(k) plans would probably never be implemented because of the high administrative cost for Plans that don’t use the insurance company based platforms. While there is nothing wrong with a wrap fee, the point is that Plan sponsors should understand that it does exist and that there is a cost involved with the administration of their plan. Plan sponsors need to understand that retirement plan administration is like any other business with such huge fixed costs such as computer systems, software, and staff that is so cost prohibitive than many unbundled TPAs do not handle daily valued 401(k) plans on their own. So it is impossible for any TPA to charge nothing for administration.

While 401(k) plans with little assets may be wise to stick to using an insurance company based platform, plans that have increased to a size of critical mass (anywhere from $2 million and up) should consider whether this wrap fee arrangement is still attractive or whether going with a fully unbundled TPA is less expensive. While the unbundled TPA may have a higher recordkeeping fee (the $2,500 to $7,500 fee discussed earlier), they may now be less expensive than the wrap fee since the Plan has more assets (which increase the amount of the fees generated by the asset based wrap fee). It should be noted that insurance companies that have 401(k) based platforms have numerous platforms, catering to plans of all sizes. So just having an insurance company platform for your 401(k) plan is not proof you are paying too much in fees, only a review and comparison with other providers will determine that.

Much of the myth of free 401(k) administration will be debunked when the Department of Labor 408(b)(2) fee disclosure regulations are finally implemented in 2012 (April 1, 2012 as of press time). All plan providers including insurance companies and mutual fund companies will have to disclose to plan sponsors and fiduciaries all direct and indirect compensation they receive in providing service to the plan. So if plan sponsors actually read the disclosures (as they should, to avoid increased liability), they will notice that the “free” administration that they have been receiving for the plan came at a price far greater than they ever imagined. In order to avoid having their transaction with their insurance company provider or Mutual Fund Company TPA to be considered a prohibited transaction (with financial penalties attached), plan sponsors and fiduciaries must determine whether the fees they are paying are reasonable. The only way to do that is shop around the plan to other providers and utilizing independent retirement plan consultants and ERISA attorneys to help with a plan fee review.

There are far too many 401(k) plans that pay too much in fees because they grew in size and the plan sponsor didn’t bother to check whether the wrap fees they are paying are reasonable and whether an unbundled provider would actually be less expensive. A perfect example is in 2008, I was working with a TPA in reviewing the retirement plan of a well known retailer. The Plan had $4 million in assets with a well known insurance company. Their contract with the insurer for the 401(k) plan was from 1995 and expired in 2001, which called for annual fees of more than 2.50% annually. What may have been reasonable in 1995 was obscenely expensive in 2008; they were paying more than $85,000 in fees when they could have paid a fraction of that. The retailer didn’t bother to keep an eye on their fees to see if they were still reasonable in the marketplace and whether the same insurance provider had a new 401(k) platform with lower fees (they did). The retailer also didn’t keep an eye on their business as they folded in 2009.

I have seen too many 401(k) plans with millions in assets that pay too much in administration fees because they are under the mistaken belief that they pay nothing for administration. While their financial advisor may have a nefarious reason as to not letting the Plan sponsor know about the high wrap fees, I have run into many 401(k) financial advisors who don’t even know that a wrap fee exists. There is still too much ignorance in the 401(k) marketplace and ignorance costs money.

I would also advise plan sponsors that are about to implement a 401(k) plan with an insurance company to retain a retirement plan/ ERISA attorney to review contract terms with the provider to determine the wrap fee as well as the length of the contract and any surrender charges for early termination. This will ensure that there is no sticker shock when the fee disclosure regulations are finally implemented and to advise a Plan sponsor when changing to an unbundled TPA may make economic sense.

Again, an insurance company provided 401(k) plan may make sense when a Plan is smaller and even when a Plan is larger, depending on their program. Insurance companies offer Plans with different pricing structures, but Plan sponsors are breaching their fiduciary duty by not knowing their cost structure. There is no such thing as a free lunch or free 401(k) administration.

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New Rules for Retirement Plan Fiduciaries

December 14th, 2011 | No Comments | Posted in Financial News

Coming your way: some of the most significant changes in 30 years.

The Department of Labor is following through on its promise to update the retirement plan landscape. Three major rule changes are scheduled for the near future. All retirement plan fiduciaries and administrators

#1: “Covered” service providers must fully describe their services & fees. This rule will take effect on April 1, 2012. It requires “covered” service providers (financial advisors, financial consultants or third-party administrators who expect to receive $1,000 or more in direct or indirect compensation for their services) to detail their compensation and/or fee structure to fiduciaries. (CSPs also include financial advisors or TPAs who act as fiduciaries or Registered Investment Advisors for plan sponsors.) If applicable, the CSP must detail any fees charged for recordkeeping along with recordkeeping methods.1,2

#2: Fiduciaries must detail fees (and more) to plan participants. If participant-level fee disclosures aren’t provided to plan participants after May 31, 2012, then a plan participant or beneficiary may claim a violation of fiduciary duty on the part of the plan sponsor. For calendar year plans, initial quarterly disclosures must be furnished by August 14, 2012. The new regulations require fiduciaries to disclose (and update)

  • Rules related to the dissemination of investment instructions for the plan
  • Plan fees and expenses paid from participant accounts (plus a breakdown of these fees, i.e., investment management fees, admin fees, cost-of-advice fees)
  • Any other specific fees or charges that may be drawn from a plan participant’s account.3,6

#3: The DOL is redrafting its fiduciary rule. It intends to come forth with a new rule early in 2012, under which the definition of “fiduciary” could be expanded to include anyone who provides advice to a retirement plan or to IRA owners. A group of nearly 30 Congressional Democrats protested expanding the definition of “fiduciary” in a letter to Labor Secretary Hilda Solis last May, contending that it would backfire and eventually reduce access to investment education and information for plan participants. Nearly 50 House Republicans followed suit with a letter to Secretary Solis in November, urging that the new rule not encompass IRAs. However, Assistant Labor Secretary Phyllis Borzi has indicated that IRAs will be included under the redrafted fiduciary duty rule. The concern among legislators and financial services professionals is that the definition of “fiduciary” will become so vague that even the most basic education and advice could fall under ERISA status, leading to possible headaches for plan providers and plan participants.4,5

The goal? The DOL wants to make these plans more transparent. This is an occasion for plan advisors to reconnect with plan sponsors, fiduciaries and participants.

Citations.
1 – www.dol.gov/ebsa/newsroom/2011/11-1063-NAT.html [7/13/11]
2 – prudential.com/media/managed/PruPA-DOLServiceProviderFeeDisclosure.pdf [9/10]
3 – www.nagdca.org/content.cfm/id/nagdcanote20111013 [10/13/11]
4 – accountingtoday.com/news/Congressional-Democrats-Want-Agencies-Revise-Fiduciary-Rule-58352-1.html [5/12/11]
5 – www.investmentnews.com/article/20111205/FREE/111209970 [12/5/11]
6 – montoyaregistry.com/Financial-Market.aspx?financial-market=retirement-income-planning-the-basics&category=3 [12/7/11]

The Latest on Social Security

December 14th, 2011 | No Comments | Posted in Financial News

Benefits increase for 2012. Ideas for reform are numerous.

Social Security gets its first COLA since 2009. As moderate inflation has made a comeback, the federal government has decided to boost Social Security benefits by 3.6% for 2012. This means an average increase of $39 per month for 55 million Social Security recipients ($467 for all of 2012). Also, more than 8 million Americans who get Supplemental Security Income will get $18 more per month ($216 for 2012).1

There are two things to note in the fine print.

  • A COLA increase in Social Security means that Medicare premiums can also increase. Much of the 2012 COLA adjustment could effectively be eaten up this way, as Medicare premiums are automatically deducted from Social Security checks. (2012 Medicare Part B premiums should be announced before the end of October.)1,2
  • Businesses should note that the Social Security wage base will rise to $110,100 for 2012. Currently, the federal government levies payroll tax on the first $106,800 of income; next year, that ceiling rises by $3,300. This means about 10 million more high-earning Americans will be subject to the payroll tax, which could vary anywhere from 3.1% to 6.2% in 2012 depending on legislative action (or inaction).1,2

Will the “super committee” of 12 make cuts to the program? It’s uncertain; the deadline for the long-term budget reform plan from Congress falls on November 23, and the bipartisan and Joint Select Committee on Deficit Reduction (a.k.a. the “supercommittee”) has been meeting more or less in secret, with AARP and other lobbyists pressuring them not to cut Social Security and Medicare.5

How might Social Security address its long-term shortfall? Proposals abound, from simple fixes to radical reforms.

  • President Obama’s fiscal commission has suggested raising the FICA cap. In this proposal, the payroll tax cap would gradually increase between now and 2050 so that 90% of wages earned in America would be subject to Social Security tax by the middle of the century. (This is how it used to be.) Under this plan, the taxable maximum would be $190,000 by 2020.2
  • Rep. Paul Ryan (R-WI), Chair of the House Budget Committee, has authored the GOP’s “Path to Prosperity” plan, the so-called “Ryan roadmap” that would encourage workers under age 55 to direct some of their payroll taxes into personal retirement accounts. Rep. Ryan’s proposal would also index initial Social Security benefits for most retirees to price growth instead of average wage growth and set the age for Social Security eligibility at 67.3,4,5
  • The conservative Heritage Foundation suggests a 5-year strategy in its Saving the American Dream proposal, which calls a reduction in Social Security benefits for the richest 9% of retirees, a $10,000 tax exemption for all who work past the federal retirement age, and the near-term elimination of taxation of Social Security income.6
  • Former Republican presidential candidate Herman Cain has proposed replacing Social Security with the “Chilean model”. In the early 1980s, Chile’s government ended its retirement entitlement program and put retirement planning solely in the hands of individuals, who maintain personal retirement investment accounts and set their own contribution levels and retirement dates. Investor’s Business Daily notes that on average, the program has yielded better than 9.2% compounded annual returns over 30 years.7
  • Twelve fixes were suggested in a 2010 report issued by the U.S. Senate Special Committee on Aging, among them:
    • A 3% cut in benefits
    • Taking the payroll tax to 7.3%
    • Hiking the full retirement age to 68 or older
    • Increasing the Social Security averaging period that determines SSI
    • Reducing the typical yearly COLA by 1% or .5%
    • Reducing spousal benefits
    • Investing some of Social Security’s trust funds in equities
    • Directing some estate tax revenues into Social Security’s trust fund

Perhaps a fix lies somewhere within these proposals; unmodified or altered, alone or in combination.

How much retirement income do you have these days? With Social Security’s future still a question mark, you may be thinking about where your retirement income will come from in the years ahead. A chat with PRIMESolutions Advisor’s Retirement Income Specialist www.samdalesandro.com may be worthwhile before 2012 arrives.

Citations.
1 – businessweek.com/ap/financialnews/D9QFGU602.htm [10/19/11]
2 – money.cnn.com/2011/10/19/pf/taxes/social_security_tax/ [10/19/11]
3 – montoyaregistry.com/Financial-Market.aspx?financial-market=will-you-have-an-adequate-retirement-cash-flow&category=3 [10/21/11]
4 – articles.cnn.com/2011-09-26/politics/politics_gop-paul-ryan_1_ryan-plan-paul-ryan-government-spending/3?_s=PM:POLITICS [9/26/11]
5 – cbpp.org/cms/index.cfm?fa=view&id=3308 [10/21/10]
6 – savingthedream.org/how-it-affects-you/retirees/ [10/21/11]
7 – investors.com/NewsAndAnalysis/Article/586464/201109291833/Cains-Chilean-Model.htm [10/12/11]
8 – money.usnews.com/money/blogs/planning-to-retire/2010/05/18/12-ways-to-fix-social-security [5/18/10]
9 – money.usnews.com/money/blogs/planning-to-retire/2010/05/18/12-ways-to-fix-social-security [5/18/10]

December Monthly Economic Update

December 14th, 2011 | No Comments | Posted in Monthly Economic Update

How to Roast Chestnuts Over an Open Fire

December 14th, 2011 | No Comments | Posted in Fun

Wait. Before you begin reading this post, click play on the video below.

Ah, that’s better. Now we’re ready to proceed.

You’ve probably heard the “Christmas Song” hundreds of times in your life, and you’re well familiar with that opening line about “chestnuts roasting on an open fire.”

But how many of us have actually partaken in this holiday tradition? If you’ve never had a warm roasted chestnut, you’re missing out. Chestnuts grow from mid-fall to early-spring, and they peak during the holidays—which is why they’re associated with this time of year. They have a texture kind of like a baked potato, and they’re the only nut that contains vitamin C, so eating some is a good way to ward off winter scurvy if you’ll be spending Christmas sailing as a pirate. The sweet, nutty flavor of chestnuts will warm your manly holiday spirit to the core, and most importantly, roasting them gives you an excuse to do something with fire.

What You Need

The Roaster

Yes, you can roast chestnuts in the oven. But what would be the fun in that? A man never misses a chance to build a fire and cook over it.

To roast your chestnuts, you’ll need a pan that you can put into the fire. Long-handled popcorn or chestnut roasters make the ideal vessels for open fire chestnut roasting, as they allow you to roast the nuts without burning your face off. And their lids let you shake the chestnuts around for even roasting, instead of having to turn them over yourself or losing a few when flipping them in a lid-less pan.

If you don’t have a long-handled roaster, you can get by with a 12-inch cast-iron skillet or some other pan. Just be careful not to burn yourself. If you have an old beat-up skillet, you can turn it into a bona fide chestnut roaster by drilling 30 or so holes in the bottom.

If you don’t have a chestnut roaster or a skillet, you can also use a fireplace shovel. And I suppose you could even try sticking them individually on skewers like the boys in the opening image, if you’re the patient type.

The Chestnuts

You can buy chestnuts at some grocery stores, but you may want to call ahead to make sure they have them. While dozens of chestnut varieties exist, most people roast Castagne and Marroni chestnuts at the holidays. Castagne are more common, while the Marroni are a more expensive specialty. The nut of the Marroni is sweeter and plumper, and it peels away from the skin more easily.

When choosing your chestnuts, look for those that are plump, smooth, shiny, and blemish-free. Moldy chestnuts are a common problem, so squeeze and shake the chestnut to see if the nut has shriveled up and pulled away from the shell.

Keep in mind that the larger the chestnut, the longer it will take to roast. Pick chestnuts that are fairly uniform in size and will thus be done at the same time.

Preparation

Rinse the chestnuts under cold water. Lay them on a towel and pat dry.

Before roasting chestnuts, you must score them to allow steam to escape and prevent them from exploding like chestnut bombs while cooking. Simply take a sharp knife and cut an “X” into the flat side of each chestnut.

Once your chestnuts are clean, dry, and scored, build a warm, cozy fire in the fireplace. Let it burn down so that you have a nice bed of hot embers.

Roasting

Place the chestnuts in a single layer in the pan. No need to add oil or grease; as they cook, the chestnuts will release their own oil.

Cover the pan with a lid and hold it over, but not directly in, the fire. After five minutes or so, shake or stir the chestnuts around, making sure to roast all sides adequately. Repeat this process every few minutes.

I didn’t have time to wait for a proper ember bed, so I did stick the chesnuts directly in the fire somewhat, even though it isn’t reccomended. The outsides got charred, but the insides were mostly okay.

Most chestnuts will fully roast after 25 minutes. A chestnut is fully roasted when the shell starts to open where you made the score mark and you start hearing popping noises. You can also check for doneness by piercing a chestnut with a knife; it should be tender.

Remove the chestnuts and place them in a towel-lined bowl to cool for about 10 minutes. While they’re still warm, remove the shells. The fuzzy inside skin will peel off along with the outer shell.

You can eat the chestnuts plain or dip them in butter and cinnamon for extra holiday flavor and goodness.

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Christmas Jingles

December 14th, 2011 | No Comments | Posted in Fun

Just click the play button on any mix image to listen. Then, turn up the volume, grab an egg-nog, relax. Perfect mixes for baking and decorating Christmas cutout cookies, trimming the tree, enjoying time with friends and family, opening presents on the big morning.

Mix 1: Relaxing

Mix 2: Tree Time

Mix 3: Something Under the Tree

Mix 4: Party Time

Mix 5: Christmas Groovy

Mix 6: Jazzy Jingles

Mix 7: Indie-Folk Festivities

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