Are the Fees Your Plan is Paying Reasonable?

Employee Benefit Plan Audit | August 15, 2017 | Holtzman Partners

Indirect Payments and Revenue Sharing

As the sponsor of a qualified retirement plan, you have a fiduciary duty to understand the nature of plan fees and ensure that they are reasonable. The Employee Retirement Income Security Act’s prohibited transaction rules require you to ensure that only reasonable plan service fees are paid out of retirement plan assets.

These fees include both direct payments and indirect payments received by plan sponsors, service providers and some financial advisors. Such indirect payments are sometimes referred to as revenue sharing. There are several different types of revenue sharing, but two of the most common are 12b-1 fees and sub-transfer agency/shareholder servicing fees.

Are Fees Reasonable?

To meet your fiduciary obligation, you must understand and evaluate revenue sharing and determine if the total fees service providers receive (both directly and indirectly) are reasonable. You must also evaluate if indirect payments cause any potential conflicts of interest. If they do, you must determine if the plan and plan participants are protected from the conflicts.

Failure to meet these requirements would be considered a fiduciary breach by the plan sponsor. There have been a number of class action lawsuits recently centered around excessive revenue sharing fees, so you should make sure you understand and fulfill your fiduciary duty in this regard.

Indirect Fees Explained

12b-1 fees are fees paid by mutual funds to broker/dealers, which in turn pass on part of the fee to financial advisors for the plan services they provide. The fees, which help pay for marketing and distribution expenses, come out of plan participants’ investment assets.

A big potential conflict of interest exists with the payment of 12b-1 fees: By recommending funds that pay higher fees, broker dealers and advisors can increase their compensation. In doing so, they are prioritizing their own interests over the interests of plan participants.

Sub-transfer agency/shareholder servicing fees, meanwhile, are paid by mutual funds to providers that perform the recordkeeping functions required for retirement plans. These fees also are paid directly from participants’ assets, thus reducing their investment returns. Payment amounts can vary significantly from one fund and share class to the next.

A potential conflict of interest also exists with these fees. For example, suppose a recordkeeper receives $40,000 in revenue sharing and its reasonable charge for recordkeeping services is also $40,000. In this scenario, there is no conflict of interest. But if the recordkeeper’s fee rises to $75,000 over time due to plan growth while its reasonable charge rises only to $50,000, the fee has now become excessive.

Your fiduciary responsibility as a plan sponsor would be to:

  1. Know how much the recordkeeper is being paid via revenue sharing,
  2. Determine what is a reasonable cost for recordkeeping services, and
  3. Reclaim the excessive amount for the plan.

How to Monitor Fees

In light of the recent litigation surrounding excessive revenue sharing fees, monitoring these fees should be at or near the top of your priority list. One of the best ways to do this is to develop a process for evaluating the reasonableness of revenue sharing fees.

For example, periodically shopping these services will help you gauge whether or not the fees you’re paying are in line with reasonable charges. Recent court cases would seem to indicate that while plan sponsors are not required to choose the cheapest service provider, going through the exercise of comparing fees among different providers could help demonstrate that you have fulfilled your fiduciary duty.

You could hire an independent third-party fiduciary or outside consultant to help you calculate the reasonableness of your plan’s revenue sharing fees. While not required, taking this step could go a long way toward convincing the court of the reasonableness of fees if you are ever sued.

At Holtzman Partners, we can help you determine the reasonableness of revenue sharing fees paid by your retirement plan. If you have any questions or would like to discuss this further, please call our Employee Benefit Plan team at 512-610-7200.

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