What’s the Parasitic Drag on Your 401k Plan?
When we do a benchmark analysis on a 401k plan, we are always looking for factors that create excess drag on the performance of the plan. There are several factors that can impede the growth of a 401k plan including the mix of funds each participant chooses and how much they are deferring into the plan. In fact, those factors have the largest effect on the growth of the plan; however, those factors are not directly controllable by the plan sponsor. Parasitic drag as we see it is anything that causes the growth of the plan to suffer regardless of the choices that participants make.
There are two main potential sources of drag on performance at the plan level:administrative expenses and investment expenses. Administrative expenses are related to the actual operation of the plan. This includes the TPA, record-keeper, financial advisor, custodian, sales broker etc. Investment expenses are those built into the investment choices themselves, usually expressed in terms of an expense ratio.
Part of the problem is often that the true costs associated with each of these are buried in complex disclosure documents. To further confuse the issue – some of the fees collected in one area are shared with service providers in another (a practice called “revenue sharing”.)
Drag from various expenses can not be 100% eliminated, however, knowing what is reasonable for a plan similar in size to yours so that you can compare what you are paying to that benchmark is a good place to start.
abc News featured one small business owner’s discovery of the drag in their plan back in September of 2013. You can watch their report by clicking on the abc News logo to the right.
The Department of Labor over the past few years has also recognized the issue and begun to implement regulations to help plan sponsors make more informed choices with regards to expenses. They even produced a video for sponsors to illustrate why expenses can be such a big issue. You can see the video by clicking the video to the right.