Retirement Plans - True Understanding of the Fee Structure!

1. Retirement Plans - True Understanding of the Fee Structure! Presented by: Ann M. Corey New Business Consultant The ANGELL Pension Group, Inc. Thursday, September 8, 2011

2. The Myth of Free 401(k) Administration by Ary Rosenbaum, Esq.

3. Background • The Department of Labor has been pursuing a variety of regulatory initiatives that have focused on expenses and fee transparency. • Because the DOL believes that participants with the right to direct their investments should have access to basic information.

4. “When plan participants were asked whether they pay fees for their 401(k) plan, seven in ten (71%) reported that they did not pay any fees while less than a quarter (23%) said that they do pay fees. Less than one in ten (6%) stated that they did not know whether or not they pay any fees.” AARP Survey February 2011: 401(k) Participants’ Awareness and Understanding of Fees

5. “401(k) participants may not have a clear understanding that there are fees associated with their plans. About three in five (62%) are unaware of how much they are paying in fees for their plans, and almost one-third (32%) report that they do not feel knowledgeable about the impact that fees could have on their retirement savings. However, about four in five (81%) believe that the fees charged for investments are very important or somewhat important in decisions about their 401(k) investments.” AARP Survey February 2011: 401(k) Participants’ Awareness and Understanding of Fees

6. DOL initiatives on fees and expenses • The DOL regulatory initiatives that have focused on expenses and fee transparency are: • Effective for the 2009 plan year, Form 5500 Schedule C was modified to require explicit reporting of indirect compensation • ERISA Section 408(b)(2) regulatory service provider disclosure: • Originally proposed regulations released December 14, 2007 • Attempted to define what is reasonable and appropriate regarding fees and payments through disclosure • Disclosure of service provider fees and payments both on a direct and an indirect basis • New effective date – April 1, 2012

7. DOL initiatives on fees and expenses (continued) • ERISA Section 404(a) regulatory project (participant fee disclosure) • Proposed Regulations released July 23, 2008 • Describes the obligations of ERISA fiduciaries in a directed investment plan to provide information to participants • Applies without regard to whether ERISA Section 404(c) applies • Effective date – For calendar year plan – May 31, 2012 • Participant quarterly statements 45 days after May 31, 2012

8. What is the relationship between the service provider fee disclosure and the participant fee disclosure? • Although both sets of regulations contain rules requiring disclosure of pertinent information, they deal with very different issues • The service provider fee disclosure regulations require disclosures by a “Covered Service Provider” (CSP) to a reasonable plan fiduciary to enable the plan fiduciary to evaluate whether engaging in a contract with a service provider is a reasonable plan expense • The participant fee disclosure regulations require disclosure by the plan administrator to participants to enable participants to make informed decisions regarding their investments

9. DOL initiative • Under ERISA and the Internal Revenue Code, contracts or arrangements between plans and service providers are prohibited unless the arrangement and compensation paid are both “reasonable” • This exemption was never previously defined • These new regulations provide guidance on what is “reasonable” to the fiduciary by requiring service providers to disclose important information and terms of the arrangement

10. What type of retirement plans are covered? • All plans subject to ERISA (i.e. 401(k), PS, MP, TB, 403(b) (ERISA), and Defined Benefit Plans) • SEPS, Church 403(b)’s,and SIMPLE IRA’s are not covered • Welfare plans are not covered (DOL is going to address fee disclosure under separate regulations)

11. What is the total cost of your plan? Employers and employees pay both explicit and implicit plan expenses for their 401(k) Plan Investment Management Fees Plan Administration Fees Individual Service Fees Sub TA Fees Shareholder Servicing Fees 12b-1 Fees Finders Fees Wrap Fees Market Adjustment Fees Do your homework

12. Investment management fees • Otherwise known as fund expenses, investment management fees are the costs associated with managing the plan’s assets • Represents the largest component of the total cost of the plan • Generally between 40% to 80% of the total cost of the plan • Almost always paid by plan participants • Paid in the form of an indirect charge against the participant’s account and deducted from investment returns

13. Investment management fees(continued) • The net total return is the return after these fees have been deducted • Vary significantly based on fund type, investment style, asset class and fund manager (i.e. retail mutual funds tend to be more expensive than an institutional share class and index funds are less expensive than actively managed funds) • Not specifically identified on statements of investments and may not be apparent to the employer and employee

14. Administrative fees • The day-to-day operation of a plan involves expenses for basic administrative services such as: • Recordkeeping fees • Compliance testing (TPA fees) • Employee education • Required plan document expenses • Plan audit fees • Advisor fees • Fidelity Bond • Accounting fees • Trustee services • Actuarial fees • Loan initiation and annual administration

15. Administrative fees(continued) • Expenses charged to the plan may be assessed pro rata (based on account balance) or per capita (based on equally sharing the expense among all participants) • Reasonable plan administrative expenses may be charged to the accounts of former employees and beneficiaries, even though the accounts of current employees are not charged

16. Individual service fees • Associated with optional features offered under a participant directed account • May be charged separately to the accounts of those who choose to take advantage of a particular plan feature • Participant loans, Hardship withdrawals, in-service distributions, etc.

17. Wrap fees / Daily Asset Charge (DAC) • Mutual funds offered by an insurance company include the mutual fund expense with the underlying management fee AND may include a wrap fee or DAC • The wrap fee is an additional asset based fee that the plan sponsor and participants rarely see • By adding a wrap fee, insurance companies can offer a low cost administration and recordkeeping program that is attractive to smaller as well as start up (new) plans with very few assets • Most independent TPA’s (third party administrators) have annual administration fees, some with minimum fee requirements - Insurance companies can offer their services for a much lower cost or even free • Are the recordkeeping/administrative services really free?

18. What is the structure? • Mutual Fund providers pay revenue to the vendor (i.e. 12b-1 fees and sub TA fees) which are asset based and reflected as a percentage of the assets • Recordkeeping costs are typically fixed or vary based on the number of participants using the system and bear little relationship and correlation to the plan’s asset size except with respect to the revenue sharing • As time passes and the assets grow, the services required to operate the plan do not grow proportionately with plan assets and therefore excess revenue is created and the plan may be overpaying for services

19. What options exist regarding the excess revenue? • Commonly known as “Revenue Recapture Accounts” or “ERISA Budgets” the plan provider/recordkeeper deposits the excess revenue sharing dollars they collect from the investment products derived from the 12b-1 fees, sub TA fees and shareholder servicing fees into a separate account • The Plan Sponsor may use the funds collected to pay for eligible operating expenses including: • Compliance testing (TPA fees) • Employee education • Required plan document expenses • Plan audit fees • Advisor fees, or • Reallocate the excess to the plan participants (typically on a pro-rata basis not a per capita basis since it is investment related)

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21. Sample: A shares 21

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23. Sample I-institutional shares 23

24. Impact of fees on an account balance • In an age of 15+% market returns, it may seem ridiculous to worry about a 1% fee. But, as we all know, there's no guarantee that the good times will continue to roll! When the market's only growing 7%, a 1% fee can have a significant impact on your bottom line. • Assume you have 35 years until retirement and a current 401(k) account balance of $25,000. Let's further assume that your average return is 7%, you don't contribute another dime to the account and, the annual fees are 0.5% (50 bps). In 35 years, your account balance should grow to $227,000. If the fees were just one percentage point higher, 1.5% (150 bps), at the end of 35 years your account balance would be $163,000. That's a $64,000, or 28%, difference on your retirement bottom line! U.S Department of Labor Employee Benefits Security Administration A Look at 401(k) Plan Fees

25. Impact of fees on an account balance (continued) Your Guide to Understanding 401k Plan Fees By Clifton Linton - mPower

26. How do you effectively manage your retirement plan? • As Plan Sponsor, you are responsible under ERISA for actively negotiating and monitoring “reasonable” fees - Do the detective work, ask the right questions … • What are the fees by component (investment management, administrative, individual)? and request the disclosure in dollars as well as a percentage of assets • What are the total fees? Both direct and indirect fees associated with the plan and calculate costs as a percentage of assets as well as per participant • Is their revenue sharing embedded within any of the funds, or are their wrap fees assessed? The revenue sharing is a portion of the fund expense, the wrap fee is an add-on and can be used to assess additional fees over plan assets

27. How do you effectively manage your retirement plan? (continued) • What other revenue sources will impact the plan? Use of proprietary funds? Ask the provider to disclose ALL revenue including revenue from using the provider’s proprietary funds in the plan - service providers may provide favorable pricing or revenue sharing if proprietary fund options are offered • What might the fees look like in the future as plan assets grow? What are the breakpoints? Asset based fees can grow substantially faster than per participant costs – if the administrative fees are bundled and tied into plan assets, they have the potential to grow considerably in a short period of time

28. How do you effectively manage your retirement plan? (continued) • Establish an objective process • Benchmark your plan • The industry is constantly changing and as assets grow, the leverage a plan sponsor has grows as well • Hire an Investment Advisor who specializes in 401(k) Plans that will help you “peel” the onion to uncover the excess revenue and assist you in meeting your fiduciary responsibility

29. How do you effectively manage your retirement plan? (continued) • Put the plan out for bid every three years • Fees and expenses are one of several factors to consider when selecting and monitoring service providers and investments – do not give them too much weight! • This process should be managed by an independent third party who is not compensated by the product and has the expertise to provide an apples to apples comparison of providers, fees and services within your market space (i.e. smaller plans require a different skill set than larger plans)

30. In conclusion • Fees and expenses are an important component in managing your retirement plan… …and your fiduciary responsibility

31. Questions?