The Right Measure
Many longtime industry professionals will tell you that part of what makes working in the retirement planning space so rewarding—as well as challenging—is the unwillingness of the industry to reach true consensus.
Whether it is plan design features or investment options, there remains a striking diversity of thought among leading retirement plan advisory firms as to what are truly the best practices. Other professional service industries have different ways of thinking, but the retirement advisory space always seems to be in a deep state of flux, experts agree, with various parties lobbying for different and even contradictory approaches to the many demands of retirement plans and planning.
While consensus is emerging in a few areas—such as automatically enrolling participants and defaulting them into asset-allocation solutions, for example—advisers’ stubbornness is perhaps most apparent in the fee structures they charge their plan sponsor clients. Looking to the 2014 PLANADVISER Practice Benchmarking Survey, which compiled the experiences of more than 620 firms serving retirement plans, respondents identified no less than seven ways to get paid for the work they do.
The most common approach remains fees based on assets, in place at 81% of advisory firms. The next most popular fee arrangements are hard-dollar or flat fees, which 51% of firms charge at least some clients, followed closely by fees charged via commissions/12b-1 fees, assessed by 50% of firms. Less prevalent is the use of Employee Retirement Income Security Act (ERISA) budgets or ERISA reimbursable accounts (27%), along with per-project fees (21%) and per-participant fees (9%).
Our Practice Benchmarking Survey also explores year-over-year movements in these fee structures, finding the advisory industry at large is slowly moving away from commissions and revenue sharing, as well as asset-based and per-participant fees, toward flat fees.
The reasons for this are as clear as they are varied. Whether one points to the passage of 408(b)2 and 404(a)5 fee disclosure requirements or the ongoing fiduciary rulemaking from the Department of Labor (DOL) and Securities and Exchange Commission (SEC), officials increasingly scrutinize advisers’ pay schedules. Together with the influence of new technologies and advisers offering more holistic plan consulting, these factors are prompting a reassessment of the basic value assumptions that have driven this industry for decades.
Some groups, including the National Association of Retirement Plan Participants (NARPP) of San Francisco, are pushing for participants to understand the fees they pay, which could influence how advisers charge for their services. NARPP co-founder Laurie Rowley says recent research from the association shows nearly six in 10 working Americans (58%) are unaware they are paying any fees at all on their workplace retirement savings accounts. This translates to an estimated $35 billion in annual fees being paid unwittingly by about 42 million people, she warns, or roughly $835 per investor. And, for those who do know they are paying fees, only one in four (26%) could accurately answer how those are calculated.
More Flat-Fee Arrangements?
The practice benchmarking data belies a cautious drift
toward more flat-dollar fee arrangements, reflecting demand from plan sponsors
and a growing conviction that adviser practice-support and service-delivery
technologies have brought the tasks of servicing large and small clients much
closer together in terms of man hours and overall bandwidth required.
Plan sponsors are also moving away from using active and asset-class-specific investment funds as the core of the investment lineup—pressuring those firms in the retirement space that have previously relied on revenue sharing and 12b-1 fees. Fair or not, the common perception of these fee structures is that they are shadowy and nontransparent.
It is not only our benchmarking study that bears this out. Vanguard’s annual survey, “How America Saves,” recently found more plan sponsors have pushed to incorporate a wider range of low-cost index funds into their plans. The firm says half of its plan sponsor clients now offer an “index core lineup” that spans the global capital markets.
With all of these compounding factors, is the industry moving toward just one or a few fee models? Based on extensive conversations with the 2015 PLANSPONSOR Retirement Plan Adviser of the Year finalists and winners, there is still plenty of room for all of the fee structures listed above—but plan sponsors are growing weary of uncapped asset-based fees and paying for plan services in ways they do not entirely understand. Making things even more difficult, according to one of these advisers, is the willingness of some advisory firms to “devalue the advisory business by encouraging a race to the floor on fees.”
“We’re left with a decision of getting outbid on price or going along with this effort to devalue what we do for a living by trying to price things at an unprofitable margin,” the adviser says.
The adviser notes that it is not uncommon to make what one expects to be a competitive bid for business in the request for proposals (RFP) process with a given plan sponsor, only to be massively undercut by another advisory firm trying to gobble up market share at the expense of profitability. This highlights the fact that often it is the net fee participants and sponsors must pay that matters more than the specific fee structure or the services being provided, the adviser comments. And, indeed, it is not all that uncommon to see plans moving toward paying for services through revenue sharing and investment fees when the price is right and the adviser is skilled at presenting the case.
“It’s a little disturbing when we pitch our service at, say, $75,000 per year, and then another firm comes in and promises the same service for $15,000,” the adviser continued. “That’s really frustrating for us, because we are strong believers that this industry is all about client service and true consultation and partnership with the client. From this perspective, cheaper isn’t necessarily better. You have to educate the client on why one offer is an apple and another is an orange, which elongates the already very challenging and lengthy sales cycle.”
A number of Adviser of the Year candidates suggested the industry is progressing away from asset-based revenues or commissions in favor of flat-fee arrangements that keep the costs level when a plan is growing larger. This is attractive for sponsors because they do not want to feel they are getting punished on pricing as a result of doing their job and growing the plan. Instead, more advisers will implement fee models that change when a shift in the client service model is requested—or when plans move across specific predetermined thresholds in terms of assets or number of participants.
Services Rendered
Advisers in the Practice Benchmarking Survey continue to
deliver a wide array of services for the fees they receive. When asked what services
are covered in an adviser’s annual fee, nearly all advisers reported actions
related to plan investments. Ninety-four percent of advisers include attending
plan committee meetings and ongoing investment monitoring, followed by manager
searches/fund replacements (91%) and investment policy statement (IPS) designs
(90%).
Reflecting the move toward flat fees and fees assessed on a per-project basis, education and plan design consulting comprise the next six places, starting with ongoing employee group meetings (offered by 87% of advisers), benchmarking defined contribution (DC) plan providers (86%), enrollment meetings (85%), compliance reviews (84%), defined contribution plan design consulting (84%) and one-on-one employee meetings (78%). Services that advisers increasingly offered last year, in terms of greatest change in percentages, were private wealth/highly compensated employee (HCE) services, nonqualified plan design, ongoing employee group meetings and individual participant investment advice.
As noted by Sam Ushio, a Seattle-based director of practice management at Russell Investments focusing on U.S. adviser-sold business, there is often as much fee structure diversity within one advisory practice as there is across the industry as a whole. Put another way: Many advisers have multiple sets of clients on different fee and service schedules, which is less than ideal, he says.
“One challenge is when the adviser [has] different levels of clients and client service but [no] formalized process” to determine the appropriate fee for each client group, Ushio says. “Successful client segmentation requires strict definition of services and strict alignment of resources under a rigid fee structure. When this isn’t in place, you’ll start to see a ‘C client’ getting better service than an ‘A client,’ maybe because the C client has been around longer and was initially sold more in-depth services. It’s not really a good situation.”
Service and fee discrepancies are especially prevalent in advisory firms that have existed for a long time and have a relatively mature book of business, Ushio says. These firms will often have clients that joined the company under a service model or fee structure that is no longer available to new clients. The resulting complexity tends to hamper practice growth, he warns, slowing down staff and preventing the effective pooling of resources behind similarly situated clients.
“Nobody expects you to give away a Lexus for the price of a Corolla—and it may actually be bad for your business reputation to do this,” Ushio adds. “You will start to see advocacy being created for the wrong reasons—people will come to the firm expecting the really low pricing their friend or colleague told them about. It’s just not a good situation for promoting quality client service and sustainable revenue.”
Uniformity and Transparency
While advisers clearly have to rethink their approach to
setting and collecting fees for their work, little consensus has yet emerged
beyond noting a high-level interest in flat-fee arrangements among plan sponsor
clients. Award-winning advisory practices continue to use different fee models
for different clients.
Despite this, it behooves an advisory business owner to pick a model sooner rather than later—and to strive for greater levels of modularity and uniformity across the book of business, whatever fee structure it settles on, Ushio concludes.
Also critical, according to Rowley, is fee transparency. She points to recent NARPP research that identifies a strong link between transparent fee information and the level of trust that participants and sponsors have in their respective service providers.
“I think the message is clear for service providers,” she says. “If you want to gain the trust and loyalty of your customers, you have to do a better job at providing clear and transparent information on fees. Transparency increases trust, and trust is the key to engagement.”