(The writer is a Reuters columnist. The opinions expressed are
By Mark Miller
CHICAGO May 21 The U.S. Supreme Court ruled
this week that employers have a duty to protect workers in their
401(k) plans from mutual funds that are too expensive or perform
Monday's unanimous ruling sends a strong signal that
employers must improve their plans. And it comes just as the
Obama administration prepares a landmark change of its own by
issuing rules requiring that financial advisers put the interest
of customers ahead of their own.
The high court ruled on a class-action lawsuit against
Edison International. St. Louis lawyer Jerome
Schlichter, who has made a cause of suing 401(k) plans to get
them to shape up, brought the case on behalf of 20,000 retirees
and workers at the large Southern California utility company.
The case now returns to the lower court for final
"It's hard to say how sponsors will react, but certainly the
law has always been that fees must be reasonable," Schlichter
says. "If there is a fund that is significantly less expensive
than another comparable fund, the plan fiduciary must determine
that cheaper is better."
The message here is not that all 401(k)s are bad or too
expensive. In fact, costs have fallen 30 percent over the past
decade, according to the Investment Co Institute, as more plan
sponsors turn to low-cost passive investing options.
But costs vary widely. Plans with more than $100 million in
assets usually have total annual costs below 1 percent, and the
biggest plans usually are below 0.50 percent, according to
Brightscope, which tracks the industry. In small plans, costs
can be as high as 2 percent.
Financial service companies can charge a range of
management, administrative, marketing, distribution and
record-keeping fees for 401(k) plans. Plan sponsors can assume
the costs, but employees are paying 87 percent of all fees,
according to a study for ICI by Deloitte Consulting.
Most workers do not know they bear the lion's share of
costs. A 2011 AARP survey found that 71 percent of retirement
savers do not think they pay any investment fees at all.
Yet fees make a huge difference in returns over time.
The U.S. Department of Labor estimates that a 1 percentage
point difference on a current account balance of $25,000 will
reduce total accumulations by 28 percent over 35 years, assuming
average returns of 7 percent and no further contributions.
The Edison battle centered on the 401(k) plan's use of
retail-class mutual funds when less-expensive institutional
shares were available. The difference between those classes
typically is 25 basis points, according to John Rekenthaler,
vice president of research at Morningstar Inc.
The court decision will put pressure on large plans to cut
costs further but will not have much impact on smaller plans, he
says. That is because big plans have the buying power to
negotiate better deals with fund providers - and because large
corporations are much more attractive targets for litigation.
In particular, he expects more big plan sponsors to push for
better deals than institutional funds by demanding "separately
managed" versions of funds that offer specialized attention but
also cut management fees to the bone.
"The big plans will get even cheaper," Rekenthaler says. "A
big plan sponsor might wind up paying one basis point instead of
10 basis points for the same fund."
Even the bigger picture is looking brighter.
With a looming retirement security crisis as a backdrop, the
court ruling and the Obama administration's push for stronger
fiduciary rules send a strong message: We need a more efficient,
consumer-focused retirement saving system, one where financial
service providers and plan sponsors do the right thing.
(Editing by Beth Pinsker and Lisa Von Ahn)