6 Min Read
By Mark Miller
CHICAGO, June 7 (Reuters) - Can you fly the coop on your company's 401(k) plan if you don't like its investment choices? A growing number of plans offer a "brokerage window" that lets retirement savers sidestep the standard investment menu and access a much larger number of mutual funds or stocks offered by their plan providers.
But plan providers are complaining after the U.S. Department of Labor (DOL) released unexpected new rules for plan sponsors that cover brokerage window. The regulatory "guidance" is part of a broader document dealing with important new rules that take effect this summer requiring greater transparency of the fees that participants are charged.
Brokerage windows occupy a small corner of the 401(k) world, but they are gaining in popularity. Twenty-nine percent of plans offered a brokerage window last year, compared with just 12 percent in 2001, according to consulting firm Aon Hewitt. But just 6 percent of workers at companies offering a brokerage window use them.
Most are higher-income investors who do not want to be limited by mutual fund choices vetted by plan sponsors. By opening up a brokerage account, these investors can pick from a much wider array of choices available through the plan's service provider. Aon Hewitt's survey data shows that 10 percent of participants who make over $100,000 use brokerage windows, while 6 percent of those making $40,000 to $60,000 use the accounts.
Jumping through the brokerage window also can mean lower fees and better investment choices for employees stuck in high-cost plans with mediocre fund options. About half of brokerage windows restrict investing to mutual funds, with the rest allowing investment in individual stocks, Aon Hewitt says. Brokerage windows typically come with a small annual fee of around $150, plus trading fees.
Under the new rules, which go into effect at the end of the summer, plan sponsors would be required to track the investments made by individuals in their brokerage accounts. If more than 1 percent of all plan participants invest in a single fund or stock (or five investors at plans with less than 500 participants), that investment would cross a threshold that requires the disclosure of information about the investment to all participants.
Plan sponsors also would have to consider whether the investment should be endorsed as an mainline choice for all plan participants. The threshold isn't likely to be crossed often in large plans, but sponsors still would be saddled with the monitoring and compliance requirements.
The Labor Department guidance is motivated by concern that brokerage windows leave plan participants without a clear, manageable menu of investment choices. But sophisticated investors likely are jumping through the window with full knowledge of the added risk they're taking. Industry sources say the DOL is especially concerned about abuses among very small plans that elect to give all workers self-directed accounts as a way of side-stepping fiduciary responsibilities to provide a vetted set of investment choices.
"Typically, what you find is a group of doctors, dentists or lawyers who don't want to be limited to a small menu of choices. They want the sharp tools," explains Jason Roberts, CEO of the Pension Resource Institute, which provides consulting and training services to retirement plan service providers. "Maybe they want a menu of sector funds that probably aren't appropriate for their administrative staff, so to avoid the fiduciary liability of an overly-aggressive menu of investment choices, they just give everyone at the company a brokerage window. They're on their own."
Plan service providers say they've been blindsided by the brokerage window guidance. It came last month without advance warning and requires the development of new technical infrastructure for account tracking and reporting by August 30, the deadline for implementation of the new fee reporting requirements.
"Service providers haven't created the infrastructure to track investments through brokerage windows, show what's being bought on comparative charts, and monitor for investments that cross the threshold," says Howard Heller, manager of legislative and regulatory strategy for T. Rowe Price Retirement Plan Services.
Another concern: Under these rules, plans that have diligently vetted and picked a menu of investment choices could find themselves forced to determine whether participants' investment picks in the brokerage window should be added to the plan's menu of official "designated" plan choices.
"Let's say there's a sector mutual fund that is a real rock star in the market," says Alison Borland, vice president of retirement product strategy at Aon Hewitt. "If 1 percent of the plan participants invested in that fund, the plan sponsor would have to disclose and review it for possible inclusion in the menu.
"Even though it's a great fund, it might be inconsistent with the investment policy that has been set by the plan's investment committee. The committee would have to either remove it as an investment option from the plan, or change its investment policy statement to allow for its inclusion."
Heller says industry trade groups are talking with the Department of Labor about the guidance and he expects "further clarification" that might help ease the industry's concerns.