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RESCUING OUR RETIREMENT PLANS
What Your 401(k) Provider Doesn’t Want You to Know
The 401(k) plan was a beautiful invention. Created in 1984, it gave regular people like you and me a chance to build wealth by making tax-deductible contributions to a retirement account directly from our paychecks. What a great concept! You and I were given this opportunity to own a piece of the American dream, to invest in our own futures, to take full responsibility for achieving our own financial freedom. Now nearly 90 million Americans participate in 401(k) plans. To put that in perspective, only 75 million Americans own a home. With more than $6 trillion currently invested in 401(k)s, this is the single most important vehicle for the financial security of the US population.
But you know what happened? Somewhere along the line, the dream got derailed. With trillions of dollars up for grabs, financial firms dreamed up countless ways to dip all of their fingers, thumbs, and toes into the pie. This is the uglier side of our nation’s gift for innovation! And it places us under enormous pressure to learn how to protect ourselves from these money grubbers.
You might not believe this, but for almost three decades, the companies providing 401(k) plans were not even required by law to disclose how much they were charging their customers! Only in 2012 did the government finally force these firms to make detailed disclosures of how much they were extracting from your savings. In what other industry would customers tolerate this “Trust me!” style of doing business? Can you imagine a clothing store with no price tags? Can you imagine booking a vacation and leaving it up to the airline and the hotel to decide how much to drain from your bank account without informing you?
Needless to say, financial firms resisted the temptation to take advantage of this lack of disclosure, since they understood that handling our retirement money is a sacred trust. Just kidding! Of course they took advantage!
Now that the law has changed, would you guess that the problem has been fixed? Hardly! The whole 401(k) system is still a black box. Today financial firms provide disclosure documents that are often 30 to 50 pages long and filled with impenetrable language. Surprise, surprise: not that many people devote their weekends to reading these ultracomplicated documents. Instead of digging through the fine print, most plan participants simply trust that their employers are looking out for them. And most employers are trusting the broker who sold them the plan over a round of golf. Remember, 71% of people enrolled in 401(k)s think there are no fees, and 92% admit that they have no clue what they are! But the truth is, the vast majority of plans are characterized by huge broker commissions, expensive actively managed funds, and layer after layer of additional—and often hidden—charges.
Robert Hiltonsmith, a senior policy analyst at a think tank called Dēmos, took the trouble to study and decipher the prospectuses of 20 funds in his 401(k) plan. He hacked his way through the forest of bewildering legalese and confusing acronyms, and then wrote a report entitled The Retirement Savings Drain: The Hidden & Excessive Costs of 401(k)s. What did he find? Customers like him—and you and me—were hit with 17 different fees and additional costs!
Just to be clear, we’re not referring here to the absurdly high fees that you’re being charged by the mutual funds in your 401(k) plan. It’s not enough for you to pay for all those actively managed funds—the ones that Forbes says could be costing you 3.17% a year! No, these are the additional fees that you’re also being charged by the plan provider that’s administering your 401(k). These providers are typically insurance or payroll companies—but you might want to think of them as another set of exceptionally well-paid toll collectors.
You’ve got to hand it to these providers: they’re truly ingenious when it comes to dreaming up different ways to siphon off the money in your 401(k)! Here’s a short sample of the many categories of fees they’ve invented: investment expenses, communication expenses, bookkeeping expenses, administrative expenses, trustee expenses, legal expenses, transactional expenses, and stewardship expenses. Why not just add a category called “expense expenses”?
I’m always amazed by what you can find buried in the fine print of providers’ disclosure documents—the vague terminology that obscures exactly what’s being done to you. For example, you’ll often see intentionally meaningless terms such as “net asset charge,” “asset-management charge,” “contract asset charge,” “AMC charge,” or “CAC charge.” One provider—a leading insurance company—was so brazen as to add a line item called “required revenue.” Required by who? What for? To pay for the CEO to buy a yacht?
How much does all of this cost you? Hiltonsmith calculated the impact of these additional 401(k) fees on an average worker who earns about $30,000 a year and saves 5% of his or her annual income. Over a lifetime, this worker would lose $154,794 in fees. That’s more than five years of income. A worker who earns about $90,000 a year would lose $277,000 in 401(k) fees.
You know as well as I do how hard it is for most people to save money for retirement. It requires real sacrifices. But excessive expenses can easily destroy the benefits of all that effort. Some plans take the excessive fees to a whole other level. Certain providers, not content with their typical take, charge a front-end “sales load” on all initial deposits. One of the worst we have seen takes a whopping 5.75% of every single dollar you sock away. It’s like a tithe to the corporate gods running these companies. Add that to the 2% in annual fees they charge, and you’re down 7.75% before you’re out of the gate.
Sadly, teachers, nurses, and nonprofit employees are most vulnerable to this huge skimming operation. This is because their 403(b) plans—their equivalent of a 401(k)—aren’t covered under the same ERISA (Employee Retirement Income Security Act of 1974) laws that are (at least in theory) designed to protect employees. It makes me sick to think that those who sacrifice the most to make our society better are being screwed by brokers who somehow manage to sleep at night—probably on 2,000-thread-count sheets.
In a New York Times article titled “Think Your Retirement Plan Is Bad? Talk to a Teacher,” reporter Tara Siegel Bernard does a brilliant job exposing how these poor folks are mugged. In one of the most ghastly scenarios imaginable, “The teachers were each charged a fee of at least 2% of their savings to manage the money, in addition to sales charges of up to 6% each time they made a deposit . . . Moreover, the calculations didn’t include the expenses of the dozens of mutual funds they were invested in, some of which exceeded 1%.” That’s 9% in first-year expenses alone. That’s not a hole in your boat. That’s the whole back of the boat ripped off and dragging in the water.
This is why it’s so important to be aware of how the financial industry stacks the odds against you. Knowledge is your first defense. After all, how can you protect yourself from a threat to your financial well-being unless you know that this threat exists?
One person who shares my outrage about 401(k) expenses is the comedian John Oliver, who investigated the subject for his HBO show Last Week Tonight with John Oliver. When the members of his research team dissected their own 401(k) plan, they discovered that their provider’s fees amounted to 1.69% a year, excluding the exorbitant fees they were also being charged to invest in the actively managed funds in their plan. Oliver explains how “seemingly tiny fees can mount up” until “you’ve lost almost two-thirds of what you would have had.” He warns: “Think of fees like termites: they’re tiny, they’re barely noticeable, and they can eat away your f———g future.” HEADS I WIN, TAILS YOU LOSE
What makes all of this so upsetting is that a 401(k) should be—and can be—a powerful tool for building wealth, if it’s used correctly. Instead, the vast majority of plans are riddled with opaque fee arrangements and conflicts of interest. In 2015 the Obama administration announced that “hidden fees and backdoor payments” were costing Americans more than $17 billion per year. And Secretary of Labor Thomas E. Perez has said, “The corrosive power of fine print and buried fees can eat away like a chronic illness at a person’s savings.” In early 2016 Congress passed new laws designed to force 401(k) providers to act in their clients’ best interests. Sadly, by the time lobbyists had done their worst, these regulations had lost their teeth. For example, 401(k) brokers can still charge commissions, sell you their own overpriced name-brand funds, and whack you with front-loaded sales charges. Business as usual.
If you ask me, one of the worst abuses is that nearly all of the big-name providers routinely accept payments from the mutual funds they offer in 401(k) plans. This legal but grubby arrangement is called revenue sharing, or “pay to play.” It’s the equivalent of buying shelf space in a store to ensure that it will stock a crappy product that shoppers really ought to avoid.
What’s the result? Many of the funds you get to choose from in your 401(k) plan are on the list only because the fund company paid the provider to include them! These funds tend to be actively managed, so they’re expensive. And they’re rarely the best performers. In some cases, they even charge a “front-end load”: a fee that often amounts to 3% of your assets just to buy the fund in the first place.
So why not just pick low-cost index funds when you’re investing in your 401(k) plan? Great question! The trouble is, most providers make index funds available only if the plan has a high level of assets. Why? Because index funds aren’t sufficiently lucrative for the provider. So they prefer to exclude them from the menu, if they can get away with it. If you work for a smaller company, chances are that you’ll be forced to invest in funds with higher fees. In fact, 93% of 401(k) plans have less than $5 million in total plan assets. These are small and midsized companies that don’t have the buying power to demand better investment options for their employees. Yet it’s entirely unfair to penalize people for working at smaller companies.
Some 401(k) providers do offer index funds to smaller plans, but they typically charge a significant markup. One major insurance company is offering an S&P 500 index fund for 1.68% annually, when the actual cost is just 0.05%. That’s a 3,260% markup! Think of it this way: your friend buys a Honda Accord for the regular retail price of $22,000. But you’re forced to pay a 3,260% markup. Your cost for the exact same car: $717,200! Welcome to the world of high finance.
Another well-known insurance company charges a 3% sales load to buy a Vanguard index fund, and then charges 0.65% a year in fees for the fund—a steal at a mere 1,300% markup. This is the white-collar equivalent of ruthless mobsters coming round to your small business and hitting you up for protection money. The only justification is that you have money, and they want it.
Meanwhile, some providers will allow you to open your own “self-directed” 401(k) account if you want access to low-cost index funds or want to manage your own investments. Sounds like a good option, right? One friend of mine thought so. He opened a self-directed account, bought some index funds, and congratulated himself on bypassing all the ridiculously expensive funds in his plan. Then he found out that the provider was charging him an additional 1.9% a year for the privilege of using a self-directed account! In other words, heads you lose, tails I win.
These tricks of the trade are, at last, coming back to haunt many 401(k) providers. As I write this, at least ten major providers have been sued by their employees for charging excessive fees in their own 401(k) plans! One of the biggest 401(k) providers settled two class-action lawsuits for $12 million after accusations by its own employees that its 401(k) fees were too high. Imagine going to a restaurant and discovering that the waiters and kitchen staff refuse to eat the chef’s food! When the insiders don’t like what their company is selling, should you and I just smile politely and accept that it’s good enough for the likes of us?
One reason why I feel so passionate about this is that I’ve experienced firsthand how easy it is to get exploited by unscrupulous 401(k) providers. When I began to see these widespread abuses at companies across America, I called the head of human resources at one of my companies to learn more about the plan we were providing for our employees. I think of them as family, and I wanted to make sure we were treating them with all the care they deserve.
To my horror, I discovered that our name-brand 401(k) plan—administered by a major insurance company—was loaded with expensive mutual funds, excessive “administrative expenses,” and fat commissions that we paid to the broker who sold us the plan. It turned out that the total expenses in our 401(k) plan amounted to 2.17% a year. Over time these fees would erode much of the money that our employees were saving scrupulously for their future. I was beside myself.
So I began to look around for a solution. After much investigation, I was introduced by a friend to Tom Zgainer, CEO of a company called America’s Best 401k (ABk). As you’d imagine, I was more than a little skeptical. Why should I believe that his firm would live up to its less-than-modest name? But it didn’t take long to realize that he’s a truth teller who’s determined to challenge his industry’s unseemly practices. As Tom told me, the 401(k) business is “the largest dark pool of assets where nobody really knows how or whose hands are getting greased.” By contrast, ABk is entirely transparent. For example, he has no interest in the sordid pay-to-play game. Instead of accepting kickbacks from mutual fund companies that want him to sell their overpriced funds, he offers only inexpensive index funds from firms such as Vanguard and Dimensional Fund Advisors. Tom’s company charges one fee—with no markups or hidden costs. It’s a fully bundled solution that eliminates brokers, commissions, and high-paid middlemen.
I’m delighted to tell you that I quickly and easily moved my company’s old plan into a new plan administered by America’s Best 401k. The total costs for our new 401(k) plan—including investment expenses, investment management services, and record-keeping fees—add up to a grand total of just 0.65% a year. That’s a savings of about 70% in our annual expenses. Over the years, this should put as much as $5 million back into the pockets of my employees. And Tom charges nothing for companies to make the switch.
I was so impressed that I referred many other friends to ABk. To my delight, they were all thrilled. No wonder. Tom’s firm saves his average client more than 57% in fees! I got excited and decided to partner with Tom on his mission to rescue the retirement plans of millions of people. It’s time to break the ruthless chokehold this industry has on our families’ financial futures.
Whether you are a business owner or an employee, you can see how your company’s 401(k) plan stacks up by using his free online Fee Checker tool at www.ShowMeTheFees.com. It will analyze your plan and calculate within seconds how much you’re being charged in fees. Business owners can go one step further and provide a copy of their “fee disclosure” for a more detailed look under the hood. Most important, this quick process can also show you how much you can save over time by switching to a better plan. I won’t be surprised if you save yourself hundreds of thousands of dollars over the years.
I was chatting about this with my dentist and friend Dr. Craig Spodak. He has more than 40 employees, and he wanted to make sure they weren’t being ripped off. I don’t want to name specific names here because these problems are systemic, not just limited to a handful of companies. But when Craig told me the name of the infamous company that provided his 401(k) plan, I couldn’t help but cringe. My diagnosis was immediate: his dentistry practice would need to undergo an urgent extraction. Otherwise the pain would only get worse.
I put Craig in contact with my partners at America’s Best 401k. In a matter of minutes, he emailed them his plan’s “fee disclosure” form, and they drilled down to expose his fees. He was shocked by the results. It turned out that his plan contained a long list of overpriced mutual funds and an additional layer of bloated “contract asset charges.” The total costs he and his employees paid for this terrible plan were north of 2.5% a year! Suddenly Craig understood why his broker used to bring him donuts as a gift—and why the man was always grinning from ear to ear!
You won’t be surprised to hear that Craig fired his broker, dumped his provider, and entrusted his plan instead to America’s Best 401k.
As you can see in the box below, employers need to wake up—just as Craig and I did—so they can ensure that their employees aren’t being exploited. Otherwise there could be a high price to pay, not just for the employees but also for the employer.
If you’re an employee, after you use the Fee Checker, you can forward the report to your company’s owner or to senior management. Once they know the truth about what’s going on, they may well want to improve your 401(k) plan. After all, their financial future is also at stake.
BUSINESS OWNERS BEWARE! TAKE 3 MINUTES TO DISCOVER HOW YOU CAN ELIMINATE LEGAL LIABILITIES AND PROTECT YOURSELF AND YOUR COMPANY FROM NEW DEPARTMENT OF LABOR FINES:
If you own or run a company that offers a 401(k) plan, you’re officially regarded as the plan’s “sponsor”—whether you know it or not. That means it’s your legal obligation to act as the “fiduciary” to your plan and to your employees, which means that you have to operate in their best interests. If you trip up, you could easily find yourself with a major liability that could damage your business and even your own finances. It’s a bit like owning a house that’s structurally unsound: you might be fine for years—until you’re not. So, ignore this at your peril!
What do you have to do? First, you need to demonstrate to the Department of Labor (DOL) that you’re taking the necessary steps to fulfill your role as the plan’s sponsor. This includes periodically benchmarking your plan against other plans to ensure that the fees being charged in your plan are reasonable. Most business owners I talk to have no idea about this obligation. This potentially exposes them to the mighty wrath of the DOL. In 2014 the department determined that 75% of the plans it examined were illegal. The average fine: $600,000.
And that’s just the beginning. You’re also exposed to the risk that your own employees could sue you personally. In 2015 the US Supreme Court issued a major ruling against Edison International, the power giant. This decision should make it easier for 401(k) plan participants to sue their employers for choosing investments with excessive fees. Small businesses are particularly vulnerable—not just because it’s hard for them to afford hefty fines but also because they tend to have small 401(k) plans, which typically charge the highest fees.
One practical step that could save you a fortune is to contact my partners at America’s Best 401k and ask them to provide you with a free benchmark for your plan. All it takes is a few minutes to furnish them with the fee disclosure statement for your plan. The fact that you’ve obtained this benchmark demonstrates to the DOL that you’ve taken your legal responsibility seriously. Even better, many companies discover that they can easily cut their plan’s fees in half—or more. If so, that will endow you and your employees with a huge windfall for many years to come.
Where are we headed next? Before we turn our focus to your investment playbook, we’ve got one more invaluable lesson to cover: how to find sophisticated, conflict-free financial advice that will turbocharge your journey to financial success.
You’ll learn how to avoid all those salespeople in disguise who get rich by dishing out so-called advice that benefits them, not you. As you’ll see, choosing the right advisor can mean the difference between poverty and wealth, between insecurity and freedom. The choice is yours.
So let’s find out: Who can you really trust?
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