So my last blog on Fee Disclosure left us with some open issues. Namely we still need to help participants understand two things:

1. The impact of the identified costs on their future retirement savings, and 
2. How their choices within the Plan can change those costs and outcomes.

So how could we do that on participant statements along with the simple disclosure I outlined previously?

Remember, realistically, we have to boil it down to a standardized formula/format that will work for ALL participants of ALL plans. In other words, we’ll never be able to (on an individual basis) take into account an individual’s preferences, risk tolerance, outside savings, etc., as those things are unique to the individual and couldn’t easily be “modeled” on a participant statement disclosure. (Note: there are plenty of great products available out there that an individual can use to accomplish that level of accuracy in modeling. Even those that can be tied in with your plan’s recordkeeper – Financial Engines comes to mind.)

So previously we said that ideally a participant would get a lovely simple “box” on their quarterly statement that shows them something like this …

*************************************************************************************
For this statement period, your account paid $______ in expenses to maintain your account.
This includes: $_______ Costs paid to fund companies to manage your investments
                                         (investment management fees net of 12b-1, marketing, etc.)
                        $_______ Costs paid to (RK/TPA/Admin) to keep the records of your account
                                         (RK/TPA/Admin fees typically paid from investment fees)
                        $_______ Costs paid to (investment advisor) for monitoring the plan investments
                                         (amounts paid to advisors from investment fees)
             (these should add up, too!)

These expenses amount to an annualized expense cost of _____% which has been reduced from your investment earnings rate of return. ************************************************************************************

To address the first issue of identifying the impact of the expenses on future retirement savings, we could key off of the percentage amount identified in the last line of the simple disclosure outlined previously. Is it sufficient enough to just say something like this?

A ____% reduction in the annual investment returns on a $10,000 investment over 20 years could result in a $___________ lower balance at the end of the 20 years.

This would only require a simple compounded earnings calculation on $10,000 at X% over 20 years, where the only variable is the percentage of annual expense cost previously calculated.

Is that enough? Does it MEAN enough to the participant?

We could increase the relevance to the participant by making the calculation more personal … and still make it a standardized calculation for the statement preparer. We could pull in the participant’s current ending balance like this …

A ____% reduction in the annual investment returns on your $_______ balance over 20 years could result in a $___________ lower balance at the end of the 20 years.

Again, this is still a simple compounded earnings calculation over 20 years, using the participant’s actual expense experience AND balance. It assumes no additional contributions going forward - which cannot be predicted with any certainty anyway.

Certainly more relevant, but the time horizon can have a HUGE impact on the calculation. What if I’m age 25 and have 40 more years to work? What if I’m age 55 and only plan to work 10 more years? It would be easy for a participant to dismiss this disclosure as meaningless to them and not consider the consequences of such dismissal.

In my experience, the recordkeeper generally always has the participant’s birth date and the plan’s defined “normal retirement age.” With a little more complexity in the programming of the disclosure, they could use those pieces of information to calculate a much more relevant time horizon. Naturally this would involve a few assumptions – which may not be completely realistic but seem perfectly fair to me. 

• Assume no additional contributions going forward 
• Assume participant will stay in plan until normal retirement age 
• Assume investment returns and annualized expense cost remains the same until retirement age.

So now we could create a disclosure for the participant that would have the greatest possible relevance to them … warranting their full attention … by calculate the time horizon as normal retirement age minus current age.

A ____% reduction in the annual investment returns on your $______ balance over your (years to retirement) years could result in a $___________ lower balance at the end of the (years to retirement) years.

From a participant’s perspective, this tells me a lot! It’s about ME! It’s my money, my cost, and my timing.

A variety of online calculators exist today (like this one) that do this same calculation. They’re usually called “Savings Calculators.” So we know if you have the 3 basic pieces of information, generating this type of disclosure should not be difficult for recordkeepers and TPAs who produce participant statements.

Let’s look at a couple of easy examples to see the difference in the three levels of complexity in the disclosure proposed. Let’s say our participant is currently age 25, has a balance of $20,000, and has an annualized expense cost percentage of 1.2%. The plan’s normal retirement age is 65. The three levels of complexity produce vastly different “losses” due to the expenses paid.

Level 1:
A 1.2% reduction in the annual investment returns on a $10,000 investment over 20 years could result in a $12,694.00 lower balance at the end of the 20 years.

Level 2:
A 1.2% reduction in the annual investment returns on your $20,000.00 balance over 20 years could result in a $25,389.00 lower balance at the end of the 20 years.

Level 3:
A 1.2% reduction in the annual investment returns on your $20,000.00 balance over your 40 years to retirement could result in a $32,229.00 lower balance at the end of the 40 years.

Yes, we need to consider how much effort will be involved on the part of the people producing these statements. But, MORE IMPORTANTLY, we need to consider how relevant and useful the information will be for the participant.

The higher the participant’s balance, or the higher the expense cost, the bigger the difference will be in the lost earnings. If we look at a 25 year old participant who has a balance of $60,000 and an expense cost of 1.5% the three disclosures produce losses of $13,469.00, $80,811.00, and a whopping $108,841.00!!! The closer a participant is to retirement, the more those lost dollars start to mean, too!

Our second issue of helping the participant understand how their choices within the plan could impact their expense costs should be fairly simple to address on the participant statement. You can’t possibly tell them everything there, but you can certainly make a declarative statement and point them to where they can get more information. For example …

Every investment option within the plan has unique characteristics and expenses associated with it. Changes to your investment elections may increase or decrease your annualized expense cost rate, which will impact your future retirement savings outcomes. Investment fund expenses should be considered, along with other selection factors such as asset type, risk, and performance, when making your investment selections. Information on your investment fund options can be found at (website) or by calling (phone).

(Okay, I’m sure there’s a better way to say this, but you get the idea.)

A statement like this will tell them that they have choices, that they can make an impact on their results, and where to get the information they need to make those decisions.

The simple disclosure I outlined above splits out the expenses of the plan to make them more transparent to the participant. But getting TO those figures requires breaking down the fund expenses to separate out amounts paid to others. It CAN be done.

Hmmm, revenue sharing … a topic for another day. Until next time …

Let me know if I can help … it’s what I do!