The Myth of Saving Money Because of “Switching” Providers

I have now lost track of how many times a plan sponsor has told me, “We now have lower fees because we just switched providers.”  This response naturally leads me to ask, “Which fees are lower?  Unfortunately, the next response I normally receive is stunned silence by the insistence that “we have everything taken care of” and then of course the click of the phone.

The reality, however, is that lower overall fees don’t necessarily mean that the plan sponsor actually saved any money.  First, the broker often earns a 0.5% to 1% upfront commission in the first year of the provider change – an amount much greater than the annual compensation trail at the previous provider.  Furthermore, the plan sponsor often changes from one record keeper and custodian who charges based on a percentage of plan assets to another provider who charges the same way (as opposed to a flat dollar fee), so there is no change to the underlying fee structure.  So how can the overall fees then be lower with the new provider?  The answer is that the advisor and/or record keeper simply helped the plan sponsor select lower cost mutual funds which gives the appearance of lower fees even though the fees the new service provider(s) charges are either the same or greater.  What plan sponsors don’t realize is that most or perhaps all of those lower cost mutual funds were available in their former provider’s platform.  Consequently, these plan sponsors could have incurred the same savings without changing providers, so the decision to “change” serves no purpose whatsoever.

Furthermore, this article clearly demonstrates that simply choosing lower cost actively managed funds doesn’t necessarily lead to better performance:

http://fiduciarynews.com/2012/10/a-401k-must-read-mutual-fund-expense-ratio-myth-busted/

 

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