Fees, fiduciaries, and the future — advice from the father of 401(k)

Ted Benna is recognized as the father of 401(k) in the benefits industry. While designing a retirement program for a client in 1979, Benna concluded that Section 401(k) of the tax code could be leveraged to allow employees to save money for retirement on a pre-tax basis. Two years later the IRS jump-started the widespread rollout of 401(k) plans by formalizing the current rules.

By 2017, 401(k) plans held an estimated $5.0 trillion in assets and represented nearly one-fifth of the $26.1 trillion U.S. retirement market.

Benna has written several books, and continues to consult with businesses who are setting up 401(k) plans. As part of our National 401(k) Day celebration, we caught up with Benna to learn more about his story, what small businesses can do to take care of their employees, and his thoughts on the future of retirement benefits.

Where did you think things were headed when you launched the first 401(k) plans?

Ted Benna: I knew right away 401(k) plans would be a big thing because most large employers already had thrift or savings plans where employees made after-tax contributions and received an employer match. The marginal federal tax rate at the time was around 70%, so I knew senior executives would have a very high level of interest when they learned they could make pre-tax contributions.

What do you think small business owners should consider when evaluating a 401(k) for their company?

Ted Benna: Most employers listen to what their investment advisors tell them. They trust these individuals and typically follow their recommendations when first starting a plan. Many of them get caught up in the idea of no-fee employer offerings because there’s no expense to the business. That means they’ll often accept solutions with very high paid fees for their employees — the plan participants.

What are some common mistakes you’ve seen business owners make when offering a 401(k)?

Ted Benna: First, I’d say that many businesses fail to consider all the alternatives. There are alternatives to a 401(k) plan that are more appropriate for many employers. I have often encountered small business owners who say they want to start a 401(k) because they assume it’s the right choice, but after I ask them a few questions we’ll realize there are better options for them.

The second biggest mistake is failing to dig into all the fees. Buying a product with no employer fees and high participant fees doesn’t make sense because the owners typically have the largest accounts. It is very inefficient for them to pay high fees from their tax-deferred accounts.

What do you think small business owners should do to encourage their employees to participate in a 401(k)?

Ted Benna: Auto enrollment and auto contribution increases are essential and certainly an employer matching contribution creates a great incentive. A match as little as 25 cents for each dollar contributed — and limited to the first 3% of an employee’s W-2 pay — is worth the cost because studies show getting employees into a 401(k) plan helps reduce turnover.

Do you think the Department of Labor’s new fiduciary rule will require financial advisors to act more in the best interests of 401(k) plan participants?

Ted Benna: Getting a little bit of training and putting “fiduciary advisor” on a business card won’t convert a “me first” advisor into a “best interest of participants” advisor. Under ERISA, plan sponsors are already required to make decisions that are in the sole best interest of the participants. Yet, I have seen this standard violated many times over the years, by even the largest of employers. Advisors have never been trained to focus on what is in the sole best interest of the participants. So, the rule isn’t likely to change much.

States like Oregon are rolling out mandated employer retirement programs like its new OregonSaves plan. More employees will be covered, but they’ll also be charged fees of over 1%. Overall, do you think this is a good development?

Ted Benna: A lot of attention has been focused on giving employers less expensive alternatives. Those folks including the states who are pushing this movement are failing to recognize that firms like Guideline offer very affordable solutions for both plan sponsors and participants. And that there are also other retirement vehicles which is why I have published a guide that describes alternatives for small businesses that aren’t ready for a 401(k).

Looking forward, what do you think are the biggest opportunities for the retirement benefits industry to innovate? Could you share any positive changes you’ve seen recently?

Ted Benna: Continuing to drive down fees is the most encouraging thing I have seen lately. I applaud Guideline for offering such an attractively priced 401(k) product. Many participants in plans maintained by employers are paying from 1.5 to 2.75%. It is disturbing to continue to see articles where folks in this business say fees aren’t a significant problem.

The industry also needs to focus on leakage. Too much money is flowing out of 401(k) plans when employees change jobs and when plans are terminated. I am in favor of locking in retirement savings when these events occur. This will require a legislative change.