Investments in retirement plans have been dominated by the more common and accessible investments offered by brokerage firms and banks. For example a large percentage of defined contribution plans, such as 401(k) profit sharing plans, are invested in mutual funds.
The companies that run these mutual funds often charge fees or expect shareholders to pay a portion of fund expenses. One example is the so-called “finder’s fees” (12B-1 fees) paid to the investment firm that employs the representative who offered the investment to the plan or IRA. In essence, these are commissions for selling the mutual fund.
The amount of the finder’s fee paid by the mutual fund to the representative’s firm depends on the agreement between the mutual fund and the investment firm. This raises some concerns you need to be aware of:
The amount of fees paid out – Be sure to scrutinize the fees charged by investments. These are typically disclosed as expense ratios for mutual funds.
The potential for bias – Determining which funds are most suitable for a plan or an individual should be an objective process. However, there may be bias in favor of funds that compensate at a higher percentage. This could be viewed as a conflict of interest.
The disclosure of fee formulas – Federal law [ERISA 408(b)(2)] requires that vendors who are paid from retirement plan investments disclose the amount or the formula for how they get paid. This should provide information to the employer on whether the expenses are reasonable and competitive. It also gives employers or individual investor’s insight into what services the plan receives for the compensation being paid to the representative.
Self-direction offers flexibility free from conflict or bias. Instead of a commission-based environment, more and more investors are exploring the broader range of investments that are available through self-directed retirement plan platforms. In this environment, the employer or individual investor is not limited to mutual funds, stocks, and bonds. They can personally seek out other investment options and direct their plan custodian to invest in assets such as real estate, precious metals, secured and unsecured notes, LLCs, partnerships, among others.
Instead of relying on a sales representative’s pitch, the investors conduct their own due diligence, often relying on their own expertise. This minimizes the chance of a conflict of interest and maximizes flexibility.
To learn more about how self-direction works in retirement plans, contact us to speak with a trained professional.
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