Americans collectively are losing billions of dollars a year out of their retirement accounts because they're paying excessive fees, according to researchers studying thousands of employer-sponsored retirement plans across the country.
The rearchers say part of the trouble is that many employers that offer 401(k) plans to their workers are outgunned by financial firms that sell them bad plans loaded with hefty fees. That's especially true, they say, for small and midsize employers that don't have much financial expertise in-house.
At a manufacturing firm in Minnesota, Justin Johnson, a new employee, is enrolling in the 401(k) plan. He has two kids, and his fiancee is going back to school. Money is tight, but he wants to save for the future.
He's on the phone with a financial adviser that the small company, named MITGI, uses to walk people through the process. The adviser didn't want to do a recorded interview, but he let us join in on the speakerphone call when we visited the company to report our story. "So what are the fees like in this plan?" Johnson asks the adviser. It's an important question because high fees can badly damage your ability to make money over time.
The fees in this retirement plan make it "extremely competitive," says the financial adviser, who is with EFS Advisors in Cambridge, Minn. That sounds good. But it doesn't appear to be true. Federal disclosure documents show the fees are more than three times higher than other plans available to employees at companies like this one, according to Ian Ayres, a law professor at Yale Law School.
"He misrepresented the truth," says Ayres, who studies 401(k) plans. We asked Ayres if making such a claim is even legal. "No," he says, "to misrepresent the truth in that way is almost certainly not legal."
A Pattern Of Excessive Fees
Ayres says MITGI got saddled with a bad set of investment options that's taking way too much out of the workers' savings. And he has seen this before. Ayres has analyzed 401(k) plans at thousands of companies across the country. "Sadly, the high-costness is both outrageous and all too prevalent," he says. "There are billions of dollars in excess fees being charged each year to American workers." And, Ayres says, smaller companies are more likely to have overpriced 401(k) plans.
The problem is that many people running small and midsized companies are not very good at setting up 401(k) plans for their workers. And that's somewhat understandable. They don't know much about saving and investing. They're in business because they're really good at other things.
"We make tools that are smaller than a human hair in diameter," says Eric Lipke, the president of MITGI, which stands for Midwest Industrial Tool Grinding Inc.
The Hutchinson, Minn., company manufactures tiny drill bit-type tools used to make pacemakers and other medical devices. Lipke oversees the company's 55 employees. And he says the firm wants to offer good benefits so it can attract and keep good workers.
"To come and work here for 20 years, 30 years, whatever their working career is, and when they're done be able to say, 'You know, I had really good health care, I have a great retirement plan,' " Lipke says.
But five years ago, when he went to set up the 401(k) plan, nobody at this company knew anything about how to do it. Lipke needed help. He asked business people running other local companies if they knew a good financial adviser. Somebody recommended this one with EFS Advisors, who said he could set up a good plan for the workers. "We chose him and he did set up the plan, and all but one employee participated right away from the beginning," Lipke says. "So it was something people liked."
But Lipke realized he still has no idea whether he ended up with a good 401(k) plan for the workers. "We don't have a really good benchmark to know how good it is or not," he says. "We don't know where to find help for that."
So, as part of this NPR series "Your Money and Your Life," we found Lipke some help. We put him and his new human resources director, Sheila Murphy, in touch with another professor who studies all this, Kent Smetters, an economist at the University of Pennsylvania's Wharton School.
Between Bad And Ugly
Smetters studies 401(k) plans and does a personal finance radio show. We asked him to take a look at MITGI's plan, including fee disclosures and other details. Murphy and Lipke then called him and asked him basically whether their plan was good, bad or ugly.
"I would put it between bad and ugly," Smetters told them.
"Oh!" said Murphy, dismayed.
"I think I've seen worse but not by much," Smetters said. "This really is a high-fee plan."
The disclosure documents for the plan show that the workers at the company are paying about 2 percent in fees. That might not sound like much. But Smetters says it's really high.
Two percent of your entire life savings every year, compounded over long periods of time — 30 or 40 years — eats up half the earnings on the money you invest. So Smetters says this plan is sucking way too much money out of the employees' pockets. But, he says, "the good news here is there's a great opportunity here for shifting to a 401(k) plan" that will deliver a higher return over time.
As for EFS Advisors, the firm declined repeated requests for an interview or a comment. But Sarah Holden, a research director with the trade group the Investment Company Institute, says studies finding that many 401(k) plans are overpriced have focused primarily on fees. But, she says, "what none of the studies have done is look to see what was the range of services that were being included."
So, for example, one plan might cost more than another, but employees might get more access to financial advisers in the more expensive plan. Of course, many plans could still be way overpriced. But Holden says basically businesses need to shop around.
"It's their job", she says, to make sure that the fees they're paying for the services they're getting "are reasonable."
When he spoke with the managers at MITGI, the Wharton School's Smetters suggested a few reputable financial firms for them to contact that might have plans with competitive prices.
Smetters says MITGI made the same mistake that many other businesses and individuals do. Many people find a financial adviser just by asking friends for a recommendation. This is what we humans do, right? Anybody know a good plumber? Anybody know a good financial adviser?
But Smetters says this is not the best approach. Somebody who has "financial adviser" written on a business card, often "he's not only a financial adviser," Smetters says. "He's also a sales guy who is recommending that your 401(k) plan use funds that have high expense ratios because that's how he ultimately gets paid."
That's why Smetters says he recommends that people and businesses only use what are known as "fee-only" advisers. By law, a "fee-only" adviser must place your interests first and not accept hidden commissions from mutual funds, insurance companies or anyone else. In other words, they don't get kickbacks for steering you into high-cost mutual funds.
Murphy, the HR director, has now heard back after shopping around for a better deal for the workers at MITGI. She contacted three financial firms, and one, a major firm, gave her a quote for a plan with total fees of 0.64 percent. Her current plan is about three times more expensive.
DAVID GREENE, HOST:
Here's a fact that is sure to thrill you - we Americans, collectively, are losing billions of dollars from our retirement accounts. Researchers say this is because workers pay fees that are far too high to financial firms. Part of the trouble, these experts say, is that many companies are outgunned by financial advisers who sell them bad retirement plans for their workers. For our series Your Money And Your Life, here's NPR's Chris Arnold.
CHRIS ARNOLD, BYLINE: Here's the problem - many people running small and midsized companies around the country, they're really not good at setting up 401(k) plans for their workers. They don't know much about saving and investing, and that's understandable. They're in business because they're really good at other things.
ERIC LIPKE: We make tools smaller than a human hair in diameter.
ARNOLD: That's Eric Lipke. He's president of Midwest Industrial Tool Grinding Inc. It manufactures tools for medical devices.
LIPKE: We're based here in Hutchinson, Minn. We have about 55 people.
ARNOLD: And Lipke says he and the company owners here want to offer good benefits so that they can attract and keep good workers.
LIPKE: You'd come and work here for 20 years, 30 years, whatever their working career is and when they're done be able to say, you know, I had really good health care. I have a great retirement plan.
ARNOLD: So five years ago, the company set up a plan. But Lipke still doesn't have any idea if it's a good 401(k) plan.
LIPKE: We don't know where to find help for that.
ARNOLD: So actually we found him some help. We put Lipke and his new HR person, Sheila Murphy, in touch with someone who studies all this, a professor at the Wharton school at the University of Pennsylvania.
LIPKE: We're going to get a Wharton professor on the phone in a little bit to tell us whether it's a good plan or a bad plan or an ugly plan or whatever.
ARNOLD: That sounds good.
(SOUNBITE OF PHONE RINGING)
KENT SMETTERS: Hi, this is Kent.
SHEILA MURPHY: Hi, this is Sheila Murphy and Eric Lipke from MITGI in Hutchinson, Minn.
ARNOLD: Murphy and Lipke here have just called up Professor Kent Smetters and put him on the speakerphone.
LIPKE: Hello professor.
SMETTERS: Hi, good to meet you, Eric.
LIPKE: Good to meet you, too.
ARNOLD: So we asked Smetters to take a look at this company's plan. And Murphy and Lipke are right now asking him what he thinks.
SMETTERS: I would say between, you know, good, bad and ugly, you know, I would put it between bad and ugly. You know, I think I've seen worse, but not by much. This really is a high-fee plan.
ARNOLD: The disclosure documents for the plan show that the workers pay about 2 percent in fees. That might not sound like much, but Smetters says it's really bad. Two percent a year of their entire life savings every year compounded over 30, 40 years, that small-sounding fee eats up half of your earnings over that period in your retirement account. So Smetters says this plan is sucking way too much money out of the employees' pockets.
SMETTERS: The good news here is that there's this great opportunity here for kind of shifting to a 401(k) plan that's really going to deliver your workers a higher return over time.
MURPHY: Thank you. This is Sheila. That's our hope. We are a little bit nervous that our employees will feel like we weren't more responsible sooner...
MURPHY: ...To look at the plan, which - it's going to be hard to tell them that, you know?
ARNOLD: Smetters says the problem here - and it's the same at many companies - is that basically this plan was set up by a financial adviser who's also a sales guy. Many advisers have incentives to set up plans full of mutual funds with high fees because that's a way that they get paid. And the salesmanship was on display at the company the next morning. A new employee, Justin Johnson, was about to enroll in the 401(k) plan.
JUSTIN JOHNSON: Right now, I think I'm just going to put 5 percent in. Currently, my fiancee is in the end of her master's program, so I kind of watch the pennies a little bit.
ARNOLD: Sheila Murphy, the HR person, explains that to enroll in the 401(k) plan, new workers call up a financial advisor with a company called EFS advisors.
MURPHY: We're going to call EFS.
(SOUNDBITE OF PHONE DIALING)
ARNOLD: The adviser didn't want me to record the phone call and declined an interview. But he knew I was in the room reporting this story during the speakerphone call.
(SOUNDBITE OF PHONE RINGING)
ARNOLD: The new employee asked how high the fees were on the plan, and the adviser told him that the fees were 1.5 percent. But actually, they're higher than that. And the adviser went on to say that those fees make the plan, quote, "extremely competitive."
IAN AYRES: He misrepresented the truth.
ARNOLD: Ian Ayres is a law professor at Yale University who studies 401(k) plans at thousands of companies across the country. He says the fees in this plan are three times higher than extremely-competitive plans. So right in front of a reporter, the financial adviser appears to be saying things that just aren't true.
Is that even legal?
AYRES: No. It's - to misrepresent the truth in that way is almost certainly not legal.
ARNOLD: Ayres agrees with Smetters that this company got saddled with a bad plan that's too costly for the workers. And he's seen this before, especially at smaller companies.
AYRES: Sadly, the high costness is both outrageous and all too prevalent. There are billions of dollars in excess fees being charged each year to American workers.
ARNOLD: As for EFS Advisors, the company declined repeated requests for an interview or a comment. But we called the trade group the Investment Company Institute. Sarah Holden is a research director, and we asked her about studies that find that many 401(k) are overpriced.
SARAH HOLDEN: They've been able to measure fees. That's something that's reported. What none of the studies have done is look to see well, what was the range of services that were being included?
ARNOLD: So a plan might cost more, but employees might get things like lots of access to financial advisers. Of course, some plans could still be way overpriced. But Holden says look, businesses just need to shop around.
HOLDEN: And it's their job to make sure that the services that they're getting for the fees that they're going to be paying are reasonable.
ARNOLD: Since we visited Midwest Industrial Tool Grinding, the company has shopped around. They just got a quote from a major mutual fund firm for a plan with total annual fees of 0.64 percent. The workers are paying about three times more than that now. Chris Arnold, NPR News. Transcript provided by NPR, Copyright NPR.