A Small Business Retirement Plan Case Study

Or, how I helped a small business owner save tens of thousands of dollars every year.

Last year I was approached by a small business owner (we’ll call him Frank) to review his company’s 401(k) plan. His company is small (10 or so employees) but profitable.  He was working with a very bright and hardworking plan administrator but Frank was beginning to feel the significant impact of the asset-based fee he was being charged by his current investment advisor.

Frank and his wife are equal partners in the business and each each maxing out their payroll contributions ($17,5000 each) and profit-sharing contributions to hit the annual plan maximum of $52,000 (in 2014).  Together they are saving over $100,000 per year into the 401(k) plan.  The current plan balance was just over $2,000,000, the bulk of which belongs to Frank and his wife. The plan was being charged 0.90% by his existing advisor for a largely passively invested portfolio, which cost Frank just over $18,000 in 2013. The weighted average internal expenses of the funds in the portfolio were 0.54%, or $10,800 per year.

Excluding the cost of Frank’s TPA (since he elected to keep working with this service provider), Frank’s all-in expenses were 0.90% + 0.54% = 1.44%, or $28,800 last year.

We moved the plan to a new platform under my management. Immediately his advisory fee dropped from $18,000 (0.90%) to $4,500 (0.23%) per year.  The new platform had a recordkeeping fee of $1,125 per year plus a custodian charge of 0.08%.  His new plan lineup has weighted average internal expenses of 0.12%, or $2,400 per year. So Frank’s new all-in expenses are ($4,500 + $1,125 + 0.08% + 0.12%) = 0.48% or $9,625, a savings of $19,175 in the first year alone.

But the real impact comes down the road.  As Frank’s plan assets grow, and he and his wife contribute $100,000 every year, the former asset-based fee truly becomes tyrannical. In the illustration below, we’ll assume that Frank’s plan grows at 8% per year (he is an aggressive investor) and he and his wife contribute $100,000 per year to the plan.  How do the fees stack up over 10 years?

Over ten years, Frank would have paid over $450,000 in plan expenses between mutual fund expenses and his asset-based advisory fee. Reducing plan investment expenses and moving to a flat fee structure has the potential to save Frank well over $300,000 in ten years.

This is just another example of the tyrannical nature of compounding costs, and what a terribly flawed structure asset-based fees can be for investors.  By year 10 Frank’s 0.90% advisory fee amounts to some $42,000 annually for the management of his 401(k) plan. There is no reasonable justification for this high of a fee for the services provided to Frank and the plan. I’m happy to be able to help Frank and others like him keep more of their hard-earned dollars and retain more of their investment returns.  Investors put capital at risk and deserve the returns that come with it, and those in the financial industry shouldn’t be hijacking returns for their own benefit.

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