I’ve been breaking down some common misconceptions surrounding fee levelization in my last few posts. Here are two myths I touched on already:
But there’s another misconception I hear frequently – zero revenue investment options are always cheapest. That’s not necessarily the case. I’ll get to why in just a minute, but first keep in mind it’s important to understand all available investment options and their total net investment expense. By doing so, you and your clients can better fulfill the related fiduciary responsibilities by having a discussion around fees and documenting that discussion.
Misconception: Zero revenue options are always cheapest
When it comes to levelizing retirement plan administrative fees, some think zero revenue investment options or zero revenue share classes are the least expensive. This approach generally appeals to plan sponsors who want to accomplish a clear separation of plan administrative and recordkeeping fees from investment expenses using the simplest method.
But while this method can be the simplest, it’s not always the cheapest. Sometimes using an investment lineup that includes revenue sharing can be less expensive when the revenue sharing is credited back to participants. Take a look at this example:
This compares a zero revenue share class with a 1.00% investment expense to an I share with a slightly higher 1.01% expense. Unlike the zero revenue share class, the I share has 15 basis points of revenue sharing available that can be used to offset plan administrative expenses, such as recordkeeping and advisor fees.
If you use a zero revenue sharing with fee credits approach, the 15 bps of revenue sharing from the I share will be credited back to all participants who elect it. By crediting back the available revenue sharing and subtracting it from the investment expense, the overall net expense is actually 14 bps lower than the zero revenue share class investment.Here the zero revenue share class is the least expensive option, even after crediting back the revenue sharing amount for the R6 share. These examples highlight an important point that there’s no one right answer to approaching fee levelization. Instead, it’s an exercise in comparing an investment option’s fees, objectives and philosophies along with the plan’s goals when deciding which will work best for the organization.
Some fund managers recognize lower asset levels can impact pricing and have ensured zero revenue share classes don’t have higher expenses. That’s why it’s crucial you and your retirement plan clients do your due diligence to choose the most appropriate share class for the plan and participants. By doing your research, you can better demonstrate meeting the related fiduciary duties.
Get educated … get the facts
Take your time to bust through some of the hype to fully understand revenue sharing before you make any decisions. Then consider these next steps:
- Understand the options by reviewing our recent white paper
- Gather and evaluate relevant facts, including participant needs
- Assess available fee payment methods and determine how fees will be collected
- Document, document, document. Use a fee policy statement for help
The subject matter in this communication is educational only and provided with the understanding that Principal® is not rendering legal, accounting, investment advice or tax advice. You should consult with appropriate counsel or other advisors on all matters pertaining to legal, tax, investment or accounting obligations and requirements.
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