What’s the most challenging part of serving the retirement plan market? Explaining the Employee Retirement Income Security Act (ERISA) to plan sponsors? Educating 401(k) plan participants on the finer points of asset allocation?

How about figuring out whether you were paid correctly last month?

“If you’re an adviser in the retirement space, it can be very difficult to find a broker/dealer who supports your business, understands how you get paid, and can help you track your pay,” laments Dorann Cafaro of The Cafaro Group, a member firm of National Retirement Partners. Located in Little Silver, New Jersey, her practice advises about 150 retirement plans. “Most of us [advisers] spend hours and hours creating spreadsheets and feeding in our expected revenue from each and every piece of our business,” Cafaro says.

The source of Cafaro’s frustration is the methodology by which most advisers to retirement plans still are paid: commissions on the mutual funds those plans offer to plan participants, typically paid out from the 12b-1 fees fund companies charge to cover marketing expenses and commissions to brokers. Commissions can vary from fund family to fund family, from fund to fund within a fund family, and even from one class of shares to the next for the same fund.

“Say you have a plan with 10 mutual funds from five fund families,” says Jeff Croke, senior project manager in the product development group at MFS Retirement Services, a fund company and recordkeeper. “Each fund family may have different share classes. Their funds may have an up-front commission, an immediate trail commission, a delayed trail commission, or—if they are from a no-load fund family—they may have no commission at all. There are also timing issues. Some fund companies pay commissions on a monthly basis, some on a quarterly basis, and some pay on a noncalendar quarterly basis. As a result, advisers must deal with an influx of commission payments coming in at various times during the year, and that can result in confusion about what you’re getting paid and whether it is the right amount. The more successful your practice-the more funds, providers, and plans you work with-the more that must be tracked.”

The problem is compounded, Cafaro says, by the way those commissions get routed to the adviser. Typically, each fund company will remit its payment to the adviser’s broker/dealer for all the plans in which its funds are represented, with no accounting for how much revenue is attributable to each individual plan. The broker/dealer then passes that lump sum along to the adviser. “I have to go back and calculate what I thought I was going to get paid and hope I’m somewhere in the ballpark,” Cafaro says, noting that it is not uncommon for the two sets of numbers to differ by 5% or more. Making a precise comparison is difficult because commissions are paid out based on a weighted daily average of assets in the plan during the pay period, as opposed to a simple period-end figure.

Paul Schaffer, director of advisory services for CAPTRUST in Raleigh, North Carolina, whose office handles 50-plus plans with approximately $1.5 billion in assets, says some fund companies do a better job of breaking down payouts than others. “Some are very good, meaning they’re clear as could be in specifying that you have a certain amount of money in a plan and what the compensation rate is for that plan. You can multiply that rate by the assets and verify that the result equals the check you received,” he observes. “However, there are others where it is virtually impossible for us to audit and track if we’re being paid precisely what we’re supposed to be getting paid.” Historically, those differences haven’t influenced with whom he does business, but now, with new compensation options available, he says, it will.

A growing number of fund companies/recordkeepers are embracing a different compensation approach, “equalized” commissions, that simplifies the recordkeeping. With this approach-long used by insurance company recordkeepers overseeing plans where the investment options are structured as group annuities-advisers get the same commission on all the funds in a plan, whether proprietary or from another fund family.

In September 2005, MFS Retirement Services became one of the first of a growing number of fund companies (Fidelity is another) to set up an equalized commission program to help ease the compensation confusion plaguing advisers and help make the whole cost structure of retirement plans more transparent for employers, accordingto Croke. The firm pays advisers directly on all actively managed funds, so they are not receiving checks from multiple fund companies unless they also do business with other recordkeepers. However, some types of investments are excluded from the MFS program. No commissions are paid on company stock held in a 401(k) plan or on brokerage windows, for example, and any commissions paid out by index funds, which are often lower than the equalized commissions paid out by the MFS program, are passed through to the advisers at whatever level they are paid.

To reflect the variation in commission schedules on different funds, MFS created five investment “menus” from which advisers and their plan sponsor clients can select investment options for their plans, allowing the adviser and its plan sponsor client to choose the menu with a compensation structure that best matches the adviser’s service level.

Schaffer says that his firm has embraced yet another approach-direct billing-for many of its clients and finds it preferable to relying on commissions, not just because it makes it easier to track and account for income, but also because it provides greater transparency for the plan sponsor. With direct billing, the adviser is paid directly by the plan sponsor client rather than relying on commissions of any kind from mutual funds. “When compensation is built into the product, it’s necessarily a one-size-fits-all situation,” Schaffer says, “but why should the product define my value to the client? It certainly can’t be that every adviser’s service is of equal value, yet the compensation built into the product is the same for everybody.”

Unfortunately, neither the equalized commission approach nor direct billing is universally available to all financial advisers all the time. Some fund companies do not yet offer equalized commissions, and some broker/dealers do not allow their financial advisers to bill directly.

The trend toward equalized commission structures seems destined to pick up, though. It is, as one financial adviser working for a large wirehouse says, “the key (trend) in this industry right now” as regulators and plan sponsors alike push for more transparency in retirement plan costs.

Revenue Sharing

Finder’s fees: These payments do not come from fund assets and are not disclosed via the prospectus. They are essentially a “bounty” on delivering new assets to the fund company.

12b-1 plan of distribution: Adopted by the Securities and Exchange Commission in 1980, funds are allowed to charge up to 75 basis points (3/4 of 1%) for distribution costs and 25 basis points for account service fees against fund assets. These service fees were established to reimburse the fund underwriter, transfer agent, or others for costs associated with services provided to shareholder accounts, including staffing, printing/postage, telephone expenses, and systems resources.

Sub-transfer agent fees: These represent a portion of the fund transfer agent compensation set aside for shareholder recordkeeping and accounting services—exactly the types of services provided by third-party administrators in most defined contribution arrangements.

Multiple share classes: These are an alternative to front-end-load sales charges that compensate distribution and service firms—and one more palatable to the institutional marketplace. Generally speaking, smaller plans wind up in a different mutual fund “class” of the same type fund-frequently paying a higher investment management fee for what is generally the same investment.