Revenue Sharing Considerations: Fees and Fiduciary

The practice of revenue sharing for retirement plans has been questioned in some excessive fee lawsuits; however, it can be used in certain instances to lower costs for retirement plan participants.

“Revenue sharing is an arrangement between the money managers and the recordkeepers, where a certain amount of money is provided to the recordkeeper if they offer certain funds, to help offset recordkeeping costs,” explains Robyn Credico, defined contribution practice leader, North America, at Willis Towers Watson.

The practice originated to offset expenses from investment funds’ marketing costs, she adds.

How It Works

Plan sponsors using revenue-sharing arrangements can place investments into plans that have an expense ratio that includes the cost of the investment adviser and recordkeeper without additional charges to the plan, explains George Fraser, financial consultant and managing director of the Fraser Group at Retirement Benefits Group.

“A fund may be at 120 basis points—1.2%—of that cost, maybe .40 is the cost of the actual fund, .50 is the cost of the provider, and .30 is the cost to the adviser to do the work: that’s revenue share,” he says.

Some plan sponsors that use revenue sharing in a particular fund might rebate a portion of the fee back to participants. “It actually reduces their overall expenses,” says Credico.

Revenue sharing in DC plans is a complicated topic that can be misunderstood, adds Credico.

“Sometimes consultants would recommend against revenue sharing, [but] just because it can get you into trouble doesn’t mean that’s the right answer,” she says. “It’s not bad as long as you monitor it and understand it.”

When Selecting Funds

Investment managers use tiered expense ratios—several share classes—with institutionally priced shares the least expensive. Revenue sharing can be a cost-saving option for plan sponsors when choosing among funds and can be used to access the lowest fee share class, says Credico.

For plan sponsors selecting among funds, there could be one that has a “middle expense ratio but it gives you a better revenue-sharing amount than a fund that has no revenue sharing,” Credico says. A revenue-sharing fund may cost 60 basis points but offset 20 points of the expenses, versus another fund that costs 50 basis points with no revenue sharing, she explains.

“In the first example the plan is better off than the second because the net expenses, they would be 40 basis points, whereas the non-revenue sharing one would be 50 basis points,” she says. “And so you need to look at each and decide which makes sense for you.”

Fiduciary Focus

Fiduciary risk from retirement lawsuits claiming that plans charged excessive fees can be mitigated by monitoring the plan and investment fees, Credico counsels.

“There were a lot of lawsuits that were based on the fact that fiduciaries weren’t paying attention to the fund expenses,” she says.

As fiduciaries, plan sponsors must ensure that they understand total fees charged and the revenue-sharing arrangement when it is used.  

Credico recommends that plan sponsors using revenue sharing perform fee and service benchmarking studies to monitor the plan every three years, make any needed adjustments and undergo a recordkeeper search each seven to 10 years.

“Over time, there’s been a much greater emphasis on making sure your recordkeeping fees are reasonable, and then making sure that your investment fees are reasonable,” she adds. “There’s still no reason for plan sponsors to not consider revenue sharing if it helps reduce the fee as long as they make sure it’s reasonable and it’s monitored.”

Accounting for litigation risk and fiduciary monitoring, Fraser says he has opted for the lowest cost institutionally priced funds rather than revenue sharing to reduce expenses.

“The litigation is almost exclusively based on fees that are too high, and so what this does is allows people to, with absolute clarity, know what their fees are, and be able to make sure they’re appropriate,” he says.

Fraser adds that most of the public doesn’t understand revenue sharing.

“If you have litigation and you have to go into a courtroom and explain revenue sharing to a judge and a jury, it will be difficult to explain,” he says. “There is no difficulty explaining the lowest-cost possible share class, that’s easy.”