Implicitly Wrong: Hidden Fees in Retirement Income Solutions

The advent of 401(k) plans nearly 50 years ago began a transformation in our country. Where once the bulk of our retirement system was placed on the shoulders of employers, with no real way for employees to save for themselves in a scalable, institutionally priced way, today far more Americans stand ready for retirement than their pension predecessors.  

In the ensuing years, our industry and (yes, we can admit it) the support of the Department of Labor have created a system in which Americans have accumulated more than $10 trillion in savings through innovations such as automatic enrollment, automatic escalation and the qualified default investment alternative. But there is a final leg of the stool missing for participants.  

Today, our Baby Boomers are largely “pushing the pig through the python” to retirement without a good system for decumulation. To create a more viable system for our next generation of retirees, we need to solve for decumulation, particularly guaranteed income.  

Here again, the DOL has supported us with the Setting Every Community Up for Retirement Enhancement Act of 2019 and the SECURE 2.0 Act of 2022. These provide the industry not only with a road map for income solutions, but a safe harbor to help close the loop and address the final stage of a participant’s journey. We have before us an opportunity for insurance and investment companies to create solutions for the tidal wave of demand that is coming.  

When I first entered the retirement plan industry, recordkeepers would force plans to use their proprietary funds. We all may remember the days when 401(k) lineups were 100% invested in one family of funds produced by the recordkeeper itself. It took more than 15 years to get them to drop those fund requirements from 100% to 80%, to 75%, to 50% and so on, until they became open architecture.  

Simultaneous to the proprietary fund requirements, fee transparency was a struggle. Investment and plan administration fees were buried, hidden and layered. It took years for our industry to finally find a pure fiduciary model. We’ve now had fee disclosure for more than 10 years. People get paid for what they do by providing value and transparency.  

But this is where I think things have gone implicitly wrong. While some companies have chosen to innovate and create new viable retirement income solutions, others have repurposed and rushed to market older solutions—like target-date funds embedded with single premium immediate annuities—and have chosen to take our industry back in time in all the wrong ways. I am a proponent of these solutions and have actively worked on options, but I believe there are right and wrong ways to make them work for our industry and, ultimately, participants. 

The Solutions 

In the past couple of years, the market has been flooded with proprietary in-defined-contribution-plan retirement income solutions, placing 100% of a participant’s savings into one family of funds and, more importantly, doing so with implicitly (hidden revenue) priced solutions.  

When I’m attending industry conferences, I often sit back stunned and amazed that, today, advisers are even considering using solutions that do not disclose their fees.  

I would like to convince advisers and consultants to stop taking the guided tour of retirement income TDFs and consider what I think would be the terrible outcomes they will lead to. If you think that’s overstated, just consider the truckload of excessive fee lawsuits we’ve seen. That will pale in comparison to the litigation the wrong retirement income solutions will bring us.  

I am not trying to shut down debate or discussion of the products currently on the market. I think many of these solutions are or can be viable. There are, as well, exceptions in the marketplace. For example, I do not believe an out-of-plan annuity marketplace is held to the same fiduciary fee disclosure as an in-plan solution.  

But when I go to conferences and hear product representatives talk about the annuity solution being free, I cringe. Advisers should demand fee disclosure and full economic disclosure. We have fought for too long to get away from the mistakes of the past.  

I have been involved in the design of various products. I’ve consulted and helped produced competitive products. But this is not a sales pitch for those designs. This is a call for fairness and a duty of prudence. On every solution I’ve been involved with, I have made it clear that we will disclose all fees.  

The Right Questions 

This, I believe, is the central question we must be asking ourselves as plan advisers: 

If you were tasked with creating a guaranteed income solution that complies with SECURE 2.0, would you design it so that: 

• It does not disclose fees or the revenue model? 

• It requires the participant to be invested 100% in one investment company? 

• It requires the participant to forfeit principal and all potential growth on that principal once they start taking income? and 

• It relies on the structure that once a participant makes a decision, that decision is irrevocable and irreversible? 

I do not believe you would.  

Additional questions we should be asking include:  

How does any adviser, as a fiduciary, recommend a solution to a plan sponsor about which they have no ability to provide its fees, costs or expenses?  

To be able to answer this question, an adviser would need to have access to the spread between the projected payments and money earned on the participant deposits. In my 30 years in the business, this is a number I’ve never seen an insurer be willing to share. That leads to the next question. 

Why don’t insurers share this information if the fees are reasonable? 

Through the years, I have been involved in the design of retail annuities, variable annuities, fixed annuities and structure note annuities. Additionally, I have consulted on the design of three different in-plan guaranteed income products. In each case, I have advocated for all fees to be explicit. I advised that plan sponsors and advisers or consultants need that information to be able to accurately assess the value being provided.  

How does someone measure value when the formula does not provide the expenses or cost—a key data point needed to measure value? 

Additionally, in consulting on these products, my experience has been that the implicit products were far more profitable (i.e. more expensive) than their explicitly priced counterparts. Yet I sit at conferences and watch session after session of product reps disingenuously stating how cheap their products are. 

I believe we, as consultants and advisers, have an obligation to ask these companies the tough questions. We need to demand the data and facts of their margins and spreads. I ask no less of advisers when I am discussing products I helped design and support. 

In short, we need to push to make the implicit explicit. If we don’t, we will find ourselves fighting old battles, rather than solving the right problems.  

Scott Colangelo is chairman and managing partner of Overland Park, Kansas-based Prime Capital Financial.