Author Topic: Small business just set up 401k through a salesman. Should we stay for a year?  (Read 2143 times)

MrPatchy

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Background info: Small Construction Business doing approximately $10 Million a year. We are a union contractor that will only offer 401k to full time office staff. Approximately $450,000 in payroll to those staff and we have 100% participation with at least 5% of their income going into the 401k. The plan is set up 100% match first 3% and 50% up to 5%.

My father, the president of the company just set up this 401k (Through American Funds) beginning the first of the year with a salesman he knows through a friend. We previously had a SIMPLE IRA through our bank but he wanted to go with something where he had the option of profit sharing and he could company match at a higher rate. I am an employee for this company and previously worked in sales so I know there's always a catch. I stumbled upon this forum and after doing quite a bit of reading I found the right questions that needed to be asked. Mainly, "What are the fees? Not just the Expense Ratios, but the front loaded fees?"

I set up a separate meeting with the salesman to ask a few questions and he tried to pitch going with a ROTH IRA through him as well but I now know better. I asked about the fees and he said "You aren't going to avoid fees. You will always be paying a fee. You get what you pay for." I then asked again, what are the fees? He said "Well if you look at that packet I gave you last week the expense ratios are in there." So there are no other fees? What about front load charges? He then pulled out a ratty old chart and tried to cover up half the page but I slowly pulled it to me to take a closer look and say the front load fees are 5.75% up to $25,000 and slowly decreasing down to 1% once you hit a million. The column he was covering up was his commission. He receives 5% of that 5.75% and approximately the same ratio down to the 1%.

My questions are as follows...

1. My father feels as if we should stay with this gentleman for at least a year as to not hurt his feelings. Thoughts?
2. For a small business what are our best options for setting this up right and keeping the fees low for our employees?  We would still like a 401k plan with a company match that offers good funds. Its seems Vanguard Small Business may be the way to go but was wondering if anyone had previous experience with them or if you know what fees they charge before I reach out to them.
 
There has to be a way to set up the business 401k without screwing all of the employees. Please Help!




AH013

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So, disclaimer, I was in the 401k business for years.

Here's the thing.  Let's do math on what you presented.  Guy earns 5% on the contributions, which based on your numbers ($450,000 annual payroll * 12% rates (probably average 8% employee + 4% match) * 5% commission) is $2,700 a year.  That's not a lot of money, but not a little amount of money either.  For this amount of money the guy should be setting up the plan & doing a free consultation with every participant to get their retirement plan in order (this should be free anyway, as it always includes a similar pitch to open a separate IRA with him).  If he's doing that, he's doing a fair job.

That said, I can't say anything positive for American Funds in general.  Many of their funds have a 3* (average) rating from Morningstar, meaning they roughly meet the benchmark returns.  However, unlike an index fund they have expense ratios of roughly 1% plus the 5.75% load as you noted, instead of expense ratios of roughly 0.10% and no loads like an index fund would have.

Like the guy said, there's always fees in 401k plans.  There are 2 paths small businesses usually take.

Path 1 is "I (CEO) am forced to offer a retirement plan to be competitive for talent, but I don't want to pay anything for this."  This path leads you to advisers like what your dad selected who partner with American Funds or Nationwide or other vendors who offer loaded funds -- it's "free" to the company because in your case the vendor is charging participants $3,645 a year (in expense ratios and load fees), and it only gets worse as the asset base increases over time.  As the relationship grows, the organizer/"fiduciary" usually gets nice perks like golf trips and sports tickets and steak dinners to "go over the plan"....you can see who this relationship benefits.

Path 2 is what I like to think of as the honorable path of "I (CEO) want our employees to be set for retirement, which is why I'm offering this plan".  This path leads you to more mainstream providers like Fidelity or Vanguard or Schwab or a few others.  The employer pays some base fee (maybe $500) plus a nominal fee per participant (like maybe $50/year/user) which in your case I'd assume is something like $500.  With that, you can pick a menu of funds, which can be free to include retirement dated funds, a nice US stock index fund, a developed markets index fund, a few bond index funds, and maybe a real estate index fund, so participants can piece together a complete portfolio for maybe an average expense ratio of 0.15% and no loads, plus you can offer some active funds with no loads for participants who want to feel special.  Yes, it may cost you the employer $1,000 more, but it essentially saves the participants $4k a year and that also grows as the asset base grows.  Once you reach a certain asset base in the plan, the annual fees are usually dropped, since they make enough off of the majority of participants who, despite being offered a complete portfolio of index funds, will choose a slew of active funds (WITHOUT loads) because they think they are whiz-bang investors.  As a side benefit, you are also putting them with a reputable company for the 401ks, and those who wish to get IRAs will be more likely to go with said reputable company than say, one with higher fees that will encourage loaded funds in their IRAs as well.

As to what you owe the adviser in terms of respect for his feelings or anything else?...jack.  He obviously has no respect for your feelings if, by your own account, he doesn't want to be deceitful and dishonest with you about costs, which in and of itself speaks volumes to the ethics of the man & the business that contracts him to sell this service.

Yes, do reach out to Vanguard and the others I mentioned, and ask for a RFP/RFI -- there is no obligation to go with them and the businesses know they will usually only win 1 out of 4 proposals anyway.  Take this project off your father's hands for him, because in my experience many plan organizers are generally decent-hearted people but lack the understanding of the business to identify what is in the best interest of their participants.  If you aren't locked into some sort of contract with the adviser and the new proposal makes better sense, switch it now -- it only gets more difficult and "sticky" as time goes on.