Understanding 401(k) fees and the actual cost is essential for both employers and employees. Very few plan sponsors and even fewer employees really know what it costs to run or participate in their company’s retirement plan. As a result, plan sponsors often lack a thorough due diligence process for understanding or benchmarking 401(k) fees.
Read on to learn about participant and plan sponsor responsibilities and how they’re typically broken down.
Understanding Participant 401(k) Fees
It's important to know that plan expenses can be categorized into two general types: the fees the employer pays to the plan provider for offering the plan to their employees, and the fees employees pay to participate in the plan. The Department of Labor (DOL) explains that employees usually cover:
Investment management fees, which are typically charged as a percentage of assets
Individual service fees, which include optional features such as loans and hardship withdrawals
So, how do participant fees affect your employees and you as the plan sponsor? It comes down to your fiduciary duty to ensure reasonable plan fees. Participant 401(k) fees are:
- The DOL’s main concern and what they hold you accountable for
Often not disclosed clearly or understood by employees
Essentially netted out of the investment performance, but it is tough to monetize them at a plan or participant level, again leading to a lack of fee clarity
Variable, meaning that as the plan grows, employees pay more
The DOL recommends that plan sponsors benchmark their plan fees every three to five years, although few actually do—which could put them at risk. A fiduciary advisor should benchmark these fees annually for clients. Depending on the results, your advisor can then work with you to lower costs or recommend changing providers.
Understanding Plan Sponsor 401(k) Fees
Plan sponsors are generally responsible for three main 401(k) fee categories: startup costs, employer contributions or profit-sharing (if you choose), and plan administration. Below is an idea of how these work and standard ranges.
Startup Costs
401(k) startup costs typically include services such as plan setup, initial administration, and employee education, and range from $500 to $2,000.
Thanks to the SECURE Act 2.0, businesses with 50 or fewer employees can receive a tax credit of 100% of startup expenses, capped at $5,000 annually for the plan’s first three years. The original SECURE Act applies to those with 51 to 100 employees, allowing 50% of eligible startup costs, or up to $5,000 per year for the first three years.
Employer Contributions
Many employers also offer matching contributions. While this added benefit is optional, it can help attract and retain employees. Not to mention, it’s a priority for today’s talent! A 2022 survey by Principal found that 62% of workers ranked employer matching as the most important factor for reaching retirement goals.
The beauty of employer match contributions is their flexibility. You can opt for a dollar-for-dollar match, match up to a specific percentage of an employee’s salary, or choose from many other formulas. Most companies that offer employer contributions match between 4% and 6% of compensation.
Small businesses may also opt for profit-sharing contributions, which are tax-deductible and can be adjusted based on the company’s financial situation. This design doesn’t require employees to contribute to receive a profit-sharing contribution. Instead, the plan document outlines the parameters of the allocation, and the plan sponsor will make the profit share discretionary (i.e., the employer can choose not to contribute if they can’t afford to). Your 401(k) advisor can help you design an optimal match or profit-sharing plan.
Plan Administration
Finally, plan sponsors are typically responsible for 401(k) administration fees. These include daily operations and administrative services, such as recordkeeping and compliance. Human Interest found that the total annual costs for small businesses with under $1 million in assets may range from $5,000 to $10,000.
Administration fees can also include ongoing service fees, such as those for plan changes or IRS filings like Form 5500. However, some 401(k) plan providers eliminate transaction fees to minimize costs.
Additionally, employers must conduct annual nondiscrimination tests to ensure fair participation in the plan. This is where a safe harbor 401(k) plan design can be beneficial: It entails a mandatory employer contribution, allowing you to avoid certain testing requirements. While this can increase your 401(k) costs, it ensures compliance and can boost employee participation.
Will your plan have more than 100 qualified participants? If so, you may be subject to an annual 401(k) plan audit to ensure it complies with IRS and DOL regulations and your Form 5500 and financial statements are accurate. An independent auditor must conduct the 401(k) audit, which typically costs between $8,000 and $12,000 for small to medium-sized businesses.
Getting the Most From Your 401(k) Plan
As a savvy business owner, you understand that offering retirement benefits is becoming essential to enhance employee retention and satisfaction. You’ll enjoy tax-deductible employer contributions and tax credits on certain costs, while your employees enjoy tax-deferred growth. Additionally, most 401(k) plans offer a Roth contribution option (post-tax) to employees. With the Roth option, participants will enjoy tax-free withdrawals in retirement.
If you have hundreds of employees, high turnover, employees located in multiple states, or other aspects that make your payroll complex, integrating 401(k) with your payroll system can reduce the administrative burden on your team and save costs.
Understanding 401(k) fees is vital to ensuring it is compliant and overall beneficial. Be sure to ask for a fee breakdown and request clarity where necessary. If an advisor can’t clearly explain certain costs, it’s a red flag—a reputable, fair plan shouldn’t have hidden fees.
Are you researching your options or considering a switch to a new provider? Reach out to FSRP today to learn more about 401(k) fees and how we can design a plan tailored to your business and participants.
Securities and advisory services offered through Commonwealth Financial Network, Member FINRA/SIPC, a Registered Investment Adviser. Financial Strategies Retirement Partners (FSRP) is a Registered Investment Adviser. Financial planning services offered by FSRP are separate and unrelated to Commonwealth.