While there has been significant convergence between 401(k) and 403(b) plans, 403(b) participants are still treated as second-class citizens when it comes to getting the best pricing on their savings for retirement.
401(k) plans are free to have the most appropriate and cost-effective investment structure — including mutual funds, annuities, commingled trusts and separate accounts. But not 403(b) plans.
Instead, because of anachronistic laws, 403(b) participants are limited to mutual funds and annuities — regardless of the size of the plan. This is unfair and counter to our social policy that seeks to encourage working individuals to contribute toward their retirement security. How can this be?
A little history is in order. 403(b) plans were created in 1958. At that time, they were not “plans,” but simply arrangements that allowed an employer to act as a pass-through agent for employees to purchase an annuity for supplemental income at retirement. It was not until the passage of the Tax Reform Act of 1986 that 403(b)s were considered plans that had to comply with various rules, including coverage, discrimination, deferral limits and distribution. More recent regulations, effective in 2009, put 403(b) plans even closer to their 401(k) cousins. Today, they are largely indistinguishable from each other, except when it comes to investment structure and therefore fees.
When the 403(b) plan was first created it allowed the establishment of individual accounts in annuities and later mutual funds. Today many 403(b)s are large, well-governed plans, rivaling corporate plans with hundreds of millions — or billions — of dollars in them. But they are still restricted to investment vehicles that are often priced more appropriately for smaller plans.
The result is that millions of participants representing more than $700 billion in retirement plan assets as of 2009 likely pay higher investment fees than comparable corporate plans — because current law, specifically 403(b)(1) and 403(b)(7), restricts them from accessing more cost-effective investment structures. I estimate that many 403(b) plan participants are paying 30% to 50% more for investment management than they would otherwise have to pay. In addition, they are often denied access to the investment managers used by their organization's defined benefit plan unless the manager offers a mutual fund. For example, a large growth equity mutual fund would have fee of 65 basis points, while its separate account counterpart, 45 basis points. That's a 31% difference.
It is often said that we cannot control market returns but can control expenses. Unless you are a participant in a 403(b) plan, in which case plan sponsors of large plans are handcuffed from controlling either effectively.
The issue becomes even more urgent when we realize that many of these not-for-profit institutions are also freezing and terminating their defined benefit plans, leaving 403(b) as the primary source of retirement income for millions of participants. The Department of the Treasury claims this issue cannot be addressed through the regulatory process. We have been told that legislation is required.
So what needs to be done? E-mail Congress today and tell your representatives you support allowing a broader range of investments in 403(b) plans. Tell them the retirement security of millions of participants is at stake. Tell them this change has no impact on government revenue. All we are asking for is parity for those who work in not-for-profit institutions.
Congress, are you listening?
Donald Stone is president and co-founder of Plan Sponsor Advisors LLC, Chicago.