What Small Business Owners Need to Know About the IRS’ New 401(k) Rules

A new federal rule requires employers to distribute more information to employees.

While there have always been fees charged to 401(k) plans, many employees don’t know these fees exist, or exactly how much they affect retirement savings. A recent poll from AARP shows 71% of people with 401(k)s don’t know they’re paying fees at all.

A new federal rule sought to change that, by requiring plan providers to report these fees on employees’ 401(k) statements, which employers must distribute.

Here’s what employers need to know about the new rule:

When It Starts

The rule went into effect July 1, 2012, so fee disclosures must be included on third-quarter statements in 2012. After that, full disclosures are required annually, and “expense ratio fees”—401k fees as a percentage of an employee’s invested dollars—will be seen on quarterly statements along with any major changes.

Annual statements will include a list of available investments in your employer-sponsored plan, as well as the fund management fees associated with each investment choice. These “fund management fees” make up the majority of fees charged for 401(k)s.

Your Job

It is your job, as the employer, to distribute the reports made by the plan providers. According to the Department of Labor, employers should also adhere to certain rules in managing 401(k) plans for their employees, such as:

•  Ensuring fees are reasonable for the service provided.
• Monitoring investment alternatives and service providers to ensure they are the best choice for employees.

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Fees Should be About 1%

Historically, small and mid-sized businesses have higher-cost plans, and even seemingly low differences have big affects. The DOL says a 1-percentage-point difference in fees and expenses would reduce account balances by 28 percent at retirement.

Consider the example provided by the DOL:

Assume an employee has 35 years until retirement, a current 401(k) account balance of $25,000 and returns on investments averaging 7 percent:

• If fees are 0.5%, the account balance will total $227,000.
• If fees are 1.5%, the account balance totals only $163,000.

What Fees are Included?

In addition to the management fees, other fees that should be disclosed are:

Administration fees—Expenses for basic, daily administrative functions like recordkeeping, accounting and trustee services. Generally, the more services employees use, the higher the rate.

Marketing fees (also known as “12b-1 fees”)—Fees used to pay commissions to brokers and other salespersons, for advertising and other costs of promoting the fund to investors and to pay various service providers

Individual service fees—Associated with 401(k) plans that offer optional features like taking a loan.

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Watch next: Choosing a Retirement Plan Solution For Your Business | NFIB Small Business Webinar