403(b) Curriculum Library


State Optional Retirement Plans (ORPs) Are No Longer Optimal For Participants

Optional Retirement Plans, or ORPs, have been around the higher education space for decades. These programs were designed to coordinate retirement offerings for the state’s public colleges and universities, along with achieving economies of scale.  By having an ORP, individual public colleges and universities were not burdened with deciding which investment company/recordkeeper to hire.  Since larger plan assets help create economies of scale, ORP participants received lower recordkeeping costs by “purchasing” under group ORP contracts than what they might receive on their own.  

Flash forward to 2017:  the ORPs that were created with multiple recordkeepers decades ago are no longer achieving the optimal economies of scale for participants.  This is due in part to open architecture investment platforms.  Offered since the mid-2000’s by most recordkeepers, open architecture investment platforms eliminate the need to contract with different investment companies, since a single recordkeeper with an open architecture platform has the ability to offer options from almost all investment firms.  Recordkeeping fees move lower when an ORP reduces the number of recordkeepers from, say, four to one.

ORP participants save even more when an investment fund consolidation occurs.  For example, consider an ORP providing the standard investment offering from four recordkeepers, with one dozen large-cap growth funds from which a participant can choose.  In a streamlined array, the participant would typically have one active and one passive option in the large-cap growth category, thus pooling these assets into two funds instead of many.  Having all of the ORP’s large-cap investments in two funds helps participants receive the lowest cost share class. In addition, reducing the number of fund offerings typically lowers the cost of recordkeeping. If the fund shares revenue at a rate greater than the plan’s administrative costs (i.e., the recordkeeper’s required revenue), the plan may also be able to provide revenue credits back to participants. 

While public colleges and universities may find their hands tied in the short run, having to offer multiple recordkeepers from the state’s ORP, they do have an opportunity to clean up their supplemental funds (i.e., tax-deferred annuities, tax-deferred investments), which are typically 403(b) and 457(b) plans offered by the institution.  A review of ORP institutions indicates that a range of four to eight recordkeepers are frequently being offered in these supplemental plans.  The same aforementioned economies of scale can be achieved by consolidating recordkeepers and offering a streamlined investment array.  In this scenario, participants are no longer burdened with recordkeeper selection or picking investment options from a list of 200 or more. Instead, they can hopefully focus on having proper asset allocation, a better understanding of the investments choices offered, and ultimately, how they can achieve retirement readiness.

The importance of reducing fees is illustrated in a recent study by the Center for American Progress*. The study indicates that lower-paid employees, averaging $30,000 in compensation, will pay over $138,000 in retirement program fees over their lifetime, assuming a 1% average fund expense. A reduction of these fees to 25 basis points (.25%) lowers the lifetime fees to $42,000, a savings of $96,000.  

Fees are, and will continue to be, an important topic for retirement plan sponsors. Public university plan sponsors should look to consolidate recordkeepers and investment lineups wherever they can in order to provide the best value to their participants. 

*Fixing the Drain on Retirement Savings, Erickson and Madland, April 11, 2014, Center for American Progress. 
 

Note: This feature is to provide general information only, does not constitute legal advice, and cannot be used or substituted for legal or tax advice.

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