Bad 401(k) Part II: Now with Collective Investment Trusts

[foglifter]

A bit over a year ago I shared my excitement when my employer switched the benefits provider and our 401(k) was moved to ADP with an option to use 50% of the balance in a brokerage window. It appears that the blissful romance was rather short and a fee weeks ago the company got the health plan renewal numbers from ADP that looked pretty high. So the company moved back to Insperity as a benefits provider.

Insperity recently replaced some investment options in the 401(k) with seemingly better funds. Since we're in the Stocks forum I'll only talk about one fund: BNY Mellon S&P 500 Index Fund. It has replaced Fidelity Spartan 500 Index Fund (FUSEX) as the only index fund in the plan. Sure, with ER of 0.05% the fund looks like a slightly better option than FUSEX (ER 0.1%). However, the fund only looks like a mutual fund - it is set up as a Collective Investment Trust. I did some reading about CITs and in a nutshell low ER is the only positive thing with these funds. The expenses are low, but for all the bad reasons:
1. CITs are not publicly traded, don’t have ticker symbols, and hence are harder to research
2. CITs are not regulated by SEC
3. CITs are fairly new and don’t have the sufficient track record to assess their suitability
4. Because of #1 CITs cannot be rolled over in-kind to an IRA or to another 401(k) – one would ave to liquidate their CIT positions and rollover cash.

The above points are surely alarming, but it got even more interesting when I looked at the information sheet for the fund (I don't think it has a prospectus):

A. Investment Policy: The objective of the Fund is to track the performance of the S&P 500® Index. In meeting this objective, the Fund may invest in securities and a combination of other collective funds that together are designed to track the performance of the S&P 500 Index.
The Fund may also invest in the EB Temporary Investment Fund.
To the extent a portion of the Fund is invested in another collective fund, the terms of that collective fund will be incorporated by reference.
Long and short positions in financial futures may be used to obtain exposure, to provide liquidity for cash flows, to hedge dividend accruals or for other purposes that facilitate meeting the Fund’s objective.
Cash investments or assets used as collateral underlying the derivatives positions may be comprised of other collective funds and short to medium-term debt of investment grade that may include, without limitation, Treasury bills and notes, corporate obligations, commercial paper (including paper issued or resold under Section 3(a)(3), Section 4(2) and Rule 144A of the Securities Act of 1933), repurchase agreements, and obligations of government sponsored enterprises.
The Fund may utilize short settling.
The Fund will not participate in The Bank of New York Mellon’s securities lending programs.

I'm not an expert in CITs, but to me this beast doesn't really look like an "index fund". The only consolation is they won't lend the securities (thank you very much for that, BNY). I can do nothing about my existing 401(k) balance since no rollover to IRA was allowed. I may have to keep some %% of the balance in this fund and put the rest into PTRAX (PIMCO Total Return) and a TIPS fund (everything else is actively-managed high-espense crap from American Funds and the likes). But I really don't see a point in adding any new money to this plan. I am maxing out our Roth IRAs and my HSA account (with a brokerage window at TD Ameritrade).

I am thinking about putting additional money into my taxable account instead of 401(k), although I would be missing on the tax-free growth opportunity in this case. Another solution could be investing in stocks in an IRA and use PTRAX in 401(k) as a combined bond+cash bucket (not a good LTT replacement, but...)

What would you folks do? 

[Pointedstick]

That looks terrifying.

I wouldn't miss out on any free money from an employer match; you could at least park it in PTRAX or something. But beyond that, if the funds in your 401k are just really really lousy, it might be better to just bite the bullet and put more of your money in taxable investments.

[foglifter]

That looks terrifying.

I wouldn't miss out on any free money from an employer match; you could at least park it in PTRAX or something. But beyond that, if the funds in your 401k are just really really lousy, it might be better to just bite the bullet and put more of your money in taxable investments.

No employer match. So I won't lose any money.

[stuper1]

My 401k has some BlackRock collective investment trusts that I have a lot of money in.  How bad are these things really?

[cnh]

Given the dismal fund offerings and this:

No employer match. So I won't lose any money.

Can you find another employer?    Sorry...just kidding.

How expensive are the American Funds options?  In my 401K, I have some American options with ERs below 0.40.  If comparable, you might want to build a VP with some combination of American and PTRAX.  If not, I think the plan you outline in your final paragraph is the way to go.

[AgAuMoney]

That S&P 500 "collective investment trust" (or whatever it was) actually does not look too bad.

Check out the prospectus on VTI.  Has very similar language.  Might even go further.

I'm just unsure (and so is the industry, it seems) what about a CIT might make it OK, good or bad.  In this case I probably wouldn't be too worried.

On the other hand, with no company match, I'd put a little money in (1%, maybe less) just to participate*, or maybe just keep an existing balance.  The rest I'd definitely do IRA's first (preferably Roth, or annual conversion to a Roth).  Then if I needed tax deduction I'd consider more in the 401(k).  Then a taxable account.


* participate, because that puts you into a different statistical bucket, gives your input more weight with the company for your 401(k) feedback, and sometimes companies have been known to award/reward participants.  The cost doesn't seem unreasonable, but at the same time I wouldn't want to tie up a lot of money with limited investment options and facing the risk the company might change their plan for the worse.

[Ad Orientem]

Holy cow! Yours may be the worst 401K I've heard of. Best I can advise is put your money in whichever fund is best while steering clear of any that are not regulated. And I concur that with no employer match the 401K is a complete waste of money. It sounds like a corporate scam. One wonders how much of a kickback they are getting from it. Honestly, I'd put money in fully taxable accounts before I'd touch that.

I don't know who you work for, but if this is indicative of how they treat their employees I would at least be keeping my eye out for new employment opportunities.

[smurff]

These types of trusts have been around since the 1920s, but were sort of left behind by retirement plans when mutual funds grew in popularity.  Mutual funds had daily valuations, daily liquidity, and a range of different types of funds within a family, whereas collective investment trusts did not.  The laws have changed, so apparently there are daily valuations/liquidity on them, as well as standardized trading, fund families, etc.

Since they are designed only for certain types of retirement plans, they are set up from the beginning to be tax exempt, whereas stock mutual funds are not.  There is probably some small administrative cost associated with additional tax filing when mutual funds are included in retirement plans; this is MediumTex's area of expertise.

Why Use Collective Investment Trust Funds?
Like most other pooled investment vehicles, CITs are designed to streamline management and mitigate risk by combining assets from multiple accounts with similar investment objectives. The most obvious difference between CITs and mutual funds is how they are regulated. Mutual funds are regulated by the Securities and Exchange Commission (“SEC”?) under the Securities Act of 1940, whereas CITs are regulated by the OCC. As a result, CITs do not have the additional compliance costs associated with SEC-required disclosure and filings. Being exempt from the regulation also allows CITs to avoid the costs associated with other activities the SEC requires of mutual funds, such as board meetings, creating and delivering proxies, prospectuses, and Statements of Additional Information. In addition, mutual funds market to all investors and have broader distribution channels (e.g., retail investors, financial advisors, institutional investors) and therefore incur additional marketing and distribution costs. In contrast, CITs are only available to qualified plans and therefore have limited marketing and distribution needs and expenses. CITs are usually less expensive to create than mutual funds and in some cases CIT fees may be negotiable, especially for larger institutional investors. Investment expense is typically the largest expense of a 401(k) plan; thus, the lower investment expenses of CITs provide potentially considerable savings that can be passed on to plan fiduciaries and participants.

excerpted from
http://www.nagdca.org/content.cfm/id/co ... rust_funds

Since they're regulated by the Office of the Comptroller of the Currency instead of the SEC, I'd limit my investments to those that are tracking a common large cap or total market index, like S&P 500, instead of those that are "managed funds." (But we already knew that from HB and the PP books.)

As long as they're with a well-established bank, they should be as good to go as a mutual fund. 

A bit of history: 

The Bank of New York was founded by Alexander Hamilton (yes, THAT one) on June 9, 1784,  about a year after the Treaty of Paris was signed (recognizing the USA as an independent, sovereign nation), and about 5 years before the Constitution went into effect.

T. Mellon & Sons' Bank, was founded in Pittsburgh, Pennsylvania in 1869 by Thomas Mellon and his sons Andrew and Richard, during the American industrial revolution. 

BNY Mellon formed when the two financial firms merged in 2007.  The combined company specializes in wealth management and asset management (the Treasury Dept hired them as the master custodian for the TARP funds to handle its accounting and record-keeping).  The combined bank is more than 225 years old. 

While no bank is perfect, this one is definitely well-established.

[sophie]

If your other benefits are as lousy as the 401K, maybe you can convince your company to hire you as a consultant rather than a salaried employee?  Then you could set yourself up with a solo 401K or SEP-IRA and sidestep the whole 401K problem.

[foglifter]

Sophie and Ad Orientem,

Bad 401(k) is actually the only negative thing in my company, other than that I really enjoy working there. Great people, good health plans, generous vacation time, zero commute (working from home), very stable stress-free job. If it were even slightly less than that I wouldn't stay there.

But what you both said is absolutely right.

[foglifter]

Now that I cooled down I do see that the plan is not "catastrophically bad", just "bad".

AgAuMoney and smurff, thanks for your input, your posts and some extra reading about CITs that I did convinced me that I might decide to actually use the BNY Mellon fund - after I max out all the other "good" accounts (including taxable).

Thank you everyone for your help. 

[MediumTex]

Many 401(k) plans are filled with garbage funds.  It's really sad and I see it every day in my practice.

Almost any individual investor can get a better deal on an overall fund lineup by simply opening an account at Vanguard than many of these 401(k) plans have gotten that hold hundreds of millions of dollars.  It's very strange.

The problem is that many 401(k) plan decision makers are simply not sophisticated enough to see when they are getting screwed by a fund company.  Unfortunately, all vendors tend to take advantage of retirement plan sponsors in large and small ways and they are able to get away with it because many of these plan sponsors simply trust what these vendors tell them without getting second and third opinions/bids on everything they are told/offered.

[foglifter]

If your other benefits are as lousy as the 401K, maybe you can convince your company to hire you as a consultant rather than a salaried employee?  Then you could set yourself up with a solo 401K or SEP-IRA and sidestep the whole 401K problem.

As someone who is for all practical purposes self-employed, I think a good quality, subsidized company sponsored health plan beats a good quality 401k any day of the week. Unless your other benes really stink, employee status wins over consultant any day, IMHO.

Now if you could get your health insurance through your spouse, that might be another story.

All other benefits are quite good. And yesterday they announced that the company will pay for the long-term disability insurance - no cost for employees.

Should I just say "you can't have everything" and relax? 

[foglifter]

Many 401(k) plans are filled with garbage funds.  It's really sad and I see it every day in my practice.

Almost any individual investor can get a better deal on an overall fund lineup by simply opening an account at Vanguard than many of these 401(k) plans have gotten that hold hundreds of millions of dollars.  It's very strange.

The problem is that many 401(k) plan decision makers are simply not sophisticated enough to see when they are getting screwed by a fund company.  Unfortunately, all vendors tend to take advantage of retirement plan sponsors in large and small ways and they are able to get away with it because many of these plan sponsors simply trust what these vendors tell them without getting second and third opinions/bids on everything they are told/offered.

The whole issue with lousy 401(k) plans could be easily fixed by simply having the Congress change the IRS rules - for example, replace the separate 401(k) and IRA limits with one combined limit and let the people decide where to put their contributions. I guess bad 401(k)s would have quickly disappeared. But given the enormous army of well-paid lobbyists the Wall Street employs this will never happen.

I've talked to the management and recommended to "decouple" the 401(k) plan from the health plan benefits and find a good plan administrator with reasonable fees and decent investment options. I'm almost sure that with Obamacare in action small companies like ours will be in a state of constant search for more affordable health insurance (ours has changed providers 3 times over the last 4 years). I told them that 401(k) is not something you can easily move every couple years as it involves liquidation of investments and sitting in cash for weeks at a time.

In the meantime, several employees (including myself) decided not to put any new money into the plan. I hope this will be another push for the leadership to change things.

[foglifter]

Many 401(k) plans are filled with garbage funds.  It's really sad and I see it every day in my practice.

Almost any individual investor can get a better deal on an overall fund lineup by simply opening an account at Vanguard than many of these 401(k) plans have gotten that hold hundreds of millions of dollars.  It's very strange.

It's known that Vanguard doesn't pay a dime to any "funds supermarket" to list its funds as NTF funds. This must be the reason the "bad" 401(k) providers choose expensive active funds from American Funds and the likes over Vanguard - they must be getting compensation from the fund companies.

[MediumTex]

Many 401(k) plans are filled with garbage funds.  It's really sad and I see it every day in my practice.

Almost any individual investor can get a better deal on an overall fund lineup by simply opening an account at Vanguard than many of these 401(k) plans have gotten that hold hundreds of millions of dollars.  It's very strange.

It's known that Vanguard doesn't pay a dime to any "funds supermarket" to list its funds as NTF funds. This must be the reason the "bad" 401(k) providers choose expensive active funds from American Funds and the likes over Vanguard - they must be getting compensation from the fund companies.

For most 401(k) plan sponsors, it's actually more like a very slick salesman visiting them often.

The structure of 401(k) plans basically makes it impossible for plan sponsors to get anything like kickbacks, though the cost of plan administration itself is often paid by the company offering the funds, but this is a modest expense in relation to overall plan assets and everyone does it.

[moda0306]

Many 401(k) plans are filled with garbage funds.  It's really sad and I see it every day in my practice.

Almost any individual investor can get a better deal on an overall fund lineup by simply opening an account at Vanguard than many of these 401(k) plans have gotten that hold hundreds of millions of dollars.  It's very strange.

The problem is that many 401(k) plan decision makers are simply not sophisticated enough to see when they are getting screwed by a fund company.  Unfortunately, all vendors tend to take advantage of retirement plan sponsors in large and small ways and they are able to get away with it because many of these plan sponsors simply trust what these vendors tell them without getting second and third opinions/bids on everything they are told/offered.

The whole issue with lousy 401(k) plans could be easily fixed by simply having the Congress change the IRS rules - for example, replace the separate 401(k) and IRA limits with one combined limit and let the people decide where to put their contributions. I guess bad 401(k)s would have quickly disappeared. But given the enormous army of well-paid lobbyists the Wall Street employs this will never happen.

I've talked to the management and recommended to "decouple" the 401(k) plan from the health plan benefits and find a good plan administrator with reasonable fees and decent investment options. I'm almost sure that with Obamacare in action small companies like ours will be in a state of constant search for more affordable health insurance (ours has changed providers 3 times over the last 4 years). I told them that 401(k) is not something you can easily move every couple years as it involves liquidation of investments and sitting in cash for weeks at a time.

In the meantime, several employees (including myself) decided not to put any new money into the plan. I hope this will be another push for the leadership to change things.

Since most people only do employer match, I wonder if that would help all that much.