When popular robo-advisor Betterment created Betterment for Business, which it called “the best 401(k) for employers and employees,” the company addressed several important problems. These problems have created a confusing landscape for small employers who want to treat their employees fairly and employees who want to save for retirement as efficiently and inexpensively as possible. (For more, see How Does Betterment Work and Make Money?)
Cost And Complication
In a nutshell, 401(k) plans are complicated and costly for both employers and their employees. Ongoing administrative costs and myriad confusing fees make plowing through the 401(k) landscape complicated and costly – especially when third-party administrators and even minimal employee guidance are added. Sadly, that’s not all.
In addition, compliance with numerous regulations, most of which is also done by third-party administrators, adds even more to the cost of many 401(k) plans. Historically, as the 401(k) market developed – along with all those regulations and compliance issues – employers found they could bid for record keepers, investment managers and other necessary third-party services as needed. This created a huge (and expensive) third-party marketplace with many moving parts. All of these parts needed to coordinate with each other while adjusting to an ever-changing landscape of regulations.
Employer and Employee Choices
These problems have left employers, especially small employers, with some difficult decisions to make. When setting up a 401(k) plan, employers often have to decide between paying those costs and passing them along to employees. Most employers consider a 401(k) plan an optional employee benefit; therefore, they try to minimize their costs.
Employees, on the other hand, see a 401(k) plan as a necessity. The net result is that employees, especially at smaller companies, often pay outrageous fees since the total assets of their employer’s plan are so low that charges are higher from the onset. (For more, see My Employer Doesn't Offer a 401(k). Should I Care?)
One way to maintain efficiency, cut costs and provide appropriate investment advice while remaining compliant with complex rules and regulations is through automation. Betterment decided to achieve automation through the use of algorithms. The algorithms allow Betterment to automatically build and manage customized portfolios within a regulation-compliant 401(k) structure. Importantly, algorithms, unlike humans, do not have to be paid, resulting in lower ongoing costs. (For more, see Robo-Advisors' Next Frontier: 401(k) Plans.)
Built From Scratch
To help simplify administration and regulatory compliance, Betterment built its own system from the ground up. Allowing the investment sectors to talk to the record-keeping sectors reduces costs and makes overall administration much simpler. Furthermore, Betterment says it will provide workers with individual account management. The company noted that most 401(k) plans that offer “managed accounts” do so for an additional fee; This will not be the case with Betterment.
Small employers will pay 0.60% of plan assets, plus the cost of the actual investments – about 0.1% on average. Companies with assets below $1 million also pay a $1,500 annual fee. Fees decrease as assets grow.
Most importantly, costs are all-inclusive. The cost for a customized, automatically managed portfolio along with all administrative work – normally done by third-party administrators – is all part of the deal. Although Betterment for Business will be cheaper than most 401(k) plans, the smaller the employer, the higher the percentage of assets charged will be. This is similar to the way fees are calculated for existing 401(k) plans with the difference being the fact that Betterment’s overall fees will be lower.
For employers and employees who opt for a robo-advised 401(k) plan offered by Betterment or a competitor, some choices will be limited. Betterment’s total package, including money management, for example, is not an option. Workers will be able to adjust underlying assumptions of the plan designed for them but cannot completely design their own portfolio. In other words, investment options will have some limitations and both employers and employees will pay for “advice” whether they want it or not.
The Bottom Line
With roughly half of all working Americans lacking access to an employer-sponsored 401(k) plan, the opportunity for companies such as Betterment is enormous. According to the Investment Company Institute and the Employee Benefit Research Institute, American workers have almost $5 trillion invested in 401(k) and similar defined contribution plans. This includes the more than 50 million workers who now participate in 401(k)s.
Employers that currently do not offer their employees a company-sponsored 401(k) plan may want to consider looking into Betterment for Business. Betterment will begin offering its 401(k) plans to smaller businesses at the beginning of 2016.