You Gotta Have a Plan


The late Senator Everett Dirksen is credited with the line, “A billion here, a billion there, and soon you’re talking about real money.” Financial planners might substitute “million” for “billion” to get an insight into the market for small group retirement plans.

By itself, a retirement plan sponsored by a small business or a professional practice might be modest, with $1 million or less in assets. By pursuing several plans, though, advisors may discover that “real money” is attainable.

According to tables published this year by the U.S. Department of Labor, assets of pension plans with fewer than 100 participants rose from $32 billion in 1975 to $526 billion in 2005, a 15-fold increase. Defined contribution plans (including profit-sharing and 401(k) plans) went from under $25 million to roughly $500 billion.

“Most small companies don’t have retirement plans,” says Dan Maul, president of Retirement Planning Associates in Kirkland, Wash. “Many of them will install plans in the future, so this could be a huge potential market for planners. Generally, large providers of retirement plans have not been active in this area.”

Small group plans can be indirectly profitable, too, if they provide leads to individual clients. Planners may find intangible rewards as well, as their staffers’ morale improves through helping people who might not be their typical clients.

Tracking Targets

Just as financial planning clients may be asked about their goals, so planners might start their pursuit of the small plan market by setting objectives. Is the small plan market attractive on its own, or is it a necessary adjunct to planning for certain clients?

“We work with small company plans as a service to clients who are business owners,” says Kathy Stepp of Stepp & Rothwell, a financial planning and investment advisory firm in Overland Park, Kan. “Our clients pay us an annual retainer for comprehensive planning. If they own a business, we will recommend types of retirement plans for their companies and the investments that might be offered. That’s part of our value-added service.” The plan itself is not a client, though.

Other advisors target small company plans as clients. They may set their sights on particular types of small companies.

“Last year, we began marketing our services to professional practices in our area,” says Cheryl Holland, president of Abacus Planning Group in Columbia, S.C. “So far, we have added six firms. We contacted these practices through people we know, but the principals of the firms have not been existing clients of ours.” Holland says her targets have been professional practices with existing retirement plans with at least $3 million in assets.

Chris Long, a financial planner in Chicago, focuses on another type of small plan: those of nonprofit organizations, especially social services agencies. “One of my clients is the executive director of such an agency,” he says, “and I helped her set up a plan for her organization. I liked working with this group and I realized the need was huge, so I’m starting to market in that area.” Long says he prefers to work with nonprofits, where a designated person (not the executive director) is in charge of finance and administration; generally, organizations with 25 or more employees will have such a specialist.

Making Connections

Long’s experience with a nonprofit’s executive director may be a typical example of how a planner can get started in the small plan market. A client who needs financial planning advice also desires help with setting up, reviewing or improving a company retirement plan.

A similar story is related by Dan Galli, a planner in Norwell, Mass. “I was a teacher before I went into financial planning,” he says, “so I started working with teachers. One teacher was married to a business owner, so I helped create a retirement plan for his company.”

Galli then went a step further: He signed up to teach courses about retirement planning, employee benefits and other subjects for the CFP program at Northeastern University and now teaches them for the Kaplan/Bisys/Boston University review for the CFP comprehensive examination. “In order to teach the courses, I had to study about the various types of retirement plans,” he says. “Teaching has given me credibility in this area. Now, I get referrals from CPAs, attorneys and insurance agents.”

Planners interested in the small plan market may get prospects by referrals, marketing or tapping their existing client base. Faced with these prospects, planners should have an idea of just how much of a role they want to play in small company retirement plans. Typically, doing it all is impractical.

“Planners eyeing this market should make good friends with a TPA,” Maul says, referring to third-party administrators. Such firms, or another retirement plan provider, can handle recordkeeping and help see that plans comply with regulatory requirements, which have become more onerous since the Pension Protection Act of 2006 (PPA), Maul notes. He says that planners may need at least one TPA to handle 401(k)s, plus another TPA for other types of plans, such as simplified employee pension (SEP) and savings incentive match plan for employees (SIMPLE) plans. Long points out that a TPA might supply a platform for choosing funds, handling recordkeeping, offering a website to participants, and performing tracking for nondiscrimination testing, an IRS provision that requires plans to offer substantive benefits for rank-and-file employees in order for the company to reap 401(k) tax benefits.

Ed Fulbright, a CPA and financial planner in Durham, N.C., says that he recently began seeking small plan business by working with The Online 401(k), a San Francisco-based company that provides web-based retirement plans for small companies. “The services are comprehensive and the fees are competitive,” he says. “We’re using The Online 401(k) for our own firm’s retirement plan. The next step is to focus on our current client base, including accounting clients, to see who would be interested.”

Choosing a Plan

Clients and prospects may be interested in sponsoring a retirement plan, but uncertain about choosing among all the available varieties. “Planners can help by discussing objectives with business owners and professionals,” says Galli. “Some plans are best for those individuals who want to maximize contributions for themselves, while others can work well for those who want to provide a real benefit to their employees.”

If enlarging the business owner’s nest egg is a prime concern, defined benefit plans (traditional pension plans) may be a good choice. “We have seen an upsurge in defined benefit plans in the past few years,” says Ron Paprocki, CEO of MEDIQUS Asset Advisors, Chicago. “We work with physicians, and they seem to be more interested in retiring, rather than working indefinitely, than they were in the past. Doctors may want to build up a large fund as quickly as possible, which you can do with a defined benefit (DB) plan.”

In a DB plan, a large fund is necessary in order to provide lifelong cash flow to pensioners. When a participant is a middle- aged, high-income professional or executive with relatively few years until his or her planned retirement, tax-deductible contributions can be impressive. “When you combine a defined benefit plan with a defined contribution plan,” Paprocki says, “a medical practice could put in $120,000, even $150,000, per partner physician this year.”

With a defined contribution plan alone, a highly compensated participant can put in as much as $51,000 this year, assuming he or she is at least age 50 by December 31-for younger folks, the $46,000 cap applies. The most common way to get to $46,000 or $51,000 is via a profit-sharing plan that includes a 401(k) provision. That way, rank-and-file employees can contribute to the plan.

“Aside from defined benefit plans, the small company plans we see are divided fairly evenly between 401(k)/profit-sharing combinations and SIMPLE IRAs,” Maul says. The maximum SIMPLE contribution this year is $23,500 to a high-earning employee, including a required employer match and the 50-plus catch-up. Thus, groups with participants who’d like a larger contribution this year may favor the profit-sharing/401(k).

For many companies, though, the SIMPLE IRA limits are sufficient. “SIMPLE IRAs may work well for companies such as restaurants, which have high turnover and low-paid employees,” says Maul. Employers may exclude from a SIMPLE IRA employees who are expected to earn less than $5,000 during the current calendar year and have not earned at least $5,000 in any of the preceding two years.

Joan Valenti, a planner with LPL Financial in Farmington, Conn., says she also likes one-person 401(k) and SEP plans for small groups. So-called solo-K plans are for groups composed only of owners and their spouses; in some cases, tax-deferred contributions may be greater than they would be with other types of plans.

“SEPs might be a good choice for companies in which most of the highly paid employees are owners and family members,” Valenti says. As the name suggests, a simplified employee pension (SEP) may require minimal paperwork, yet deductible contributions can go as high as $46,000 per participant in 2008.

Safety First

Although SEPs and SIMPLEs have their merits, 401(k) plans remain among the most popular (and perhaps the most familiar) retirement plans for small groups. In the PPA, Congress officially approved automatic enrollment for 401(k) plans. With an automatic plan, all eligible employees are enrolled in a company’s 401(k) plan unless they opt out. Typically, a certain portion of their pay-often 3%-is listed as a default contribution, while many employers offer a 25% or 50% match as a sweetener. Employees can increase or decrease their contribution or leave the 401(k) plan altogether. “Almost no one makes a negative election to opt out of automatic enrollment,” Long says. Thus, overall participation may be increased dramatically.

Planners have mixed reactions to putting a 401(k) on automatic. “I think you can make the case for automatic enrollment, based on the likelihood of individuals who would typically not participate being pulled into the plan,” says Diahann Lassus of Lassus Wherley, a wealth management firm in New Providence, N.J. “The con side is that the small percentage of pay typically used in automatic plans doesn’t provide the level of savings that most folks really need. It’s good to get more people into the saving mode but we need to encourage those who do save to increase the percentage of saving.”

Damon Dyas, a planner with Ameriprise Financial Services in Southfield, Mich., points out another potential flaw. “The employer may still need to go through testing of the plan,” he says. That is, unless enough of the rank and file contribute enough of their pay to the plan, key executives may be limited in the amount they contribute. Automatic enrollment might help the plan pass the required tests so highly compensated executives can maximize their contribution, but that’s not automatically the case.

While automatic enrollment has pros and cons, another 401(k) feature enjoys more widespread acceptance. “Safe harbor is almost always included in 401(k) plans for small groups,” Maul says. A safe harbor 401(k) meets IRS requirements through employer contributions or matches plus other features, and therefore does not have to undergo discrimination testing. As a result, highly compensated participants can maximize contributions, regardless of what the rest of the staff does.

Whether an employer wants automatic enrollment or safe harbor (or both or neither) features for a 401(k), another relatively new option is available: “A Roth 401(k) can add value,” Stepp says. “It’s the only way that some upper-income people can have a Roth account now.”

Roth IRAs and Roth 401(k)s accept after-tax contributions and promise completely tax-free distributions in the future. Roth IRAs have income limits that won’t disappear until 2010, when any IRA will be convertible to a Roth IRA if the client pays the deferred income tax. There are no income limits for participants who want to contribute to a Roth 401(k) in 2008, and contributions can range up to $20,500.

No matter what features are added to or excluded from a 401(k) plan, the issue of an employer match should be addressed. “I encourage a match,” Long says. “I believe that it’s better to match 25 cents or even 10 cents on the dollar, for 6% of pay, than to match 100% of 1% of pay. Extending the match gives employees an incentive to save more.” While some employers will like the idea of motivating employees to save, others may need to be convinced that a match will pay off in recruiting workers or improving retention.

Investment Insights

Planners might not have to be experts in retirement plan design, although a certain knowledge is helpful in seeing that a plan fits a particular group. On the other hand, advisors generally are expected to play a key role in determining the investment options within the plan.

A planner can make his or her expertise apparent, beginning with the initial discussion. “Many employers are not aware of the breadth of issues involved in sponsoring a retirement plan,” says Long. “I help them by preparing an investment policy statement, which most small plans don’t have. Such a statement can spell out a plan’s reporting requirements, for example, as well as its intent to offer multiple asset classes and its aim to have investments with reasonable fees.”

If a plan is “pooled,” meaning that common investments are chosen for all participants, the planner can help make the choices. Alternatively, retirement plans may call for participants to select from a list of investments. “A law firm might have 15 partners, all of whom want to self-direct their accounts,” Holland says. Here, a financial advisor can help decide what options will appear on the menu.

“I prefer passive investments,” says Christopher Van Slyke, managing director of Capital Financial Advisors, a financial advisory firm in La Jolla, Calif. “Most active managers don’t beat the market averages, so it’s difficult to justify the extra costs. Over a long time period, low-expense investments have a substantial advantage.”

Long says small firms often have steep expenses in their 401(k) plans and thus chooses low-cost index funds for clients’ plans. “They are unaware that high costs might reduce an employee’s retirement savings by 20% to 40% over a career.”

As might be expected, other advisors favor including a few actively managed investment choices. Galli says that his preference is to provide participants with the opportunity to choose among various strategies or to mix and match. “If possible, I like to see a plan have several index funds and some good actively managed funds. There can be some target-date funds as well.”

Target-date funds rebalance automatically and are designed to grow more conservative (fewer stocks, more bonds) as a specific retirement year approaches. “They may be good for participants who want a really hands-off approach to investing,” Galli says. Target-date funds have been approved by the U.S. Department of Labor as a default option in automatic enrollment plans. Backed by this federal seal of approval, they are increasingly found in small group plans.


Some planners may be content to devise investment strategies for small group plans and monitor performance. “Other advisors also get involved in educating the participants about their investment choices,” says Holland. “Before the Pension Protection Act became law, we had limits on what we could say. Now we can come up with choices.”

Holland says her firm’s effort to attract professional practice retirement plans includes holding one-hour group meetings to explain the plan and half-hour meetings with individual employees. “We are comprehensive planners, so we get into issues beyond the plan investments,” she says. Valenti and her associates frequently handle participants’ questions about the tax savings that stem from 401(k) contributions.

According to Holland, it’s too soon to tell whether her firm’s small plan initiative will pay off financially. But some positive results are already apparent. “These meetings have energized our staff,” she says. “They’re excited to be branching out, working with people who might not ordinarily be financial planning clients. That’s especially true for the younger people at our firm, who may be advising workers their own age.”

But the profit and business growth potential is always there. Highly paid executives may become personal financial planning clients. What’s more, opportunities among the rank and file shouldn’t be ignored, according to Galli. “An employee might have a high-earning spouse,” he says, “or there may be someone who inherited money.” Helping participants with retirement plan investments might lead to more lucrative engagements.

Indeed, Valenti counts a dozen small group plans among her clients. “Over the years, I have gotten at least 100 individual clients through these plans. Together, those clients and the retirement plans now account for about 25% of my practice.”

Planned Payoff

Small group plan start-ups may not be profitable for advisors. “You’re working with a lot of small deposits,” Valenti says. “They can become profitable once they get up to about $500,000 in assets. If you take over an existing plan that size, you may make money right away.” Whether or not the plan itself is a moneymaker, planners can benefit if their work benefits existing clients or helps to attract new ones.

Many planners charge a fee that’s a percentage of the assets in the plan. Others may receive commissions for products. Long takes a third approach: “I charge a flat fee, plus a fee that’s based on the number of employees in the plan,” he says. His fee for a $1 million plan with 50 employees might range from $7,000 to $12,000 a year, depending on the services he provides.

“As you add more small retirement plans, the more profitable this business can be,” Long continues. “There are more similarities between small retirement plans than between individual client situations, so you can automate some of the things you do and rely on your staff to execute. You’ll benefit from economies of scale.”

What’s more, the prospects for growth are bright. “Business owners and professionals are more responsive now than in past,” Valenti says. “They know they’re responsible for their own retirement; they’re not counting as much on Social Security.” The PPA may help planners build this business. “Many people, including employers and their attorneys, have become more aware of fiduciary issues since the act was passed,” says Van Slyke. “Small companies want to work with a real advisor instead of a salesperson. Indeed, carefully executed retirement plans can help planners find big profits in small places.


Source by Donald Jay Korn

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