The mutual funds in your 401(k) didn’t get there by accident. Someone chose them. And the process that chose them had more to do with which fund companies pay to be included than most employees ever find out. Understanding how that works doesn’t require conspiracy thinking. It requires reading the fee disclosures your plan is legally required to provide, which most people never do.
What Revenue Sharing Actually Is
Revenue sharing is a payment made by a mutual fund company to the recordkeeper or administrator of a retirement plan, in exchange for being included in that plan’s investment menu. The payment is typically a percentage of assets invested in the fund, running through what the industry calls “12b-1 fees” or “sub-transfer agency fees.” These fees are embedded in the fund’s expense ratio. You pay them whether you know about them or not.
The mechanics work like this: a fund company wants access to the 401(k) plans administered by a given recordkeeper. It agrees to pay the recordkeeper a percentage of whatever participants invest in its funds. The recordkeeper has an incentive to include funds that pay higher revenue-sharing rates. The participant, who never chose the fund and may not know the arrangement exists, picks from a menu shaped by that incentive.
This is not illegal. Under ERISA, plan fiduciaries are required to ensure that fees are reasonable and that fund selection is prudent. Per FINRA, average total plan costs for a small 401(k) plan run around 1.3% of assets annually. But “required” and “actually done” are different things. And small business 401(k) plans, in particular, have historically had weaker fiduciary oversight than large corporate plans.
Why This Matters to Your Balance
One percent in annual fees on a $300,000 balance is $3,000 per year. Compounded over 20 years, the difference between a fund with a 0.10% expense ratio and one with 1.10% expense ratio is substantial. Per the SEC, fees compound against your balance just as returns compound in your favor. The fund that costs 1% more per year doesn’t just cost 1% more this year. It costs you the compounding on that 1% for every year the account runs.
A 401(k) participant in a small business plan who holds higher-cost funds for 25 years may give up a meaningful portion of their balance to fees they never explicitly agreed to pay and may never have known existed. The exact figure depends on the balance, the specific fund costs, and the time period. But the direction is always the same: higher expense ratios reduce ending balances, and the funds that tend to pay revenue sharing tend to carry higher expense ratios.
How to Find Out What Your 401(k) Is Actually Costing You
ERISA requires that your plan provide a 404(a)(5) participant fee disclosure annually. This document lists the investment-related fees for every fund in your plan, including expense ratios and any revenue-sharing payments. Most people receive it and either never open it or open it and stop reading before reaching the relevant tables.
Here’s what to look for:
Expense ratios by fund. Every fund in your menu should list its expense ratio. Compare these to index fund alternatives in the same asset class. An S&P 500 index fund should cost somewhere around 0.03% to 0.10%. If the large-cap fund in your 401(k) carries an expense ratio of 0.80% or higher, the difference is going somewhere. Find out where.
Revenue sharing disclosures. The 408(b)(2) disclosure your plan receives from its service providers is required to identify indirect compensation, including revenue sharing payments. Ask your plan administrator for this document. If the plan is paying for recordkeeping primarily through revenue sharing from high-fee funds rather than direct fees, that’s a structural conflict worth understanding.
Share class. The same fund often comes in multiple share classes with different expense ratios. An institutional share class of a fund may cost half what the retail share class costs. Large plans routinely negotiate institutional pricing. Many small plans don’t. If your 401(k) holds retail-class shares of a fund that offers cheaper institutional classes, that difference is a fee with no corresponding service.
What ERISA Actually Requires (and What That Means for You)
ERISA requires plan fiduciaries to act prudently and in the best interest of plan participants when selecting and monitoring investments. That includes understanding and monitoring fee levels. A fiduciary who allows the plan to pay excessive fees because it’s convenient, or because the recordkeeper arranged the menu, may have breached that duty.
The practical implication for employees: you’re not the fiduciary, but you have the right to information. If your plan’s investment menu is built primarily around high-fee actively managed funds with no low-cost index options, that’s worth raising with your HR or benefits department. Plans have been successfully sued under ERISA for excessive fees. The legal landscape has created real accountability for employers who don’t take the obligation seriously.
If you’re self-employed or run a small business and sponsor a retirement plan, the fiduciary obligation runs to you directly. The funds in your plan need to be prudently selected and monitored. That means knowing what they cost, why they’re there, and who is getting paid by having them there.
What You Can Do About It
If you’re an employee: read the fee disclosure you receive annually. Look up the expense ratios on every fund you’re invested in. If cheaper alternatives exist within the plan, consider switching. If the plan lacks low-cost index options, raise it with your employer.
If you’re a business owner: ask your plan’s recordkeeper to show you the revenue sharing payments associated with your current fund lineup. Request a comparison to equivalent funds with lower costs. Review whether your plan qualifies for institutional share classes.
The funds in your 401(k) were chosen by someone with a financial interest in the outcome. That doesn’t mean they’re bad funds. It means the selection process had an incentive that wasn’t aligned with yours. Knowing that is the first step to doing something about it.
Schedule a no-obligation call with Jeff to review your current 401(k) plan costs and whether better options exist.
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The information provided is for educational purposes only and should not be construed as investment advice. Investment strategies should be tailored to individual circumstances, risk tolerance, and goals. Past performance doesn’t guarantee future results. Consult with qualified financial professionals regarding your specific situation.
Securities offered through LPL Financial, Member FINRA/SIPC. Investment advice offered through Great Valley Advisor Group, a registered investment advisor and separate entity from LPL Financial.
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