Pressure keeps mounting for defined contribution (DC) plan sponsors to “get it right.” Much more is now at stake as the level of scrutiny, from both outside and within organizations, continues to grow.

• The shift from traditional defined benefit pension (DB) plans to DC plans continues unabated, with DC now the primary retirement vehicle for most of today’s working population (see the “US Retirement Plan Assets” chart) ¹ 
• Retirement plan offerings have risen to second place, behind base pay, in attracting and retaining talent. ² 
• In contrast to DB plans, DC plan participants bear most of the costs and risks for their retirement savings.
• The economic difficulties of the past decade have placed retirement strategies at risk. Organizations are just starting to assess the impact this may have on their workforce management strategies.
• The IRS considers 401(k) plan compliance a top priority.

Despite the growing importance of DC plans and the substantial challenges to effective management, budget constraints are forcing organizations to do more with less, in terms of personnel to manage their plans and funding to improve benefits. And, just as DC plans have become the dominant retirement vehicle, many participants are discovering that their accumulated savings may be inadequate to provide an affordable retirement at their targeted retirement age.

With both plan sponsors and participants hard pressed to increase contributions, it’s vitally important that DC plans derive the maximum benefit possible from the existing investment. This means that each of the following areas must work in tandem at top efficiency: savings behavior, investment behavior, investment performance, investment structure and diversification, asset preservation, fees and expenses, tax efficiency and spend down. Objective measures of plan effectiveness and skillful intervention are needed to achieve this high level of efficiency. Co-sourcing provides an effective means to meet the higher standards while addressing the organizational risks that DC plans present.

So what does co-sourcing mean? Under the co-sourcing model, the adviser plays an inside role, side by side with the plan sponsor, often acting as an extension of the sponsor’s staff. As insiders, advisers have access to details and background information that allow them to proactively identify problems and risks. In contrast, when the adviser holds a strictly consultative role:

• Critical information may be withheld, often because the plan sponsor does not realize its relevance
• The adviser may be brought into a situation after a major problem has already developed

Early involvement from an adviser can be critical. The adviser can help organizations avoid missteps and lower risk levels by applying cumulative experience gleaned from many different plans as well as from the resources of their organizations. An outside viewpoint is also critical to assessing situations objectively and identifying creative solutions. Depending on the engagement and the services provided, advisers can range from being co-fiduciaries helping with investment decisions to acting in a more traditional role under the control and direction of plan fiduciaries.

Areas Where Co-Sourcing Has Proven Especially Effective

Vendor Management

Including a plan adviser on recurring administrative conference calls, for example, can help ensure that the plan sponsor’s interests are supported. The adviser brings marketplace experience that can help the plan sponsor know when it’s appropriate to “push” its vendor and, just as important, when it’s not. Co-sourcing is also critical when engaging a new provider or updating an existing relationship. For example, small changes to contract documents can significantly affect outcomes in the wake of plan errors or litigation.

Change Management

Mergers, spin-offs, changes in benefit structure/administrator and turnover in benefits staff are all areas of potential risk. This includes risks associated with administrative or compliance errors as well as suboptimal change implementation. Another possibility is an adverse effect on employee morale and engagement should an error occur or as a result of lack of timely, accurate and accessible communication around the change.

Major changes can place considerable strain on in-house staff. An outside adviser’s ability to quickly provide resources can be critical to successful change outcomes. This is especially true when the adviser has an existing co-sourcing role and is already familiar with organizational structures, benefit structures and service providers.

We find that turnover in staff often happens concurrently. Should that occur, the adviser may be the only remaining party with in-depth institutional knowledge and background. This knowledge becomes extremely valuable, both in bringing incoming staff up to speed and in dealing with questions or benefit claims that relate to past administration.

A potential barrier to co-sourcing is the cost of hiring an outside adviser. For this reason, it’s important to adopt a flexible co-sourcing model that fits the organization’s need. It’s also useful to evaluate the cost of bringing an adviser on board compared with the expense of hiring additional staff, including recruitment, training and turnover. This evaluation should also take into account potential costs associated with various risk outcomes, such as correction of errors (both direct expenses and staff time), audit sanctions, litigation and intangible costs, such as employee engagement, reputational risks and the effect on external customers.

In an effort to reduce expenses, many organizations reduced their internal staff headcounts during the economic downturn. In this type of environment, co-sourcing often makes sense, as it can help reduce risk while maintaining a lean staffing model. The following chart illustrates how this model allows an organization to increase resources at critical junctures, as compared with constantly maintaining a higher staff level.

Co-sourcing Can Provide Increased Capacity and Capability at Key Times During the Year

As mentioned above, it’s important to adopt a co-sourcing model that matches organizational needs and preferences – co-sourcing is not an all-or-nothing decision. The sample plan management strategy chart, below, illustrates the options available to plan sponsors and fiduciaries in structuring service levels to best meet their needs.

Conclusion

Clearly, DC plans have risen dramatically in their importance, both to the organizations that sponsor them and to the individuals whose financial future depends on their success. The days when organizations could get by with less-than-optimal management and mediocre performance are gone. Delivering optimal outcomes in the midst of economic, marketplace and organizational change requires a true partnership with those who have specific expertise. The ultimate outcome is reduced risk for the organization and, more important, improved benefit delivery to DC plan participants.

 1  Investment Company Institute. The US Retirement Market, First Quarter 2011, June 2011

 2  Mercer’s 2011 What’s Working™ survey results

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