What Determines 401(k) Plan Fees? A Dynamic Model of Transaction Costs and Markups
Using data from a near-universe of 401(k) plans, I document a large dispersion in 401(k) plan fees across employers. An employer at the 90th percentile offers a plan that charges employee participants over 70 basis points higher fees than an employer at the 10th percentile. This fee dispersion has sparked recent lawsuits, with participants using instances of high fees to accuse their employers of violating their fiduciary duties. I demonstrate that much of this dispersion is a natural outcome in a negotiated-price market with transaction costs and heterogeneous services. Therefore, the variation in fees may not necessarily suggest that employers violate their fiduciary duties. Using a structural model that combines employers’ provider choices and providers’ dynamic fee competition, I estimate that differences in markups between employers explain 26% of the fee dispersion. I also find that a modest level of transaction costs is optimal for lowering plan fees due to providers’ dynamic incentives. While eliminating transaction costs decreases fees by 4%, modest transaction costs result in a larger fee reduction of 9%.