06/12/2012 07:00 pm ET Updated Aug 12, 2012

A Proposal to Fix the Broken 401(k) Plan System

In my blog last week, I suggested abolishing 401(k) plans. They simply are not working for American employees. David Callahan, a Senior Fellow at Demos, wrote an excellent blog which set forth additional reasons why the 401(k) has been "a flop."

Identifying the problem is easy. Fixing it is not. The securities industry has a vested interest in continuing the current system. It generates unconscionable and little understood fees for them. Recent regulations by the Department of Labor requiring more transparency in fee disclosures will put a band-aid on a massive hemorrhage. Now, instead of just suspecting they are getting ripped off, employees who take the time to read these disclosures can confirm this fact. We need to cure the disease and not just identify the symptoms.

Here's my first recommendation for an alternative to the present conflict-laden and ineffective system: Give all employees access to the same plan enjoyed by members of Congress.

The Thrift Savings Plan is currently available to federal employees, including members of the military. It is a defined contribution plan administered by the Federal Retirement Thrift Investment Board, which is an independent government agency. The Board is required to manage the plan "prudently and solely in the interest of the participants and their beneficiaries." So is your plan administrator. The difference is that this Board complies with the letter and spirit of its obligations.

What's so great about this plan?

  • It's big. It has $294 billion under management.
  • It uses its size to reduce fees. The 2011 expense ratio (management fees charged by the funds in the plan) is a ridiculously low .025 percent. To put this in context, the asset-weighted average expense ratio paid by investors in 401(k) plan stock funds was 0.71 percent in 2010.
  • It only has five funds, plus Lifecycle funds geared to different projected retirement dates. All of the investment options are index funds.

This combination of extremely low costs, limited fund options and all-index based fund choices contrasts sharply with most 401(k) plans in existence today. They typically have high costs, many fund options and mostly actively managed funds, where the fund manager attempts to beat a designated benchmark -- often without success.

The Thrift Savings Plan has been justifiably called "the best 401(k) retirement plan in the country". Respected financial columnist Jane Bryant Quinn said it is a "perfect" 401(k) Plan.

Government employees understand the value of their plan. The participation rate is typically above 80 percent.

I do not believe the 401(k) system can be reformed. The securities lobby is too powerful. Why not take something that is already working and expand it by offering it as an option to all employees? No one would be mandated to participate in it, but many would because of its obvious benefits. Every dollar that flows out of private plans and into this type of plan is likely to benefit participants and give them a shot at retirement with dignity.

That's more than most of them have with their current plans.

Dan Solin is a senior vice president of Index Funds Advisors. He is the New York Times bestselling author of The Smartest Investment Book You'll Ever Read, The Smartest 401(k) Book You'll Ever Read, The Smartest Retirement Book You'll Ever Read, and The Smartest Portfolio You'll Ever Own. His new book is The Smartest Money Book You'll Ever Read. The views set forth in this blog are the opinions of the author alone and may not represent the views of any firm or entity with whom he is affiliated. The data, information, and content on this blog are for information, education, and non-commercial purposes only. Returns from index funds do not represent the performance of any investment advisory firm. The information on this blog does not involve the rendering of personalized investment advice and is limited to the dissemination of opinions on investing. No reader should construe these opinions as an offer of advisory services. Readers who require investment advice should retain the services of a competent investment professional. The information on this blog is not an offer to buy or sell, or a solicitation of any offer to buy or sell any securities or class of securities mentioned herein. Furthermore, the information on this blog should not be construed as an offer of advisory services. Please note that the author does not recommend specific securities nor is he responsible for comments made by persons posting on this blog.