As small businesses take steps to develop 401(k) retirement plans for their workers, some community banks are considering becoming plan providers a role more normally associated with insurance and mutual fund companies.

If they do not, they reason, their small-business customers will turn to other institutions, potentially taking traditional banking relationships with them.

"In today's environment, you'd like to be in a position where you provide all the financial services that a business might need," said Russell T. Pinto, a senior vice president at Pioneer Citizens Bank in Reno, Nev. "It's just another arrow in our quiver, so to speak."

That is why banks thinking about offering 401(k) services to small business customers might be wise to take stock of some of the examples contained in this report.

But venturing into the retirement-plan business is no easy task. Small banks tend to have limited resources to provide and promote the 401(k) business. In addition, the small-plan market, which large banks have wisely often shied away from, is a labor-intensive, volume game. It takes more work to run 10 plans with 10 employees than it does for one plan with 100 workers, and labor can account for as much as 50% of a bank's costs.

Offering a bundled 401(k) product can be prohibitively expensive for community banks, though there are so many variables that it is hard to pinpoint exact costs.

Every plan, for example, needs an underlying investment vehicle, a record keeper to track balances in the plan, an administrator to take charge of compliance and reporting requirements, a trustee, and a transfer agent to prepare and maintain records relating to shareholder accounts.

There is also a sales and marketing component, as well as education for participants.

Many small banks have found that the only way to make money is to outsource some or all of the parts. Indeed, many banks that have tried providing all the services in house have either dropped out of the business altogether or scaled back.

To be sure, outsourcing has its downsides.

Profit margins are already slim at the small end of the marketplace. And banks that do not offer their own investments, for example, have to settle for only a sliver of the most lucrative aspect of the business. Furthermore, banks that farm out record keeping and administration lose control over price and quality.

Nonetheless, outsourcing is the most viable way for a community bank to make money in the 401(k) business, observers say.

"The hardest thing for the bank to do would be to try and come up with a 401(k) product of their own, especially if they don't have some kind of asset management capability," says Catherine S. McBreen, who heads the retirement consulting business for Spectrem Group of San Francisco.

Take Irwin Union Bank and Trust Co. in Columbus, Ind. The $1.19 billion-asset bank used to provide only its own investments, as well as record keeping and administration but decided to outsource in 1997, after seriously considering getting out of the business entirely.

"In order to be more profitable, the decision was made to outsource. That was a very good decision." says Timothy P. Robinson, vice president and trust department manager.

Irwin Union uses mutual funds from SEI Investments Co. of Oaks, Pa. In return, the bank is paid 100 basis points of assets under management. The record keeping and administration are provided by McCready & Keene Inc. of Indianapolis for plans where balances are determined daily. For plans that are valued less frequently, Irwin Union turns to a handful of local accounting firms.

Outsourcing has not been problem-free, however. Irwin Union has had to switch record keepers twice in the past two years because its previous providers exited the business. That has weighed on business development, Mr. Robinson says, adding that the bank has lofty goals for the future.

First National Bank in DeKalb, Ill., is slowly moving its record keeping and administration capabilities to Federated Investors of Pittsburgh. Like most small banks, First National Bank cannot afford to build the technologically advanced infrastructure required to determine plan balances daily.

"There's no way we're going to spend a half million or a million bucks on a telephone system and the software when we don't even make that in a year," says Angela Duffy Smith, vice president and trust officer of the $225 million-asset bank.

Federated bills First National about $2,500 per plan for record keeping and pays the bank a servicing fee of 25 to 100 basis points of assets under management. The bank then bills the customer, tacking on a trustee fee in cases where its expenses outweigh the servicing fee, Ms. Duffy Smith says.

First National can choose from a menu of Federated's mutual funds, though at some point funds from other companies will also be available, Ms. Duffy Smith says.

First National continues to provide record keeping and administration for plans that require less frequent valuation, including startups.

Some banks want to outsource without the responsibility of assembling all the pieces. Pioneer Citizens, for example, works with Plan Member Services in Santa Barbara, Calif.

Plan Member Services offers a turnkey package for banks with record keeping and administration, sales and marketing, and investments from seven mutual fund companies.

Several mutual fund companies provide small banks with a bundled product, but they often require that their funds be used exclusively until the plan reaches a certain size. Massachusetts Financial Services, for example, requires the plan to accrue about $10 million of assets, says Michael D. Fitzgerald, who heads the Boston-based fund company's trust group.

Under the Plan Member Services arrangement, Pioneer Citizens serves as trustee and charges 35 to 75 basis points, depending on the plan, says Mr. Pinto, the division manager.

The bank has been working with Plan Member Services for about a year and provides a 401(k) product to a handful of companies.

The downside is that trustee fees alone may not bring in much revenue for the bank, said Eric Speer, principal at Tillinghast-Towers Perrin, a New York consulting firm.

"If I were a bank and looking at this business, I'd want to figure out a way to get some cut of the assets under management and a broker or distribution fee," he says.

Another option for small banks is to court 401(k) potentials through their brokerage unit. That offers banks the ability to choose products from any mutual fund or insurance providers that the broker does business with. They also do not have to invest in expensive computers and software.

"It just doesn't make sense to reinvent the wheel," says David Hayes, president of Security Bank in Dyersburg, Tenn., which does not have a trust department.

The $132 million-asset bank has been offering 401(k) services from Massachusetts Financial for a little more than a year and has six small-business clients between it and an affiliate bank.

The downside is that brokers are typically not dedicated only to selling 401(k) products. Security Bank, for example, has only two licensed brokers, one of whom is part-time, and neither is dedicated to 401(k) sales.

"There's probably more business out there if we were willing to dedicate more staff," Mr. Hayes says.

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