Pay special attention to the new disclosure box when you open your year-end, 401 (K) statements. That’s where you will discover for the first time just how much you are paying for the privilege of investing in those company-sponsored menus of mutual funds. You may be in for a surprise.
More than 70% of all 401 (K) participants fail to realize that they are paying fees for investing in these tax-deferred retirement plans, according to an AARP study. I have to agree. Over the years, I have met with many prospective clients who had not rolled their 401 (K) over to an IRA once they retired. They were under the impression that keeping their savings plan with their company offered a fee-free benefit for life. Nothing could be further from the truth.
The Department of Labor, after many delays and postponements, has finally forced employers, advisers and fund companies to own up to just how much they have been charging you, the employee, for this fringe benefit. Long-time readers may recall my past columns concerning the battle to prevent these fees from becoming public knowledge. Wall Street has lost that battle but probably not the war.
The problem, you see, is that consumers may simply fail to comprehend the long-term impact of these fees on their retirement savings. Let’s say you open your statement and discover that you are paying a $100 in expense ratios (fees), per mutual fund each year. That may not mean much when the overall worth of the account is $10,000. What you fail to understand is that over the life of contributing part of your paycheck towards retirement—20 or 30 years—those fees will add up.
Demos, a policy research firm, recently released a study which revealed that a two-income family, earning average wages, will lose $155,000 or about 30% over the life of their savings plan, to these Wall Street fees. That is in line with most independent studies on the subject which indicate you will pay one-third of your retirement savings in fees.
Wall Street defends its fees and has released its own studies that show the average investor pays less than $248 a year in 401 (K) fees and no more than $20,000 during the life of the plan. Even if they are right, given that the average 401 (K) in this country is around $75,000, that still results in over 26% of the plan consumed by fees.
So what can you, the employee, do about it? Your first reaction may be to stop investing in your 401 (K). That would be a big mistake. These deferred savings plans have at least two major benefits over an IRA. The employers’ “match” whereby your company contributes dollar for dollar up to a certain percentage of your own contribution is free money and worth any contribution you make.
Second, the government allows you, the employee, to contribute much more to a 401 (K) than to an IRA. This year employees can contribute $17,500 to their 401 (K) plans and, for those over 50 years of age, an additional $5,500 can be contributed. That compares to just $5,500 (or $6,500 for those over 50) in contributions to a traditional IRA.
However, you can cut down on the fees by urging your company representative to select mutual fund families with the lowest fees possible. That’s what I do every day for my clients. Better yet, tell the company to abandon mutual funds altogether and invest in exchange traded funds (ETFs) instead. Some 401(K) plans already offer ETFs. These index funds are much cheaper than their high-priced cousins and outperform comparable mutual funds over 80% of the time.
Remember, too, that you are managing your own 401 (K). That puts the onus on you to decide what investments to make and when to move to the sidelines. That’s tough to do when few of us have the professional knowledge to cope with today’s markets. Part of my job is to advise my non-retirement clients on how to invest those savings and when. It is also one of the reasons I write these columns. Hopefully, it gives you, the reader, some advice on how to manage your retirement savings.
Finally, if you are retiring soon, my advice is to plan to roll over your 401 (K) savings into a traditional IRA. You likely will enjoy a cost savings of as much as 1-2% annually. You will also be able to expand your investment choices from the limited menu your company plans offers. If you need advice on how to accomplish that give me a call. It is much easier to do than you might think.
Bottom line: the new fee disclosures is a giant step forward for you the consumer but now that you know how much you are paying, it is up to you to do something about it.