Everybody loves a bargain. Some people will shop for days to save $10 on a pair of shoes. And yet when it comes to retirement-plan fees, not many people shop around or even know what they are paying.
A TD Ameritrade study showed that approximately 37% of people thought their 401(k) plan had no fees at all. They are wrong. Most people who do know they have fees have no idea how to find them or what they are, according to the study.
And while the numbers may look small, ignoring these expenses can be risky to your retirement because they can really add up over time.
A Government Accountability Office analysis provided a good example of why that is so. Let’s say two people each had $20,000 in a 401(k) and left it there 20 years with an annual average rate of return of 7 percent. One person paid a 1.5 percent annual fee and the other a 0.5 percent fee. Once those two decades passed, the person who he paid a 0.5 percent fee would have a balance of about $70,500. But the percent whose annual fee was 1.5 percent would have a balance of about $58,400.
That’s a significant difference.
Fees for 401(k) plans fall into two general categories: administrative (also known as “participation”) fees and investment fees. Most 401(k) plans charge administrative fees to cover the costs of items like record keeping, legal services, customer support and transaction processing.
401(k) plans also typically charge investment fees. These are fees charged by the investment funds you choose and are typically listed as “expense ratios” in the plan’s literature. These fees are expressed as a percentage of assets, and the average 401(k) costs approximately 1% of assets every year for all fees.
That means the average 401(k) participant will pay approximately $1,000 for every $100,000 in plan assets, but that can vary quite a bit depending on how large the 401(k) plan is (the big plans are typically cheaper and have the lowest fees).
If you are investing in a 401(k) plan, ask for a copy of your fee disclosure and look at the expense ratios on the mutual funds. The Center for Retirement Research at Boston College reports that, in recent years, the fees charged by actively managed mutual funds — including those in 401(k) plans — have dropped. Since 2015, the average fee dropped from 0.78 percent to 0.75 percent.
One option for people looking for lower administrative fees is index funds. However, there is no manager actively choosing investments for the fund on a day-to-day basis. They passively track the investments of a specific market index. For those who are paying a money-management firm to select investments, if the firm does a great job of providing consistent performance over time, then it may be worth the higher fees. The IRS permits investors to deduct certain expenses incurred on taxable investments, such as fees for investment counsel. If you find your 401(k) has high fees, ask your employer to look into it. Under federal law, employers have a fiduciary duty to offer reasonably priced options and to monitor the quality of the plan. Your managers may be receptive—after all, they probably have money in the plan, too.
Recent Department of Labor fiduciary rules have made it easier for investors to know what fees they are paying by requiring the disclosure of all fees and commissions.
In many cases, the more investors learn about fees, the more they start choosing investments that cost less. After all, it will save you a lot more money than what you may spend on a pair of shoes.
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