Are Hidden Fees In Your 401(K) Killing Your Retirement?
What if you could retire years earlier than you thought you could? What if there was a way to earn another $300,000 in your 401(k) without having to contribute a penny more than you already are? What if all of these things are true, only you don’t know it?
According to a report by AARP, 71 percent of Americans with 401(k)s mistakenly think that they’re not paying any fees. They exist even if you don’t look at them: administration fees, investment fees, and individual service fees. While it used to be that investors had no way of finding out just what fees they were paying, you don’t have to keep your head in the sand anymore.
Here is what you need to know about the hidden fees lurking in your 401(k) plan: what you’re being charged if it’s worth the price you’re paying, and how to negotiate a better deal.
THE HIDDEN FEES LURKING IN YOUR 401(K)
The 401(k) is a relatively young investment. Designed to encourage the new era of retirees to save by avoiding immediate taxes on a portion of their income, they came into being when Congress passed the Revenue Act of 1978. For the first 30 years, the industry was not required by law to tell investors what fees they were paying, and so a lot of people happily invested under the assumption that these plans were cheap or free, with minimal fees that could not be avoided.
With more than 52 million Americans relying on their 401(k), transparency about these fees has become vital. The U.S. Department of Labor in 2012 recognized the corrosive effect of these high fees as forcing many Americans to work longer than they needed to or planned, and so they passed a new law. Companies that administer 401(k) plans must now provide employees all the gritty details about all the little fees.
SO, WHAT ARE YOU ACTUALLY PAYING?
While the new rule has good intentions, becoming aware of these hidden fees and understanding what they mean is not something easy for the average investor to figure out. The fees look small, but they can have a big impact. You can find the mutual fund management and marketing fees (also called the expense ratio) buried in a 35 to 50-page disclosure. Good luck with that.
Your plan sponsor is supposed to use this information to analyze whether or not the fees in their plan are too high, and they will calculate an expense ratio that shows you the charges per $1,000 invested. These expense ratios have been found to range from .28 percent all the way up to 1.38 percent. Generally speaking, small-business employees are typically in plans with significantly higher fees. According to the Center for American Progress, plans with fewer than 100 participants have an average expense ratio of 1.32 percent.
IS IT WORTH THE PRICE?
Do higher fees mean that you are getting better investments? Probably not. Morningstar’s Director of Mutual Fund Research ran tests and found that low-cost mutual funds beat high-cost mutual funds, every time. Obviously, the more money you’re paying in fees, the less you have to live on during retirement. How much less? The effects of these little fees can be quite shocking.
Consider an investor who starts saving at the age of 25 with a salary of $75,000 a year. Assuming this worker retires at the age of 67, he or she would have paid just over $104,000 in fees at .25 percent, or just over $409,000 at 1.30 percent. That’s a difference of over $300,000. Experts say that cutting fees by just 1 percent can make your money last an additional 10 years in retirement. So how do you do that?
HOW TO NEGOTIATE A BETTER DEAL
Most people look only at the performance of their investment funds. Here’s the thing, though: fund performance changes; fees don’t. The Department of Labor says you want to identify the investment fees, plan administrative expenses, plan startup or conversion-related charges, and service provider termination charges.
The law requires that these fees charged be reasonable—defined as an expense ratio of 1 percent or less— rather than what is just permissible, so you will want to do some research in order to determine if you’re paying too much. Get a copy of your plan’s summary annual report from your benefits office. If you can’t decipher the report, go to your human resource department or employee benefits department and ask for a breakdown of the fees you are paying.
If you discover that your fees are high, a good place to start negotiations is with plan operating expense. The biggest plan expenses are recordkeeping fees and investment advisor fees. Lower admin fees may also lower the share classes used to pay the fees.
If you are ten or fewer years away from retirement, another solution to high fees might be to protect a portion of your retirement savings. Rolling money out of a 401(k) and into a type of deferred annuity, for example, can give you the promise of market-linked growth without the expense of mutual fund management fees, and you’ll get a guarantee that your principal will not lose money.
Figuring out your options in this area might also require the advice of a financial professional. If you’d like to get a second opinion about the best way to plan your retirement income, reach out to us and one of our experts will give you a call. We specialize in helping investors to pick the right planning tools, and as an independent company, our loyalty is to you, the consumer. We hope this article has been helpful and if you have questions, drop us a line!