Brocker.Org: One of the biggest threats to your retirement savings is hiding right under your nose — and it’s not hard to fix

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What’s
that smell? It’s the sweet smell of saving hundreds of thousands
for retirement simply by reducing your 401(k)
fees.

Scott Gries/Getty
Images


• Half of Americans have no idea how much they pay in
fees for their 401(k). A 2015 study found that in 16% of 401(k)
plans, fees were so excessive they outweighed the tax
benefits.

• It can be difficult to figure out how much you’re
paying in fees, but there are tools available and red
flags watch out for.

Your employer is legally responsible for making sure
your plan is reasonable.

Saving for retirement isn’t all that complicated.
Save early
and
save consistently
, and make sure the money is invested
in the market
.

For most Americans, the easiest and most common way of achieving
this is the company 401(k) plan. But the ease of investing via
401(k) can also be a pitfall: A great many people
become complacent
, never checking under the hood of this
investment vehicle they’re sinking thousands of dollars into.

That’s unfortunate, because one of the most important steps you
can take for your retirement — one that could save you or cost
you tens if not hundreds of thousands of dollars — is ensuring
you’re not paying excessive fees on your 401(k) plan. 

“This is probably the biggest thing that’s affecting people’s
portfolios over a long period of time,” Michael Solari, a
certified financial planner with Solari Financial Management,
told Business Insider.

For many people, high fees are devastating to their 401(k)
savings.

A
2015 study of 3,500 401(k) plans by a Yale law professor

found that a “substantial portion” of plans had badly designed
investment options that offered employees high-fee funds. The
study found that “the problem of excess fees is sufficiently
severe that, in 16% of plans, young participants would do better
to forgo the tax benefits of 401(k) savings” and instead invest
on their own in an low-cost, outside retirement account. 

In other words: For some people, 401(k) fees are so
egregious that they outweigh any benefit of using a retirement
account instead of a standard investing account.

Yet many people have no idea their retirement savings
are being pillaged. A
2013 study by research firm LIMRA
found that half of 401(k)
plan participants didn’t know how much they paid in fees, while
22% mistakenly believed they paid no fees at all.

Solari routinely pushes his clients to seek out their 401(k) fees
and take proactive measures to lower them (more on that later).
That’s because even a few percentage points can make a staggering
difference. 

Not convinced? Take a look at these two charts, created
using a
Vanguard investment tool.

They show the same hypothetical $10,000 investment, earning a 6%
annual return. The only difference is cost.

The first pays a 2% fee, what you might find in an actively
managed fund, and costs 43% of the returns over the course
of 25 years.



Vanguard 401k 2 percent

Vanguard

 

The second pays a 0.5% fee, more in line with a passively managed
index fund, and only reduces the returns by 13% over the same
time period. Vanguard 401k half percentVanguard

That seemingly minuscule 1.5% fee difference translates into
$30,000 over 25 years. That’s enough for a
brand new Ford Mustang
, or a few
round-the-world plane tickets
. Whatever you’re into.

And that’s merely a $10,000 investment. If you’re not planning on
living on the streets as a geriatric, you’re investing many
thousands more than that. Here’s one more chart from Vanguard,
showing that as the size of the portfolio increases and the
spread on the fees increases, the amount of money you’re flushing
down the toilet grows exponentially as the years roll
on. 



Vanguard 401k fees


Vanguard

“A lot of people don’t really understand what the impact of maybe
a half a percent is on their retirement,” Solari said. “It’s
pretty shocking when you take a look at it over
time.”  

Figuring out your fees 

Knowing if you’re overpaying isn’t always straightforward. There
are a variety of fees you need to keep your eye on, but here are
the three main categories, according to
US Department of Labor’s 401(k) guide:

Plan administration fees. These are the
basic upkeep costs of operating your 401(k) — stuff like
recordkeeping, accounting, legal and trustee
services.” 

Individual service fees. Typically
related to a plan’s optional services or features that an
individual decides to take advantage of — like drawing a loan
from the plan. 

Investment fees. This is the big
one — where you’re most likely to see charges that eat into
your retirement savings. These are the expenses for managing
the particular assets your plan is invested in, as well
as sales and commissions. This is where you’ll typically see
the most variance among plan costs. 

One way of sussing out the fees you’re paying is to check
your plan’s prospectus
— which should lay out expenses associated with various
investment options, as well as the past investment performance.
However, these are not the most intuitive or user-friendly of
documents. 

“It takes some digging,” Solari said. “The prospectus is a
place to start, but some of these things are hundreds of pages
long.”

Your employer is required to provide you information on the
company 401(k) plan. You should receive a benefits booklet that’s
likely a little easier to navigate. If you don’t have it, just
ask. 

Additionally, instead of tossing it straight into the
recycling or in a pile to be forever forgotten, it’s worth
examining your year-end statements that come in the mail. These
are like a report card for your plan’s performance in a given
year, and they will reveal how much you’re earning, as well
as how much fees are eating into those earnings. 

If you want to quickly and easily assess the particular
investments your 401(k) is invested in, you can do that by
consulting Morningstar (or even
Google Finance). Plug in your investment, click on the expense
tab, and the investment fees should be laid out. 



morningstar_schwab_skitched_401k

Morningstar

Are you paying too much?

But how do you know whether you’re getting hosed? Every fraction
of a percent matters, so what’s reasonable?

It depends. 

First off, if you work for a small company, you’ll typically pay
more in fees than someone at a large company. There’s a cost to
running a 401(k) plan, and that cost is split among far fewer
people at small-town dental practice than at a Wall Street bank
with thousands of employees. You don’t have much control over
this, aside from getting a new job.

“It’s all about economies of scale when it comes to 401(k)s
and fees,” Solari said. If you’re in a small company, the
funds you’re invested in still shouldn’t have costs exceeding 1%,
he said, and in a large company you should be able to invest in
funds with fees below 0.5%.

The second and much more significant factor is whether your
investments are actively or passively managed. If you’ve got a
team of finance professionals researching, buying, and selling
investments for you, that’s going to cost more than investing in
a diversified, low-cost index fund that pretty much runs itself.
This you do have some control over.

This chart from Vanguard shows how actively managed fund
fees compare with those for passively managed investments like
index funds and ETFs.



Vanguard active vs passive

Vanguard


Most experts
— from Warren Buffett, to legendary Vanguard
founder Jack Bogle, to most any financial adviser worth their
salt — believe the average investor does best when sticking to
passively managed index funds and ETFs. 

“The fees for an active fund usually aren’t
justified,” Teresa
Ghilarducci
, a retirement-security expert and economics
professor at The New School, told Business Insider. “With
that information, the safest thing to do is make sure you’re in
an index fund.”

What you can do

Ghilarducci said most people shouldn’t even bother trying to
figure out their exact fees, as it can take a lot of effort and
ultimately the burden is on the employer to ensure the fees are
proper. She recommends keeping it simple: Make sure you’re not in
actively managed funds, and leave it at that.

“The strategy is to get you out of active, and into index,”
Ghilarducci said.

If you suspect your company is in actively managed funds or
is otherwise overpaying on its 401(k) plan, Solari recommends
meeting with your plan administrator and lobbying for changes.
That may seem intimidating, but Solari says you “don’t need a
crowd” — even just one person “can be enough to change the
plan itself.”

That’s because employers are
legally required
 to diligently manage their 401(k) plan
in the best interest of the participants, and that specifically
includes considering and monitoring fees. So the plan
administrator — whose name you can find in your benefits
booklet — “could be held liable if they’re not really
doing their obligation to seek out the best plans for the
employers,” according to Solari. 

Plan administrators frequently have leeway to negotiate lower
fees with investment advisers for the plan — and the advisers
aren’t likely to cut the fees themselves without some
encouragement.

“You have to be proactive about it because these advisers
are sitting on these accounts where they’re probably making
decent money,” said Solari, who has clients who have
successfully lobbied for lower fees. “If they’re making a lot of
money on it, they’re not necessarily going to be adamant about
changing a plan — unless the plan administrator is pushing
that conversation.” 

You don’t have to be an investment expert to start the
conversation. You can bolster your case with the aid of a simple
and free online tool that Solari recommends: BrightScope.

This website specializes in tracking and rating thousands of
401(k) plans, providing a 0 to 100 score on each. It also lets
you compare your company’s plan with others in its peer group,
which should give you a good idea if your company is
lagging. 

Armed with a little knowledge, you can perform a
tune-up on your retirement plan today — and potentially save your
future self thousands.

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