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Four reasons why your 401(k) may be a giant rip-off

  • Fees on small plans exceed 1 percent.
  • Plans with under $10 million in assets pay the highest fees.

Your retirement plan is making someone rich — and it may not be you.

Those were the findings from a recent study of small-business retirement plans.

America's Best 401k, a Scottsdale, Arizona-based firm that works with retirement plans, looked at 401(k) fee disclosures for 11 insurers and payroll companies that specialize in small businesses, generally plans with fewer than $10 million in assets.

The analysis showed that these plans, on average, charge 1.19 percent to 1.95 percent.

That amount is higher than the average total cost for all 401(k) plans, which was 0.97 percent in 2014, according to data from the Investment Company Institute and Brightscope, another company that tracks 401(k) programs.

"The backbone of America is small business — this is where people are continuing to get hosed," said Josh Robbins, chief strategy officer for America's Best 401k.

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Fee disclosure regulations from the Labor Department, along with high-profile lawsuits against employers with too-costly retirement plans, have helped push down expenses for retirement plans overall.

However, small businesses generally don't have the same bargaining power as employers with large retirement plans. In 2014, plans with less than $10 million in assets cost 1.02 percent, while plans with over $1 billion in assets cost 0.30 percent, according to the ICI and Brightscope.

Here are four reasons why 401(k) plans for small businesses are so expensive.

Revenue sharing

The investments in your plan use "revenue sharing" to cover costs for the broker who sold your employer the plan — known as 12b-1 fees.

Revenue sharing also compensates the companies that administer your 401(k), hold your assets in custody and provide recordkeeping services.

Those additional expenses take their toll over time, taking a bite out of returns the plan would otherwise be earning.

See below for a chart showing how a plan with $2 million in assets, plus annual contributions of $250,000 and annualized performance of 7 percent would fare with fees at 1.7 percent. (Click to enlarge.)

Contract asset charges

Some plans offers group variable annuities to participants, so you may see what's known as a contract asset charge. This is an expense that insurance companies assess on participants' accounts to cover administrative and record keeping services.

In this case, it doesn't matter if the underlying mutual funds you choose are among the cheapest in the plan; you will still be on the hook for this contract asset charge.

"I can be a smart participant and pick the funds that are low cost," said Robbins. "But the contract asset charge is always behind it."

Surrender fees

The other downside of annuity contracts: surrender charges, which can be as high as 8 percent and which decrease over a period of years.

Workers rolling assets out of annuities may end up paying surrender fees if they transfer the whole balance out of the plan at once. Instead, they'll have to move the money piecemeal, as it comes out of the surrender period.

Share classes

Pay attention to the share class of the mutual fund in your retirement plan. A, B, and C shares include "sales charges," which compensate the broker who sold your company the retirement plan.

Fund families have developed institutional share classes just for retirement plans, which offer the lowest costs for employers who can pool large amounts of assets.

If your plan is too costly

Here are steps to take if your retirement plan costs are out of control.

  1. Save outside the plan: If you're young, take advantage of saving in a Roth IRA. You have to pay income taxes now on the money you put into that account, but you'll be able to tap your savings tax-free in retirement. "If you're putting in $4,000 to $5,000 a year, don't buy this crappy variable annuity [at work], put your money in a Roth IRA," said Anthony Isola, a financial advisor at Ritholtz Wealth Management in New York.
  2. Air your grievances: Make noise if the 401(k) fees are too high. "Talk to your employer to improve the plan," said Guglielmetti. "That's how things change."
  3. Get the match: Contribute the minimum you need in order to qualify for your employer's matching contribution. "Don't give up the match just because the plan is expensive and the choices aren't good," said Cristina Guglielmetti, a financial advisor with Future Perfect Planning in Brooklyn, New York.

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