The stock market isn't the only thing that can shrink your retirement funds. From advisory fees to trading costs, the fees siphoned from your retirement account could add up to 3 percent, and even 5 percent of your account assets annually, says Daniel Solin, author of "The Smartest 401(k) Book You'll Ever Read." For investors, these seemingly modest fees add up to big bucks.
Just a 1 percentage point difference in fees can dramatically reduce the size of your nest egg over time. For example, a worker who saves $5,000 a year for 35 years and earns an annualized 8 percent return net of fees would end up with $861,584 -- versus $691,184 for someone who earns 7 percent after fees. That amounts to a 25 percent reduction in wealth for the worker with higher fees. While Congress is currently considering legislation that would require greater fee disclosure and the inclusion of a low-cost index fund option in a 401(k) plan, right now most plan holders have to dig deeply to find out how much they're forking over -- and they still may not know despite their due diligence.
To make sure your plan pays off, take these steps to try reducing or eliminating five of these fees.
The Investment Company Institute, a Washington D.C.-based nonprofit that represents the mutual fund industry, reports that three fees comprise approximately three-quarters of the total expenses in 401(k) plans: administrative, investment management and distribution fees.
Also known as account maintenance charges, administrative fees pay bookkeepers, trustees and legal advisers that keep your account running. While almost every major type of retirement vehicle (including IRAs) comes with some plan administration fee, Mike Alfred, co-founder of the retirement plan rating company BrightScope, says savers rarely know how much they're paying.
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"If a plan is outside a 401(k), you can usually see what fees you're paying," says Alfred. "If you're in a 401(k), it's virtually impossible for the average consumer to get data on what administrative fees they're paying because companies aren't required to disclose that information."
According to the Investment Company Institute, the median fee for administrative, recordkeeping and investment-related services on 401(k) plans is 0.72 percent of total assets -- approximately $346 per year for the average 401(k) participant. One out of every 10 plans charges 1.72 percent or higher.
While one in four employers foot that bill on company-sponsored plans, according to a study by Hewitt Associates, most workers pay up themselves.
To make sure your administration fees are at or below average, Alfred recommends talking to your human resources representative. Employees may be able to compare their company's 401(k) investment and administrative fees to that of competitor companies at Brightscope.com.
Also called investment advisory fees, management fees pay those who operate the mutual funds in which you invest your money. According to Solin, the amount you pay in management fees depends largely on how much management your specific investments require. Actively managed funds that employ live experts to personally choose stocks in hopes of gaining higher returns generally charge significantly more than passively managed index funds that mimic such benchmarks as the Standard & Poor's 500.
"Index funds usually have fees around 0.25 percent, but the fees for actively managed funds average 1.5 percent," says Solin. "That's a big difference."
Solin adds that actively managed funds usually don't perform better than their cheaper index counterparts. A 2008 study by Standard & Poor's Index Services reveals that the S&P 500 outperformed three out of every four actively managed funds during the previous five years.
While workers in company-sponsored plans that offer index funds can smoothly transfer their money into these funds, some plans don't offer index funds. Workers may want to consider lobbying their employers to add passively managed options to their lineup.
"Complain to the human resources department and say, 'Why do we have a plan that is populated with funds that history tells us will underperform index funds?'" says Solin.
As noted earlier, Congress may soon require companies to include at least one low-cost index fund in their plans.