What The Heck are 401k Fees and How Do You Kill Them?
The saying “ignorance is bliss” doesn’t apply to hidden 401k fees. We frequently reference them … and for good reason. According to research from NerdWallet, people with 40 years until retirement could lose as much as $500,000 because of investment fees.
Worse yet. Most people aren’t AWARE they are paying these fees. An incredible 92% of Americans have no idea how much they pay in 401k fees.
We’re going to provide a simple break down of the fees found in your 401k. We’ll also review what, if anything, you can do about them.
Providers Have Three Main Types of 401k Fees
Investment fees are specific to each investment option your plan offers and typically the loftiest type of fee. Luckily, you can usually control – or get help to control – these types of fees. They can be reduced by simply choosing to invest in funds that have lower expense ratios.
Other types of 401k fees, administrative and service fees, are more difficult for you to reduce, as they are an innate part of your provider’s plan.
Here’s the quick overview of the three main types of fees:
- Investment fees – Expressed as an “expense ratio” of anywhere from 0.01% – 3%. Our team will call these “fund specific fees” or “fund fees.”They cover the management of the investments within your plan. And they typically represent the largest component of fees. Generally assessed as a percentage of assets invested, they are deducted directly from your investment returns: Investment fees are taken out annually as a percentage of your investment.
- Sales charges – transaction costs for buying/selling shares
- Management fees – for managing the assets of the fund, often used to cover administrative expenses
- Other fees – to address services such as furnishing statements
- Plan administration fees – The fees charged to keep your plan running. These fees include recordkeeping, accounting, legal and trustee services that are necessary for administering the plan.
- Individual service fees – typically associated with optional features offered under a 401k plan. Some additional services may include access to a customer service representative, educational videos or seminars, planning software, investment advice, or online transactions. The more services provided, the higher the fees. The cost typically corresponds with the size of your employer’s 401k plan, i.e. there are benefits of scale (the following are the typical fees by employer size):
- 1.4% for small employers
- 0.85% for medium-size employers
- 0.5% for larger employers
Investment Fees Pile On – They’re Vermin You Want to Control
We sometimes hear from people that they don’t need to worry about investment fees because their account balance is relatively small. But here’s the rub: Fees negatively affect your 401k (or other employer-sponsored retirement plan) in several ways.
Sure, on a percentage basis a person’s account balance may be small to start. But, first, everything you pay into fees is money that isn’t invested. And, second, what looks like small seeds lost to fees early on really amounts to money that won’t compound over time.
Finally, as your retirement grows, you pay more. Why? Remember … investment fees are a percentage of your overall investment. Just 1% of your total 401k assets managed doesn’t seem like much, right? Yet, the average American will pay $138,336 in 401k fees over their lifetime – more than 2.5 year’s worth of a typical household’s earnings.
Want to see how much of your money is potentially being eaten away by vicious investment fee vermin? Use our hidden fee calculator for an estimate. A word of caution: the result might reality-check you into our pest control services.
Simple Way to Cut Your 401k Fees: Say No to TDFs
One quick approach: If you’re in a target date fund (TDF), certain kinds of managed accounts could be right for you (more on that later).
But target date funds are what everyone’s using, right? It’s true. Target date funds have seen tremendous adoption in 401ks. By 2019, nearly 90 percent of new 401k contributions could be invested in TDFs. 1
And there are reasons why the investment companies want you in these products. They can be expensive – for you. They’re often loaded with investment fees and contribute significantly to the profitability of investment management companies.
Why Are So Many People Moving to TDFs?
Main reason: inertia. Target date funds are now the default investment option in most plans. They do the work for people who don’t have the time or inclination to research their plan’s investment options.
Positioned as a quick and easy solution, they diversify you in a single product that matches your goal retirement year. Then they rebalance over time, getting more conservative as draw closer to your “target” retirement date.
The alternative – managed accounts – work in a similar way, i.e. constructing a portfolio aligned to your retirement goals. And they can result in tremendous fee savings.
How? Instead of investing in a single product like a TDF, a managed account provider will ask you questions about your target retirement date and risk tolerance and then review your ENTIRE 401k plan investment lineup. Part of that analysis should include an examination of the investment fees. Once you’ve completed the analysis, the managed account provider, will construct a portfolio that matches your goals.
They don’t stop there. They’ll continually monitor your account and rebalance periodically based on several factors. One of those factors is reviewing how close you are to your stated retirement date.
So, if you’re in a target date fund … why help those Wall Street tycoons purchase another yacht? Help yourself and consider a managed account instead.
You’ll Still Have to Pay Some Fees
While a managed account provider may minimize the fees you pay, you will still pay some expense ratio on your investments.
Also, the previously mentioned plan administration and individual service fees are generally non-negotiable costs for people.
With all of these fees, we sometime receive questions from people about whether it’s better to invest in accounts other than their 401k. That largely depends on each person’s situation. But most times, if your plan has a company match, you want to take advantage of that first before exploring alternatives.
Where to Look for Managed Account Help
Not all managed account providers, typically robo-advisors, are created equal. Many of these services charge their own management fee, say 0.25%. At that fee, the provider could cost you more than $200,000 over 40 years.
That’s still quite a bit less than the fees of target date fund, but the best managed account alternative could be a provider that charges a flat rate.
With a traditional 401k, we know we’ll have to pay Uncle Sam a significant chunk of our pre-tax earnings eventually, so — with hidden 401k fees — why o’ why would we give Wall Street another large chunk along the way.
Blooom is limited to the funds available in your employer sponsored retirement plan. There is no guarantee blooom can or will reduce your fund expenses.
- Millennials: There’s A $454,000 Leak In Your 401(k) Forbes. May 12, 2016. https://www.forbes.com/sites/arielleoshea/2016/05/12/the-454000-leak-in-your-retirement-plan/