Understand how 401(k) fees could be affecting your retirement savings.
In these uncertain economic times, many investors are trying to cut spending and maximize retirement savings. That’s why now might be a good time to learn about a stealthy expense that could be handicapping your efforts to squirrel away money each month.
Considering the popularity of 401(k) accounts, it’s surprising how few people are aware of the fees they pay to maintain them. A TD Ameritrade survey of 1,000 investors found that just 27% knew how much they were paying in 401(k) fees. But this could be starting to change. The coronavirus pandemic and wild stock market moves of 2020 have prompted investors to scrutinize the small things.
“When the market is going up, people don’t tend to look at 401(k) fees or even realize they’re paying them, but when the market is in turmoil, people tend to pay more attention,” said Dara Luber, senior manager, retirement product at TD Ameritrade.
With the market environment today, 401(k) fees may be crucial to understand. That’s especially true if you recently lost your job and are considering rolling over a 401(k) into an IRA (more on this below).
“It’s a good idea to look at what you’re paying,” Luber suggested. “This can be an important component of your investing plan, and you should be aware of the cost.”
When selecting investments for your 401(k) account, you take time to compare the available investment choices and identify which ones may help you pursue your goals. Make sure you also understand how the associated fees may impact your retirement savings. This way you can make a more informed decision.
Managing a 401(k) plan can be a challenge. That’s why most employers hire investment companies and other third-party providers to handle the work. These providers usually charge one or more of the following for their services:
If you have a brokerage account, you may be assessed a transaction fee each time you place a trade in your account. And if you’re investing in a managed portfolio, you may be charged an advisory fee based on your account balance to cover the services of the investment advisor.
Let’s look at a hypothetical example to better understand the connection between investment fees and savings. Figure 1 compares the impact of three different expense ratios on a $10,000 investment, assuming a 5% annual rate of return.
In 30 years, the value of the investment with a 0.50% annual fee is 35% higher than the investment with a 1.50% annual fee. And it’s more than 16% higher than the one with a 1.00% annual fee. Even a small change in expenses can make a big difference in savings.
Your employer is responsible for managing the fees associated with your 401(k) plan. Although you may not be able to change the fees, you can choose which funds to invest in. Depending on your plan’s investment lineup, you may be able to find similar choices with lower costs that fit your needs.
When you leave an employer, you can decide whether to maintain your 401(k) account or roll it over to an IRA or your new employer’s 401(k) plan.
It may seem like you should simply pick the least expensive investment for your 401(k) account or IRA, especially if money is tight. But that’s not necessarily true. Higher expenses may be worthwhile to some investors if they see the potential for more growth or access to a more experienced investment manager. Only you can decide whether fees are reasonable given your goals, risk tolerance, and other factors.
“Fees aren’t bad, in and of themselves,” Luber explained. “If you’re paying for a stretch limo and getting a stretch limo, that can be good. But if you’re paying for a stretch limo and getting a ride in a Checker cab, that’s not so good.”
In other words, some 401(k) choices—such as managed accounts where someone helps you with the decisions—can be worth the extra cost if that’s what you feel you need. Just make sure to read the fine print and know what you’re getting into. In these uncertain times, it’s important to stay alert (and perhaps save some money along the way) whenever you can.
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