Much has been written lately about the importance of understanding how much you’re paying in fees in your 401(k). Much of this recent interest is the result of a change in regulations that will be coming shortly. Starting July 16, 2011, Department of Labor regulations will require that plan providers report the direct and indirect costs of the plan to the plan sponsor, generally the employer. Additionally, on January 1, 2012, all fees, including administrative and investment fees, will have to be fully disclosed to the individual employees.
Why 401(k) Fees are Important
The level of fees can vary from one plan to another, depending on how the plan is structured. A difference of even 1% per year, seemingly a nominal amount, can make a tremendous difference in how much an employee has available for retirement.
As an example, take an employee that has 35 years left until retirement with a current $25,000 401(k) balance. If the employee earn 8% per year over the full 35 years, here’s the difference in account balance at retire using a .5% fee versus a 1.5% fee:
Original Amount Ending Value @ .5% Ending Value @ 1.5%
$25,000 $314,000 $227,000
As you can see, an increase in costs of 1% per year will reduce the amount available in retirement by $87,000 or 28%.
Types of Fees in a 401(k)
- Plan Administration Fees: these will include record keeping, accounting, legal and trustees.
- Investment Fees: these fees will include the management fees for the mutual funds in the plan and 12b-1 fees, which are used to pay for advertising and broker commissions. Often times your fund returns are stated NET of the fees charged so they may be hard to determine.
- Insurance Charges: if your plan has at its core an annuity, there will be an additional charge for the cost of the insurance guarantees.
- Target Date Funds: these funds, while convenient, often are a single fund made of up several underlying funds. The result is that the Target Date Fund may have investment fees in addition to the investment fees attached to the underlying funds.
When you originally signed up for your 401(k) you were handed a lot of paperwork, including paperwork that spells out your plan’s costs. If you can’t find the paperwork, you can find more information in the following places:
- Summary Plan Description: this document was given to you when you originally enrolled in the plan and then every 5 years thereafter. It may tell you if administrative expenses are paid by the employer or employee and how they’re allocated among participants. If you don’t have the original, just ask your plan administrator for a copy.
- Your account statement: it may show plan administrative expenses allocated to your account.
- Form 5500: Every 401(k) plan must file a Form 5500 with the government. This document will show liabilities, expenses and income for the plan as a whole, but it won’t show what was deducted from your specific account. This can be accessed at sites like http://www.freeerisa.com.
Five Questions to Ask Yourself Regarding Fees
- Do I have all the available documentation about the investment choices in my plan as well as all the fees charged to my plan?
- Do I use most or all of the optional services offered by my plan such as loans, insurance, etc.?
- If administrative services are paid separately from investment management fees, are they paid for by my plan (me), the employer or both?
- Do any of the investment options include sales charges, loads or commissions?
- Do any of the investment options include any fees related to specific investments such as 12-b1 fees, insurance charges or surrender charges, and what do they cover?
At the end of the day, your employer is providing you a tremendous benefit by offering a 401(k) plan for its employees, but it is YOUR responsibility to fully understand your plan so that you can make the best decision for your individual circumstances.