If you are one of the 72 million Americans who belong to a 401(k) retirement plan, you are probably about to get your first plan statement with details about what the plan sponsors are charging you.
That's good news, but simply providing you with the information doesn't necessarily mean you'll understand it. Fee disclosures may cover several pages of fine print, so the average employee needs the equivalent of a 401(k) Fee Secret Decoder Ring to figure out how much the fees amount to.
Why you need to understand your 401(k) statements
Before starting, it's important to understand why you need to pay attention to your 401(k) statements. On the low end, fees range from about 0.5 percent of assets, to around 3 percent on the high end. This may sound like a small number, but these 401k fees add up to a lot over time.
For example, if you have $25,000 in a 401(k), retire in 35 years without contributing more, and achieve a steady 7 percent return, the difference between a fee of 0.5 percent and 1.5 percent means the difference between having $227,000 or $163,000 at retirement. That is a difference of 28 percent, or $64,000. Even with the best investment advice you still need to keep an eye on those fees.
Uncovering investment fees
When you open the pages of your 401(k) statement, spin your Secret Decoder Ring first to the section on investment fees. This is what you are paying to the fund advisors — the people who decide which securities to buy and sell — and these charges usually make up two-thirds of the fees on a typical 401(k).
Investment fees can be hard to determine from looking at your usual statement because they're not broken down. Instead, they're deducted directly from your investment returns. The figure for net total return is your return after these fees are deducted. Higher fees, therefore, mean lower returns, unless the manager's efforts are producing better ones.
Lower fees aren't always better. That's because they can vary according to the type of investment. A fund that tracks an unmanaged index, like the S&P 500, will generally have significantly lower fees than an actively managed fund.
Fees charged for different investments are not always easy to make sense of, but for many 401(k) plan participants, fees are one of the few aspects of the plan that are under their control. By choosing investments with fees that are appropriate, you can ensure that your plan reflects your retirement needs. Therefore, any efforts you make to better understand your 401(k) statement is likely worth the time.
Don't forget administrative expenses
Once you have looked over the investment fees on your 401(k) statement, spin your Secret Decoder Ring to the section on administrative expenses. These are the fees you pay for basic services the plan needs for its day-to-day operation, including recordkeeping, accounting and legal advice.
They also include other services that many plans offer today, like online and telephone access to account information, online transactions, educational seminars, customer service support, and retirement planning software.
Sometimes, the investment fees that are already being deducted also cover administrative fees. If these fees are being charged separately, your employer may pay them directly. If not, you may be paying them as a charge against the plan assets. Administrative fees are sometimes based on account size, but they can also be charged as a flat fee. The more services your plan has, the higher these fees are.
The last area for your Secret Decoder Ring to crack the code is the transaction costs section. This is what the fund charges you to make withdrawals, take out loans, and other similar actions.
These fees are generally easier to understand and they are also more subject to your control. You don't have to pay any withdrawal fees, that is, unless and until you actually make a withdrawal.
If you are still struggling to make sense of your 401(k) statement, ask around to find other employees who also carry a Secret Decoder Ring and see if you can combine forces and compare portfolio advice. If that doesn't work, consult your company plan administrator for further assistance.
As the U.S. Department of Labor points out, Federal law requires employers to make sure that fees and other plan expenses are reasonable compared to the level and quality of services being provided. As part of the 401k fee disclosure you have a right to know what you're paying and you also have a responsibility to your future retired self to be as well informed as possible.
Choosing an investment with lower fees doesn't guarantee you'll have more money to retire with. But you can't make any choice at all unless you know what the fees are. The new rules on disclosures are a step in the right direction, but for now you still need your Secret 401(k) Decoder Ring.
“Uncover Your 401(k) Fees with This Secret Decoder Ring” was written by Gregory Taggart.
The above article is intended to provide generalized financial information designed to educate a broad segment of the public; it does not give personalized tax, investment, legal or other business and professional advice. Before taking any action, you should always seek the assistance of a professional who knows your particular situation for advice on your taxes, your investments, the law or any other business and professional matters that affect you and/or your business.