Is Your 401(k) Secretly a Money Pit?
Your 401(k) costs money -- no ifs, ands, or buts about it. Someone has to manage the funds you've invested in, do all the reporting, and make sure you can check up on your account when you need to. And those people have to get paid. That's understandable, but those fees you're paying can have some serious consequences for your retirement savings.
Here's a closer look at the types of costs your 401(k) has and what you can do to minimize them so you keep more of your savings for your retirement.
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Types of 401(k) fees
Your 401(k) has three major types of fees you have to worry about. The first are is administrative fees. These cover all the costs related to maintaining your plan, including sending your statements, running the online account where you can check your balance and update your contributions, and providing access to customer service or financial guidance as needed.
Some employers cover some or all of these fees while others pass the full burden onto employees. Companies that do pay administrative fees often stop doing so if you quit or are fired. In that case, you're better off moving your money to an IRA or rolling it over into your new 401(k) if your plan permits this.
Investment fees are related to what you invest your savings in. Employees almost exclusively pay these. Mutual funds charge expense ratios, which are an annual percentage of your assets invested in that fund that you pay to cover the fund provider's operating costs. Expense ratios can vary quite a bit depending on your investments, but they get expensive quickly. A 1% fee means you pay $1 for every $100 you have invested in the fund.
Some mutual funds also have loads, which are basically sales charges. You pay front-end loads when you buy shares and back-end loads when you sell shares.
Finally, 401(k)s charge individual service fees. These are one-time costs you pay for certain actions, like doing an account rollover or taking out a 401(k) loan. Usually, these are a set dollar amount and rarely exceed a few hundred dollars.
How to find out what you're paying in 401(k) fees
Your 401(k) plan summary is a great starting point for learning about your fees. This can tell you about any administrative costs you're paying and individual service fees. To learn about investment fees, check your prospectus or annual reports.
If you have any questions or you're having a hard time tracking down your fees, you can always reach out to your plan administrator or your company's HR department. Someone there should be able to point you in the right direction.
How to reduce your 401(k) fees
You're probably wondering how much you should be paying or how much is too much. There isn't a clear-cut answer for that. You obviously would like to pay as little in fees as possible because it means more of the money you put into your 401(k) will go toward your retirement, but you can only do so much to reduce your costs.
Your employer and your plan administrator dictate how much your administrative and individual service fees are. There isn't anything you can do about that, so you're left to decide whether these fees are worth paying. If you're getting an employer match, then it's worth sticking around because you're likely earning more through your match than you're losing in fees. It might also be worth continuing to contribute to your 401(k) even if you don't get a match as long as you like your plan's investment options.
Aim to keep your investment fees under 1% of your assets if you can. If you're paying more than that right now, see if there's a different mutual fund you could invest in that matches your risk tolerance and charges less. Or ask your employer if it's willing to give you more low-cost investment options. Index funds are worth considering because they offer diversification, solid returns, and low fees. These are mutual funds that contain the same investments as a market index, like the S&P 500, so there isn't as much buying and selling as you see with some other mutual funds. That makes index funds more affordable for you.
If your 401(k) charges fees in excess of 1% per year, you're not getting a company match, and your employer isn't willing to budge on your investment options, you might be better off stashing your retirement savings in an IRA instead. You can choose any broker you want and just about any investment you want, so you have a lot more control over what you're paying in fees. The downside to an IRA is that you can only contribute up to $6,000 in 2020 or $7,000 if you're 50 or older, compared with $19,500 and $26,000, respectively, for a 401(k).
You can always return to your 401(k) if you max out your IRA for the year. While your high fees might hamper the growth of your savings a little, you'll still get a tax break and your money will grow more quickly than it would if you'd just left it in a savings account.
Remember: Fees can change over time. If your employer decides to switch to a new 401(k) provider or you change your investments or lose your job, that's going to affect how much you're paying in fees. So always check into your costs after any major changes to your 401(k) so you can make an informed decision about where to stash your retirement savings.
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