Most Americans couldn't tell you what their 401(k) fees are, or if they even have them. Thirty-seven percent believe their 401(k) has no fees at all, while another 36% either don't know their fees or don't know where to find them, according to a recent TD Ameritrade report.
The easy answer is that all 401(k) plans have fees. And there are two general categories: administrative (also known as "participation") fees and investment fees.
Ninety-five percent of 401(k) plans charge administrative fees, and these cover the costs of things such as record keeping, legal services, customer support and transaction processing.
In addition, all 401(k) plans charge investment fees (or at least I've never heard of one that doesn't). These are fees charged by the investment funds you choose and are typically listed as "expense ratios" in your plan's literature.
These fees are expressed as a percentage of assets, and the average 401(k) costs 1% of assets every year for all fees. In other words, the average 401(k) participant will pay $1,000 for every $100,000 in plan assets.
However, this can vary tremendously. Generally speaking, large-scale 401(k) plans are cheaper, while small business 401(k) plans tend to have the highest fees. All fees are clearly disclosed in your plan's literature, or you can ask your plan administrator for information on your fees.
A Quick Guide to Mutual Fund Expenses
You may be surprised at how expensive some mutual funds' expenses and fees are over the long run.
Mutual funds can be great investing options for people who want the high-growth potential of the stock market, but don't want to choose individual stocks to buy. However, the convenience of mutual funds isn't free -- there are several types of expenses investors may need to pay, and these fees can really eat away at your long-term performance.
The three main types of mutual fund expenses
When you invest in a mutual fund, there are three main expenses you may have to pay. Not all mutual funds have all three expenses, and you can find the details in a fund's prospectus.
A front-end sales charge, also called a sales load, refers to money you pay upfront when you invest in a mutual fund. This is a form of commission paid to financial planners, brokers, or investment advisors. If you limit your search to "no load" funds, you can avoid this expense altogether.
A back-end sales charge, or back-end load, refers to money you pay when you sell, or redeem, your shares of a mutual fund. This expense can be a flat fee, or can gradually decrease over time to incentivize investors to hold their investments. Like front-end sales charges, these are commissions paid to third parties, and are not a part of the fund's operating expenses.
An expense ratio is the fund's annual operating expenses, expressed as a percentage of assets. Unlike the sales charges, this cost applies to all mutual funds. This covers management fees as well as other expenses of running the mutual fund. For example, a 1% expense ratio means that for every $1,000 you have invested, you'll pay $10 in expenses per year.
You may see two expense ratios listed – gross and net. A fund's gross expense ratio refers to the total annual operating expenses, while the net expense ratio may be reflective of a temporary discount, and may therefore be lower. Simply put, the net expense ratio is what the fund's investors are paying now, while the gross expense ratio is what the fund's expenses could be in the future. As a long-term investor, it's a good idea to base your decisions off of the gross expense ratio – in other words, don't assume that the lower net expense ratio will last forever.
You might be surprised at how much these expenses can really cost
As an example, let's say that you have $10,000 to invest. The S&P 500 has historically averaged returns of about 9.5% per year, and $10,000 compounded at this rate for 30 years is $152,200.
Now, let's say that you invest in a mutual fund that does just as well as the overall market. That is, the fund's investments generate total returns of 9.5% per year on average. However, to invest in this particular fund, you'll need to pay a 3% front-end sales charge, as well as a 1% expense ratio on an ongoing basis.
These may sound like small percentages, but these small fees result in a 30-year investment value of $109,200. In other words, the front-end sales charge and expense ratio reduced your investment gains by $43,000.
With that in mind, here's a calculator to use while you're shopping around for mutual funds that can help you understand the long-term impact of the fees.
It may surprise you how sales charges, management fees and lost opportunity cost can erode the total return on your mutual fund. Use this calculator to estimate the impact these charges may have on the growth of your investment.
Is an Iul better than a 401k? 401(k) or IUL - Which is Better?
Since indexed universal life insurance (IUL) is often mentioned as an alternative to a401K, IRA, or other qualified plan, let's look into the basics of IUL vs. 401K. ... First,IUL provides a life insurance benefit, which can be substantial depending on how it is structured.
Since indexed universal life insurance (IUL) is often mentioned as an alternative to a 401K, IRA, or other qualified plan, let's look into the basics of IUL vs. 401K.
Feedback from clients show that the biggest advantage IUL has over 401Ks and IRAs is that you can have reason to hope for double digit gains, but still sleep at night, knowing that the investment component of IUL will never incur a loss! The prospects for higher returns are enhanced by the use of leverage - not available with a 401(k), IRA, or other types of qualified plans. Also, even if you put some or all of the money into the policy's Fixed Account, many of these policies currently pay interest at above 4% - much higher than the banks. Using the Early Cash Value Rider, available with some carriers, the client may also be able to have access to 90% or even 100% of his cash the first year. No more waiting around for years the achieve a high level of liquidity, thus lessening the need to keep his liquid assets in banks. This effect is also highly useful with alternative and supplemental plans called 409A or SERPs.
IUL is a bit like a Roth IRA, but with important differences. First, IUL provides a life insurance benefit, which can be substantial depending on how it is structured. Some carriers offer a Waiver of Specified Premium Rider that can make your retirement plan self-completing in the event you cannot work due to disability. Imagine asking your 401K provider to make your contributions for you if you can't work!
Have you ever reached the end of the year, only to find that you haven't been able to fund your 401K to the maximum allowable? Even worse, have you been in a position to put in extra the following year? Any qualified plan, including a 401K, do not allow catch-up contributions for past years. IUL, on the other hand, is only limited as to cumulative contributions. If you under-fund in one year, in most cases you can play catch-up anytime in the future. In the real world, this feature may turn out to be one of the most critical advantages IUL has over a 401K, an IRA, a Simple IRA, or a SEP.
IUL has virtually no restrictions on the amount one may contribute or when one can distribute funds. A person usually accesses funds from IUL through policy loans. While many people are apprehensive about adopting a pattern of borrowing, the leverage made possible via IUL is generally considered an acceptable risk once understood.
But what about the "bottom line"? Which approach can result in more retirement income for an individual after income taxes are taken into consideration? The surprising answer may be "IUL". The newest uncapped index strategies sometime back-test at returns approaching 10% - pretty impressive when you also know you will never get an index return of less than zero thanks to hedging.
With 401Ks, the higher yields are only achieved by investing in stocks, ETFs, or mutual funds. All of these are unprotected against investment loss. Remember 2008? There was no place to hide! If you owned the S&P in your 401K, you lost over 30% in one year.
The biggest contributing factor to the potentially stronger performance of IUL has to do with leverage.
Also, the government only lets you get two out of three potential income tax breaks:
1 ) Tax-deductible contributions;
2 ) Tax-deferred accumulation of earnings;
3 ) Tax-free distributions.
IRA's, 401K's, Roth IRA's, and IUL all get 2 out of 3. See CPA Ed Slott's video>
While contributions to IUL and Roths are not deductible, the investment buildup has the same tax deferral as for a qualified plan. And unlike a non-Roth qualified plan, IUL retirement distributions (via loans) are not not taxable. Roth distributions are only tax-free if taken after age 59 1/2 with certain exceptions, and participation in a Roth has significant contribution limits and other restrictions.
However, the 401(k) or traditional IRA get a deduction now, while some of the Roth or IUL tax advantages come later. Therefore, it is important to run the numbers for given contributions, durations, changes in tax rates now vs. during retirement, and of course, investment return assumptions.
Another way of looking at this is to consider a farmer in one state being told there was to be a 10% tax on the value of seed. Another farmer in a neighboring state is taxed 10% on the value of all harvested grain. If you were a farmer, which state would you rather live in? The "seed" money for IUL is taxed now, but the harvest at retirement may be able to be taken tax-free. On the other hand, the 401K, IRA, or other qualified plan may not be taxed now before assets grow, but the "harvest" at retirement is taxed at ordinary income rates. Of course, it's not that simple. Having more seed to plant can result in a larger harvest. It also depends upon the elapsed time before the harvest. And what if the tax on the harvest were at a different rate than the tax on seed?