Pop quiz: How much are you paying each month for the streaming services you use? Most of you probably know what you're paying or have a pretty good guess. Question No. 2: How much are you paying in 401(k) fees?
You're not alone if you're drawing a blank on that one. A TD Ameritrade survey in 2018 found that only 27% of people knew how much they were paying in 401(k) fees, while 37% of people mistakenly believed they weren't paying any fees at all.
Well, I'm sorry to break it to them, but that's not true. Every 401(k) has fees, and they can add up pretty quickly. Here's what you need to know to determine yours and keep them to a minimum.
Why do 401(k)s charge fees?
There are three types of 401(k) fees. The first is an administrative fee. 401(k)s can't run themselves; there are people and resources involved in maintaining the plan, providing customer support and account statements, and hosting the online accounts so you can check up on your money as needed.
Sometimes, employers pay these fees, but many choose to pass them along to their employees. Larger companies are often able to charge lower 401(k) fees than smaller companies because they can divide these administrative costs among more people. You can ask your plan administrator or your company's HR department if you're unsure what you're paying in administrative fees.
The largest 401(k) fees you'll probably pay are your investment fees. These costs are directly related to what you invest your money in. Mutual funds, for example, charge annual fees called expense ratios. This is a percentage of your assets and you can find it listed in your prospectus. Some mutual funds have additional fees to cover their marketing costs and commissions to brokers. You can also find these in your prospectus.
Ideally, you want to keep your investment fees under 1% of your total assets or they can hamper the growth of your retirement savings over time. If you're paying a 1% fee on a $1 million portfolio, you're giving up $10,000 every year. You don't want to pay more than that if you can avoid it.
The third class of 401(k) fees are individual service fees. These are one-time fees that pay for things like account rollovers or taking out a 401(k) loan or hardship withdrawal. These are listed in your plan summary.
How to keep your 401(k) fees low
You want to keep your 401(k) fees as low as possible so they don't cut into your profits as much. Individual service fees are easy to avoid as long as you don't need any of these special services. You might not be able to do much about administrative fees, and your investment fees will to some degree be determined by what investment options your company offers.
Talk to your employer about adding more low-cost investment options if all of your existing options are more than you'd like to pay. Index funds are one good option. These are mutual funds, but instead of an account manager choosing which stocks and bonds go into the fund and buying and selling them often, an index fund is designed to track a market index, like the S&P 500. It contains all the same investments, so when the index does well, you do well, too. These funds tend to have less turnover than regular mutual funds, which means less work for account managers and therefore lower expense ratios.
Your employer doesn't have to change its investment offerings if it doesn't want to, but it might be willing to do so, especially if several employees request it. If your company refuses to change its investment options, you have a choice to make. Leaving the money where it is and paying the higher fee might make sense if you're earning a 401(k) match that covers the cost of your annual fees. Or you could roll your 401(k) over into an IRA. You'll probably incur a rollover fee, but once you're set up with your IRA, you have virtually unlimited choices for investing your savings, and administrative costs are often lower than what a 401(k) charges.
If you choose to stick with your 401(k) for now and you later leave the company, consider rolling it over to an IRA or into your new 401(k), if your new plan allows this. The only time it might make sense to leave it where it is is if you liked your investment options and you weren't paying that much in fees.
Don't forget to check into your new 401(k) fees every time you make changes to your investments or your employer switches up your plan. You may not always be able to do much about the fees you're paying, but being informed is the first step to figuring out what's best for your money.