November 29, 2019
Investor Caution: Don't Overlook the Cost of Investing
By: Christopher Orr, CISP®, SDIP
Many investors don't look at the 401(k) fees or expenses charged by their retirement plan, and this isn't a huge surprise. Often, these numbers can be difficult to understand, and some retirement investors don’t even realize they exist.
One easy way to figure out some of the fees that you are paying is to look at the expense ratio that is charged on the individual investments within your 401(k) plan. But that won’t provide you with the full fee picture. 401(k) plans can assess fees and expenses in numerous ways, including charging for commission, fund management, and plan record-keeping.
When you study 401(k) fees, it is easy to see why rollovers from these plans have become a significant source of IRA funding. Rollovers are the predominant way that investors open traditional IRAs, according to the Investment Company Institute. About seven out of 10 new traditional IRAs received rollovers in 2016**.
Why? In part, these rollovers are driven by investors who retire or switch jobs and can no longer keep their employer-sponsored 401(k) plan. Another reason is that 401(k) fees can add up and take an unexpectedly large bite out of retirement savings.
Consider this example from the Department of Labor:
Assume that you are an employee with 35 years until retirement and a current 401(k) account balance of $25,000. If returns on investments in your account over the next 35 years average 7 percent and fees and expenses reduce your average returns by 0.5 percent, your account balance will grow to $227,000 at retirement, even if there are no further contributions to your account. If fees and expenses are 1.5 percent, however, your account balance will grow to only $163,000. The 1 percent difference in fees and expenses would reduce your account balance at retirement by 28 percent.
Or, as NerdWallet explained after running its own analysis on investment fees, 1% versus 0.5% may not feel like much over the course of a year, but when saving for retirement, it could mean the difference between retiring at age 70 versus retiring at 73.
It just goes to show that small fees can substantially chip away at your retirement savings over time.
Taking Control of Your Retirement Savings
For investors who want to have more control over their retirement savings and the fees they pay, rolling your 401(k) into a self-directed IRA means you can keep the tax-advantaged status of your funds while gaining access to far more investment choices.
The average 401(k) plan offers 27 investment options, of which 13 tend to be equity funds, three are bond funds, and seven are target date funds, according to the latest ICI/BrightScope Defined Contribution Plan Profile.
But an IRA can provide you with access to thousands of ETFs, mutual funds, stocks, and bonds at a range of fee levels. If you open a self-directed IRA, you will also have access to alternative investments like private equity and real estate. At Pacific Premier Trust, where we custody alternative assets for our clients' IRAs, our clients are invested in more than 43,000+ unique asset types.
Part of what 401(k) participants get is a fiduciary that screens and chooses the subset of funds that the plan offers. With a self-directed IRA, you are taking on the role of the fiduciary. That means you pick investments that best fit your savings profile—like private company stock, hedge funds, or mortgage notes. You are not limited to investing solely in the choices offered by a 401(k) plan sponsor and the fees associated with those limited investments.
At the end of the day, investing using a 401(k) or IRA is never without a cost. At Pacific Premier Trust, we believe the fees we charge to custody IRA assets should be transparent. We explain the four types of service fees we charge on our website, and we are happy to walk investors and our clients through them. We also believe that it's crucial for investors to take an active role in their retirement planning, and that means knowing how much your investments might cost you—and your nest egg—over time.
** “The IRA Investor Profile: Traditional IRA Investors’ Activity, 2007-2016,” Investment Company Institute, September 2018.
This Blog does not provide investment, tax, or legal advice nor does it evaluate, recommend or endorse any advisory firm or investment vehicle. Investments are not FDIC insured and are subject to risk, including the loss of principal.
Pacific Premier Trust (formerly PENSCO Trust Company) performs the duties of an independent custodian of assets for self-directed individual and business retirement accounts and does not provide investment advice, sell investments or offer any tax or legal advice. Clients or potential clients are advised to perform their own due diligence in choosing any investment opportunity as well as selecting any professional to assist them with an investment opportunity. Alternative investments are not FDIC insured and are subject to risk, including loss of principal. Pacific Premier Trust is not affiliated with any financial professional, investment, investment sponsor, or investment, tax or legal advisor.
NOT FDIC-INSURED | NO BANK GUARANTEE | MAY LOSE VALUE