High fees can eat into gains from a 401(k) or mutual fund

Staying Ahead

January 26, 1998|By Jane Bryant Quinn | Jane Bryant Quinn,Washington Post Writers Group

WHAT'S ALL this fuss about the fees people pay for their 401 (k)s -- or, for that matter, their mutual funds or brokerage accounts? The U.S. Department of Labor is investigating 401(k)s on a suspicion that the fees in some plans are unreasonably high.

Writers like me say you shouldn't pay more than 1 percent, and preferably less.

But you might be saying, "Why should I care if I pay 2 percent or even 3 percent?" That seems a small charge for money management, account monitoring and administration. Why quibble about an itty-bitty percentage point or two?

But that percentage point is costing you more than you think. In a portfolio balanced between stocks and bonds, the fee could easily eat up one-quarter to one-half of your investment gains.

Take an account of $10,000, for which you pay 2.5 percent a year. If the size of that account increases by 15 percent ($1,500), you'll pay $269 (the fee is assessed on average daily assets for the year) That eats up 17.9 percent of your profits, according to the Vanguard Group in Valley Forge, Pa.

If your investments gain 10 percent ($1,000), you'll pay $263. That takes 26.3 percent of your profits.

If your account gains just 5 percent ($500), you'll pay $258. That ++ eliminates more than half of your profits. At this level, the fee can only be called confiscatory.

Compare these results with 401(k)s or mutual funds that take only 0.5 percent annually from your total account.

When your investment gain is 15 percent, the fee costs just 3.6 percent of the profits you've earned. On a 5 percent gain, you pay 10.2 percent of profits.

That's a huge difference when compounded over time. During the years you participate in a 401(k), the high fees that some plans charge -- especially small plans -- could cost you an amazing $100,000 to $200,000 more than you'd pay in a low-fee plan.

Big company plans usually fall into the low-fee range, says Steve Butler, president of Pension Dynamics in Lafayette, Calif.

Not so, small company plans (250 employees or less). Smaller companies generally lack the know-how to shop among retirement plan providers to get the best deal. They tend to buy from a stockbroker or insurance agent, whose plan may cost 2 percent to 3 percent, Butler says.

The employer may think the plan is cheap, because there's a low administrative fee or even "free" recordkeeping. But the plan managers are making big profits by charging high money-management fees, which often aren't disclosed.

Ideally, 401(k) plans should have to disclose all fees annually and in a uniform way, so employers and employees can readily see which plans charge more.

Many managers of 401(k)s -- especially the high-fee plans -- are fighting uniform disclosure. They argue that the paperwork will make 401(k)s more expensive, causing companies to drop them.

Employers might, indeed, drop the high-fee plans, but only to switch to something cheaper. The Vanguard Group, one of the nation's largest providers of 401(k) plans, discloses all costs in a clear and simple format. Yet it offers some of the lowest-cost plans around.

It's not just 401(k) costs that investors ought to investigate.

For example, think about brokerage-firm wrap accounts. With these, the broker finds you one or more money managers and monitors their performance. In return, you're charged 2 percent to 3 percent a year. In a slow market, that could take away half your gain.

And what about wrap accounts from financial planners? They usually put your money into no-load (no sales charge) mutual funds. You'll probably pay 1.25 percent to 2 percent, counting the planner's fee and the fund's money-management fee.

A low-cost planner's wrap might be worth it. But at 2 percent, you're giving up a lot.

As an alternative, consider a simple direct account with a mutual fund group, such as Vanguard or T. Rowe Price. They will give you some guidance on how to divide your assets among their various funds.

Pub Date: 1/26/98

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