How Much Does Your 401(k) Cost?

Investing in Your 401(k) is not free, but because you don't get a bill showing how many fees are withdrawn every quarter (or every year), many don't know they're paying or how much they're paying to invest in their Company's Plan.

And if you don't know, you should work to find out. Admittedly, I don't know exactly how much I pay but I have an idea. If your company allows you to see your 401(k) information online, chances are all you see is fund performance. You don't know that you're paying fees. Our company offers about 12 different funds, and I have 4 major funds in my account. Two are with Vanguard, one with Neuberger and one with American Century. I really had to dig to find out the fees associated with each, because they're not really all that apparent.

These management fees can eat into your returns if you're not careful. Consider the example below:

Fund A:

1-yr return: 5%

5-yr return: 10%

10-yr return: 11%

Management Fee: 2.0%

Fund B:

1-yr return: -5%

5-yr return: 13%

10-yr return: 10%

Management Fee: 0.35%

Fund C:

1-yr return: 33%

5-yr return: 13%

10-yr return: 7%

Management Fee: 0.75%

Think of the management fee as the "cost" of managing your money. Which fund would you choose if you were finding a place to put your money for a long time (5+ years)? Smart money would be in (B) of course. Some investors love to see those high returns in the 1-yr numbers, but it's unproven. Long term returns are what count. Note that although choice (A) may have a higher return, the management fee is deducted from the returns. Also note that your returns should be at or above the S&P 500 long-term average. One more thing: that fee is deducted from your account yearly regardless whether you make money or lose money.

So, if your 401(k) is accessible online with your employer, you should try to get access to the prospectus, which gives all the details on the fund you own. (Or, go to the fund's website) and download it from there. Inside you should look for the management fee section, which will give upfront cost (usually) of owning that fund. Some of the older funds may charge fees as high as 2-3% of your account balance, while others (like Vanguard) charge very low management fees.

Should We Allow Retirement Funds to be Used for Real Estate Investing?

No.

That’s it, no….

Oh, still around? Let’s talk about why. But first, some background. John Crudele, a columnist for the New York Post, penned

this article —in it, he talked about how the two major political parties are not facing reality, blasé blasé..you’ve heard the drill. To note, he says:

…my belief that the only stimulus package we can afford right now is one that allows people to spend their own money.

He was on the right path. It’s good point. Then, he goes wildly off course as to what this entails:

In other words, what we need is a simple law change that will permit Americans to use their own retirement money - without being killed by taxes - for such things as buying real estate.

What? Use their retirement money to buy real estate? But you can already do that you say. Yes, but with limits. It’s used to purchase your first home, and it’s limited to $10,000. Some employers require you to roll over the money to an IRA (and you have to pay it back). But there is a reason that the government makes it very difficult to pull money out of 401(k) and IRA plans—they are made for retirement purposes. Hence, the name.

Imagine for a moment that after running up student loan debt, credit card debt, and then home-equity loan debt, Americans start tapping into their last basket of (usually) forced savings—the 401(k) or IRA plan. What happens if we as a country haven’t learned from our lesson and begin buying homes way above our means because the “attractive” intro rates? You end up in a very bad position. You end up with millions of Americans (with the help of the doom-and-gloom media) playing on the emotions of everyone to bail us out of our problems (again). Only this time, it would cost a whole lot more because we would put a lot more stress on an already-fragile Social Security and Medicare program. Basically we’d further the citizen’s dependence on the government to survive. And that’s not a good thing.

What’s Up with Medicare?

2010 and 2019—these are 2 very important numbers in your head. The first represents the year where we will start paying out more money than we take in. Those of you who did those rates of change problems in Calculus know that it won’t take long for the money tank for such a system to empty—which brings us that second number—2019, where the Medicare system is expected to be bankrupt. What’s scary is that the current candidates left in the Presidential race aren’t speaking about it.

From the LA Times:

Sen. John McCain of Arizona, the presumed Republican presidential nominee, had little to say when the latest numbers were released projecting Medicare going into the red by 2019 and Social Security following in 2041. The Democratic contenders, Sens. Barack Obama of Illinois and Hillary Rodham Clinton of New York, also sidestepped the issue.

Most of the people who read this are not planning to lean to heavily on Medicare anyway, resorting instead to building a strong 401(k), work benefits plan, or IRA to provide them with the needed funds to handle medical expenses in their old age. At least I hope so. But your parents and grandparents most definitely will. And the Medicare program is in serious trouble, even more so after the Part D prescription plan was added in 2003.

Expect the candidates (except maybe for McCain) to adopt the populist solution:

Tax “The Rich.”

Social Security operating in the red? Tax the Rich.

How about that Universal Health Care? Roll back those tax cuts on The Rich.

How to keep Medicare solvent? You got it.

But no one talks about the outlays (the cost). Rolling back the rich folks’ tax cuts (which means any person, family or business making 200,000+) won’t cover all of this. Which brings us to two solutions: either admit that everyone will have to shoulder an increased tax burden, or admit that some of these programs will unfortunately have to go or benefits will have to be sliced.

Let’s be frank: if the operators of Medicare and Social Security were a private business, investors would be running scared from them. Now imagine if the US Government forced you to own shares in the business… Now I know that these entitlement programs have been around for awhile but they were never meant to fund your retirement—it was simply meant as a supplement to retirement income. At some point some tough decisions will have to be made. Taxes will need to be raised. On everyone. Benefits will need to be cut, especially for younger Americans who have the opportunity to own and fund 401(k) accounts…or IRAs…or start successful businesses—like we always have.

So keep your eye out for Medicare, Social Security, and the coming burden of Universal Health Care. One would hope we can have these things and not pay for them, but if we want them, we will have to pay one way or another.

Your Thoughts?

Young and Confused…or Maybe Not?

So I found this article via TheStreet.com, written by Cliff Mason an-up-and-coming 20 something who wrote about "reckless saving." I read with interest with the pull-in line that advised young people "not to save money." Continuing in disbelief, he continues the theme with the following gem:

Many of you thought I was being reckless and irresponsible when I advised young people not to save money. I couldn't disagree more strenuously. There's no percentage in being a paragon of self-restraint and spending discipline while you're in your early 20s.

I was stunned that this guy works for a major financial media agency. The only saving point I can pull out of this is "early" 20s (he's 22). I'm 26, and I think I'm starting right on time (I began funding my 401(k) at 25). Perhaps he says this because most people in their early 20s have little or no money to save. However, he kills any last remaining hope I have for his philosophy when he states the following later in the article:

If anything, you're taking a dangerous and unnecessary risk if you try to be disciplined about money in your 20s. The risk is that you might make it to 30 or 40 without ever having had a prolonged period of irresponsibility in your life. And it's not just your youth that's at stake, it's your future.

If you spend your 20s grinding away, trying to follow all the financial disciplines that we're told make you a responsible adult, you'll never get the recklessness out of your system.

So, this is what he's going with. The two main points I've pulled from his article (you can read it to see if I've misled) is that between 20 and 40 there two extremes—you either save/invest your money OR you can live the fantastic life, but definitely not both. It's an unfortunate false choice.

As with anything in life, balance is the key. You should work to save what you can as early as you can. If you start in your 20s, saving 8-10% of your income in a 401(k) is a great idea because you have time to outlive the risks and market fluctuations and still do well. Not to mention that many companies will add more money to your contribution (free money). Waiting until you're late 30s or 40s to get started just makes things much harder. Plus, we've covered the importance time has over the actual money invested, here—with the actual Excel math calculation.

That being said, I think Mr. Mason is smart—he probably wrote the article to get a rise out of some readers. (He got me). I also think he makes some good points about how kids can't be kids these days with over-scheduling and rigid discipline (but I thought our generation was lazy and undisciplined…) which I could agree. It's not all about money, but with the protective safety nets projected to get smaller (Social Security, rising costs of health insurance, decline of pensions, and rising taxes) the burden of providing for your future days are falling more on the individual.

But maybe I'm just being too much of a financial "stiff"...what do you readers think? Does this guy know what he's talking about?



By the way, regarding our stock market game. Two points to understand-- (1) It's not too late to join us. (2) This game is to help people have a long view of the stock market. If anything, the game should be even longer, but I figured that it would be hard to keep people's interest for a year. Also, I don't know who 2win or SS07 are. If those are you, send me an e-mail or Facebook message.

Take your 401(k) Up a Notch!

Most of you already know the basic of personal finance--properly planning your spending, developing an emergency fund, saving as much as you can, preferably in an interest-bearing account. If you're working, and you're ready to place 8 -15% of your money in your 401(k), it's important to take charge of the options placed before you. Most individuals do little research on their investment strategies, often opting to

(a) let the company you work for allocate (spread around) your money, which usually means it will fall 100% into company stock, or
(b) finding the fund with the highest percentage and stashing your money there, or
(c) get confused and NOT save at all (give up).

If you've chosen (c), I implore you to come back to the table and not give up. The only way to learn is to learn about your investments and to try. (Take risk). If you've chosen (a) you're putting yourself in quite a high-risk situation.

Let's focus on (b). Since most mutual funds under-perform the market average (especially after deducting for taxes and portfolio turnover), you should seek with caution how you stash the money in the fund with the highest return. You should first check to see what number you're looking at. Make sure the return percentage is annualized over at least 5 years. (The longer the return period though, the better). Don't bother looking at how the fund performed over a 1 or 3 year period. 5 to 10+ years of having returns greater than the S & P 500 (after deductions) shows a consistency in beating the market.

Second, you should look at the prospectus on the fund. Your company should have these readily available. If it is not, then you ask them to provide them for you, or they should at least be able to answer whether the returns you see included loads, taxes, and turnover. (A quick note--turnover basically measures how often the mutual fund you hold trades in and out of securities. The more turnover, the higher the capital gains taxes, which will come out of your returns).

Consider investing in an index fund if the company offers one. This fund type invests in the S&P 500 (or another market index) proportionally across the entire index. Remember when I told you above that most mutual funds under-perform the average? Well, an index fund is the average. And the fees, taxes, and turnover are low enough to give you strong returns. (We'll explore Index Funds again in detail later).

Finally, consider investing in international stocks. An index fund that invests in international stocks is usually a pretty good bet because you can invest in an international sector and you can spread your risk around a bit.

So if you haven't checked it in a while, visit your 401(k) and make sure you're on the right track. Make sure your invest wisely, and don't get jittery with market fluctuations. Work towards allocating your investments towards index funds in your portfolio (if you have that option). If you don't have that option, complain to human resources, but then place your money in funds with low turnover, low fees, no loads, and consistent returns over at least 5-10 years. Supplement it with some international funds. Then relax. You'll be fine.

Questions? Comments? Drop us a line.