401(k) Awareness

E*Trade, known for its talking baby TV commercials, aired a different TV commercial recently stating that a typical family could pay $155,000 in hidden fees in their 401(k) over their lifetime.  The ad prompted viewers to Google “401k 155k” to learn more, so I did.  I found an article discussing the basis for the claim.

The loss of $155,000 due to Wall Street fees is a staggering number, but that’s not what I found surprising.  The fact that 401(k) plans have outrageously high fees is not news to me.  I’ve examined hundreds of 401(k) statements over the years for clients and it’s appalling the lack of care exercised by companies in managing retirement accounts for employees. Hidden fees are destroying the chance for many investors to accumulate the nest egg they will need in retirement. 

The $155,000 figure was surprising, because the average 401(k) account balance is lower than that amount. This number was quoted from a study by Demos, which looked at the income of a two-wage earner, medium-income family and made assumptions about their savings rate, investment return and other factors to arrive at the amount of wealth extracted in fees over many years. The hypothetical couple eventually accumulates $350,000 by retirement, which is quite plausible, because I’ve worked with many clients who have saved even more.

401(k) plan fees have not been disclosed very well and there are a wide range of plans available. There are some excellent low-cost plans, while others could be best described as legal robbery. Ameriprise, a major brokerage firm and provider of 401(k) investments to other companies, was recently in the news, because its own employees are suing the company for offering them such a bad 401(k) plan - one similar to plans they administer for other companies.

Employers don’t intentionally offer terrible plans to workers. It’s more due to lack of knowledge and being sold programs by financial firms much the way individual investors are sold inappropriate products and services. Fortunately, the Labor Department has imposed new regulations on 401(k) administrators to provide much more disclosure of fees and a higher standard of fiduciary care for plan participants. Hopefully, this will open the eyes of not only the employees, but the employers as well. For certain, it will have many companies scrambling to become compliant with the new laws. This heightened awareness of investment costs is a welcomed opportunity for investors who want a reasonable quality of life after retirement.

Sadly, these rules won’t do much for investors outside of 401(k) plans. That’s the reason I’m pleased with the E*Trade advertisement and surprised by the fact that a mainstream financial service firm like E*Trade would go on the offensive against other financial companies. Of course, Vanguard has pioneered and trumpeted low-cost products for years, but they have not aggressively attacked other companies in the industry they way E*Trade is doing now.

I’ve noticed that E*Trade hasn’t stopped with 401(k) fees. They have also taken aim at independent investment advisors, who manage money for people for a percentage fee. In another TV ad, E*Trade is warning that 2% is too much to pay for an advisory fee. People don’t invest for retirement only in so-called retirement accounts, so it’s important to keep all investment costs as low as possible.

The advertisement overstates the typical advisory fee, which is more like 1% to 1.5%, but some advisors do charge 2% or more. Please note that there are other costs in addition to the advisory fee to consider, as many advisory firms use expensive managed mutual funds that cost 1% or more. With these two levels of fees combined, many investors are indeed paying 2% in unnecessary costs.

Whether within a 401(k) or any type of investment account, fees take an enormous toll. I highlighted this in my article The Myth of Active Management with the example that a portfolio of $100,000 would grow to about $465,000 over 20 years if invested at 8%. However, earning just a 6% return by losing 2% to excessive costs and the portfolio would total about $320,000, a loss of $145,000!

The only solution that I see is to increase the awareness of consumers. It seems that the message is starting to get through, as there have been massive flows from actively- managed mutual funds into low-cost index funds and this trend is likely to continue.

Thank-you E*Trade for bringing this to our attention. I have to say, though, that I still like your talking baby commercials best!