A 401(k) plan doesn’t have an expense ratio, per se, but the overall cost of the plan includes the expense ratios of the funds in an investor’s account, as well as other charges like plan administration fees and the like.
So what is a good 401(k) expense ratio? Ideally, the lower the fees for the plan the better, including the expense ratios of the investments in the account, because fees can lower portfolio growth substantially over time.
While investors don’t have control over the basic costs of their 401(k) plan, they can opt to choose investments with lower expense ratios, e.g. under 0.50% if possible.
What Are Reasonable Fees for a 401(k)?
To determine the amount you’re paying for a 401(k) plan, divide the total plan cost (usually available on your 401(k) statement) by your total investment.
Expense ratios can vary among plans for a variety of reasons, including how the 401(k) account is managed, the administrative fees, the record-keeping costs, and so on. While investors don’t have any say over the built-in costs of the 401(k) plan — that’s set by the plan administrator and/or your employer — investors can manage their own investment costs.
Choosing Lower-Cost Funds
In passively managed funds (where a portfolio mirrors a market index like the S&P 500), the expense ratio is typically lower as compared to actively managed funds, which might charge between 0.5% and 1.0% or more. Actively managed funds have a fund manager who employs different buying and selling strategies. Generally, this is because more work is being done on the manager’s part in an active strategy vs. a passive strategy.
Note that active investing can refer to individual investors, but the philosophy of making trades to exceed market returns also drives actively managed funds.
Passive strategies generally have expense ratios under 0.50%. Exchange-traded funds (ETFs) usually follow a passive strategy and can have expense ratios under 0.25%.
Why Fees Matter
Over time, just one or even half a percentage point could potentially make an impact on a retirement account. That impact could in turn mean the difference between retiring when planned, vs. working a few more years until the overall investment grows. A lower expense ratio could help an investor maximize their 401(k).
For example, a well-known Government Accountability Office analysis from 2006 found that someone who invests $20,000 every year for 20 years in a 401(k) plan that costs 1.5% per year to operate is likely to end up with 17% less than someone whose plan costs just 0.50%. The analysis concluded that after 20 years, that half a percentage point meant the difference of more than $10,000. Similar studies on the impact of fees have found similar results.
Until relatively recently 401(k) expense ratio information wasn’t public, and even now it can be somewhat difficult to locate.
How to Reduce Your Expense Ratio
Before an investor can attempt to reduce their expense ratio, they need to be familiar with what it is.
Until relatively recently 401(k) expense ratio information was not public, and even now it can be somewhat difficult to locate. In 2007, the Securities and Exchange Commission (SEC) approved an amendment requiring the disclosure of these fees and expenses in mutual fund performance and sales materials.
Today, there are a few ways to get the information — and take action:
• Read the fine print. Look closely at 401(k) participant fee disclosure notices, which participants should receive at least annually with any plan. Or look for the current information in a funder’s prospectus on their website. Building on the 2007 amendment, the DOL introduced a rule in 2012 to improve transparency around the fees and expenses to workers in 401(k) retirement plans.
• Ask outright. Investors seeking more information might also choose to call their fund’s client services number directly to get the most up-to-date information on plan costs. Investors who work with a financial advisor can also ask their advisor for this information, as well as their opinions on these expenses.
◦ Evaluate your funds. It can also be helpful to look at the funds being offered by an employer, provider, or broker to see if there is a similar fund that comes with lower expenses. Investors may be able to find the investments they want at a cheaper price, even within their current 401(k) plan.
For investors whose 401(k) plan is not through a current full-time employer — a common situation when people change jobs — they may want to consider a rollover IRA in order to pay lower fees and gain access to a wider array of investments.
The Takeaway
There’s no magic number that indicates a 401(k) expense ratio is too high or just right, and all plans are different. But if you take into account the cost of your investments in addition to the plan itself, you shouldn’t be paying much more than about 1.0% to 1.50%, all in.
Under federal law, employers have a fiduciary duty to offer reasonably priced options and to monitor the quality of the 401(k) plan they offer. The more an investor knows about their current plan, the better equipped they are to make compelling arguments for how to improve their plan.
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