Whether you lose money in your retirement plan (401K, IRA, etc.) to market losses, fraud or management fees, doesn’t really matter – it all results in loss of your precious capital. Figuring out what you’re paying in retirement plan fees and how you’re paying it in most retirement plans is about as clear as mud, but trust me, Wall Street bankers don’t do anything for free.
Recent legislation designed to improve retirement plan fee disclosures has resulted in over fifteen pages of disclosures which has actually made it more difficult than ever for the average person to determine what they are actually paying. There is still no requirement for companies to provide a simple figure or percentage to represent the overall cost to the plan participant. If you study the disclosures you can find some retirement plan fee information, but to determine that your total fees are, say 2%, is all but impossible.
I was recently at a meeting where a financial advisor for one of the largest financial planning firms in the U.S. was explaining that their overall fee structure ranged from 1.6% to 2.4% depending upon the amount of money in your portfolio and the strategies you chose. He was pitching 1.6% to 2.4% as a selling point in that these are very low compared to his competition. I put some numbers together to see for myself how it turns out in the real world. Check out the video below to see the results:
So let me get this straight. If my portfolio does well, the planners get a huge share of my returns. If my portfolio fails and I lose money or break even, the planners not only still get their fees, but I’m actually paying them out of my principle for their poor performance! By the way, none of these examples takes taxes into account. Between taxes and fees, an investor in any one of these examples would likely be losing money.
The reason management fees are so destructive to wealth building is because of the not-so-obvious fact that compounding interest works in both directions. Everyone can grasp the idea of earning compound interest over time, but few think about it in reverse. Interest you pay also compounds over time and ongoing fees as a percentage of your retirement plan balance are just interest charges by another name.