401(k)s: Saving for Retirement and Saving on Fees
Retiring comfortably is something that many people aspire to. But thinking years in advance can feel daunting. Luckily, there are a few steps that anyone can take that can help make their path to their golden years easier. These three steps can help make retirement dollars go farther.
Consolidation can save on fees
Many people use 401(k) accounts to save for retirement. They can be great tools – they can reduce tax liability for the year and many companies match contributions.
But they can also feel overwhelming. According to the Bureau of Labor Statistics, a person born in the latter stages of the baby boom (1957-1964) held 11.7 jobs on average from age 18 to 48.1 That means individuals in that group could potentially accumulate as many as 12 different 401(k) accounts throughout their life. That can be a lot of 401(k)s to think about and manage!
Investors may want to consider the impact of 401(k) fees on their investment returns.
According to the Department of Labor (DOL), a 1% increase in fees over a 35 year period may lead to a significant decrease in retirement income:
Assume that you are an employee with 35 years until retirement and a current 401(k) account balance of $25,000. If returns on investments in your account over the next 35 years average 7 percent and fees and expenses reduce your average returns by 0.5 percent, your account balance will grow to $227,000 at retirement, even if there are no further contributions to your account. If fees and expenses are 1.5 percent, however, your account balance will grow to only $163,000. The 1 percent difference in fees and expenses would reduce your account balance at retirement by 28 percent.2
Having multiple accounts may mean having multiple fees for getting the same results. Many custodians lower their fee rates (as a percentage of assets under management) as the dollar value of assets in an account increases, so consolidating multiple 401(k) accounts may allow investors to trigger lower fee rates.
Consolidating 401(k)s that are already under the same custodian is usually simple and often can be done mostly online. It is usually more difficult to roll over 401(k)s from one custodian to another custodian. Consult with a financial advisor or comparable resource to weigh your options and determine some recommended strategies.
Maximizing contributions can help
The 2016 maximum dollar contribution per year for a 401(k) is $18,000 as an individual or $36,000 as a married couple filing jointly.3 Note: This requires each individual to have their own 401(k) plan through their respective employers, where the limit is still $18,000 per person. That number increases by an additional $6,000 for individuals aged 50 and older. Two great things can happen as a person contributes more towards the maximum allowable contribution amount per year:
- Potential to realize returns on more money invested and compounded; and
- Potential for lower tax liability as the total taxable income amount in the current year may be reduced.
A bonus third potential benefit: many companies match employee contributions. Keep in mind that an employer’s matching limit may not be the same as the maximum contribution limit. If so, contributing beyond the employer’s matching limit can mean potentially realizing returns on thousands of additional dollars contributed. Hitting the maximum contribution each year, regardless of an employer’s matching policy, can make a big difference.
Now, whether to try to hit the maximum contribution is a personal decision, and people should consult their investment or financial advisor. Weighing immediate goals versus potential long-term gains can be a factor in determining whether contributing additional dollars to your retirement fund is achievable (or worth it). Discuss your options with a financial advisor to determine the optimal strategy for your retirement goals.
Consider an IRA
While 401(k)s have many benefits, 401(k) investment options can be limited. Investors can consider rolling over a 401(k) into an IRA. An IRA can have similar benefits and characteristics of a 401(k) with one significant differentiator: IRAs typically allow the investor to choose from a wider variety of investments, not just those approved by their 401(k) provider. The owner of the IRA can often choose from multiple investment options to put their money in, including the usual suspects (stocks, bonds, CDs, etc.).
One of the primary questions to answer is which IRA custodian to choose. The answer varies based on many factors, including each investor’s goals, the investment strategy they choose to take, and the type of sign-up bonus offered (some can get quite hefty!). As always, consult with your investment or financial advisor prior to making these decisions.
In conclusion, investors should consider all of their options. Retirement is all a matter of time, and time is money.
2 Source: U.S. Department of Labor, “A Look At 401(k) Plan Fees”, updated August 2013 (https://www.dol.gov/sites/default/files/ebsa/about-ebsa/our-activities/resource-center/publications/401kFeesEmployee.pdf)
3 Source: Internal Revenue Service, “IRS Announces 2016 Pension Plan Limitations; 401(k) Contribution Limit Remains Unchanged at $18,000 for 2016 (https://www.irs.gov/uac/newsroom/irs-announces-2016-pension-plan-limitations-401-k-contribution-limit-remains-unchanged-at-18-000-for-2016)