We all know that the U.S. has a looming retirement crisis. The baby boomers do not save enough for their golden years. Social Security is funded at levels that are less than ideal. Private savings in the form of Individual Retirement Accounts and tax-qualified plans like 401(k)’s also appear to be insufficient.
One of the dirty little secrets about 401(k) accounts is their under-performance — returns average 3 percent to 4 percent versus 8 percent to 10 percent for comparable 70/30 balanced portfolios. One of many factors that drive these weak returns are the drag from excess fees.
Over the years, I’ve reviewed plans that included a mess of fees for anyone who so much as looked at the accounts: Custodians, reporting firms, Internal Revenue Service filers, consultants, managers and advisers. All of these take a few basis points, rather than a flat fee per investor. The compounding of all these fees degrades returns over time.
While retirement accounts have many issues — behavioral errors and over-active management leap to mind — the British have made high fees front and center. The U.K. is debating putting a 0.75 percent cap on total fees, including an outright ban on any plans that charge more than that.
Perhaps more surprising, this proposal comes from the right-wing Conservative Party. The fear is that any retirement shortfall ultimately gets picked up by the government. High pension fees = future tax increases, according to the Tories.
A retirement plan fee of 0.75 percent of assets is considerably less than the average in the U.S. Typical 401(k) plans run between 1 percent and 2 percent, according to a recent Limra survey. Just last year, new fee disclosure rules from the Department of Labor went into effect that are letting 401(k) participants more easily figure out exactly what they are paying in fees.
Note that it is the Labor Department that governs these plans, and not the Securities and Exchange Commission. Its charge is to the employee, as workplace tax-deferred accounts are a form of compensation. In the U.S., recent 401(k) rule changes have imposed a fiduciary standard on employers. If you have not reviewed the fees your 401(k) plan charges your employees, you may not be living up to those standards.
The U.S. should watch the Brits’ experiment, and learn from it.
What are you paying for your 401(k) fees?