Is your 401(k) plan wildly expensive, average, or wickedly efficient and inexpensive?
You probably don’t know. Your employer may not, either — particularly if you work for a small company.
Sadly, while the laws have changed to require expense disclosures, the information provided is often foggy. The new disclosures are far less than a “You Are Here” map for expenses.
But costs matter. And a “You Are Here” map exists. It can be found in the 14th annual edition of The 401(k) Averages Book, published by Pension Data Source in Baltimore and available through its website, www.401ksource.com. The book provides data on how the expenses of smaller 401(k) plans vary with both the size of the plan and across plans of any particular size.
Why the focus on small 401(k) plans? Simple. Costs are less of an issue with large plans. At the far extreme of low cost, the government’s Thrift Savings Plan has annual costs, all in, of 3 basis points. That’s three one-hundredths of 1 percent. The annual cost for a worker with a $50,000 balance is a mere $15. You can almost hear the pennies rubbing against each other.
Major companies like Exxon Mobil and Texas Instruments are close behind. With these low-cost plans, you’re getting virtually all of the return on your retirement savings. The financial services industry is getting very little. The difference at retirement, as I’ve shown in many columns, can be measured in years of income, not pennies.
But small plans exist in a kind of frontier land. There, the cost can be determined as much by whom the boss plays golf with as by the seeking of the best return on the employee benefit buck. Worse, the boss may fail to realize how expensive his golf games are to everyone, including himself. In a recent telephone interview, Joseph Valletta, co-publisher of the book, said “employers usually have the highest balances in the plans, so they have a vested interest in keeping plan costs low.”
Here’s an example of how much plan costs can vary:
Suppose you work for a company whose 401(k) plan has 25 participants and $1.25 million in assets, or an average of $50,000 a participant. The average plan in that size range has total annual expenses of 1.53 percent a year. Of that amount, 1.38 percent goes to investment expenses (the expenses of the underlying mutual funds), 0.13 percent for record-keeping administration and 0.02 percent for trustee fees. That brings the total average annual cost per participant to $765.
The most expensive plan of the same size, however, has costs of $1,049 a year per participant. The least expensive plan costs $238 a year. That’s a big range. All of that difference is coming out of the pockets of plan participants.
Viewed another way, the 2.1 percent annual cost of the most expensive plan was more than four times the 0.48 percent cost of the least expensive plan. It is a whopping 70 times the cost of the Thrift Savings Plan.
The book also found a broad range of expenses for different investment choices in plans of that size. While the average cost for a large U.S. equity fund was 1.43 percent, the lowest cost was 0.24 percent. The highest cost was 2 percent. Target-date funds averaged 1.38 percent. But the lowest cost was 0.18 percent. The highest cost was 1.92 percent. In general, the most expensive funds cost eight to 10 times more than the least expensive funds. That’s quite a difference.
Is there any good news here? Yes. First, a map is available — The 401(k) Averages Book. Second, the problem of high expenses diminishes as plans grow larger. A very small plan with 10 participants and $500,000 in assets has average total expenses of 1.9 percent, but a plan with 2,000 participants and $100 million in assets has average total expenses of 0.90 percent.
Expenses decline as assets increase. The cost of record-keeping and the plan trustee, for instance, are a significant burden for small plans. But the burden virtually disappears by the time a plan has $50 million. Still, there is a big cost difference between the most and least expensive plans with such assets, with the most expensive plan costing $568 per participant (1.14 percent) and the least expensive costing $103 per participant (0.21 percent).
SCOTT BURNS is a principal of Plano-based investment firm AssetBuilder Inc. His e-mail address is email@example.com.
— Universal Uclick