Break Free of High 401(k) Investment Fees

05/15/2015 03:33 pm ET | Updated May 14, 2016

If you're like most workers in a recent survey, your 401(k) plan is your largest or only source of retirement savings.1 Also, like most workers, you may be paying higher fees than you realized for some of the investments in that 401(k). The actively managed mutual funds that make up most 401(k) assets can have high expense ratios, meaning that many of the dollars you contribute go towards investment management fees rather than towards your own account balance, resulting in less money for you to invest over the course of your career.

Fortunately, many 401(k) plans now include low-cost investment options, like index mutual funds and exchange-traded funds (ETFs). Both types of index funds typically come with lower investment fees than actively managed mutual funds, which pay a fund manager to try to beat the market. Since index funds typically are designed to mirror the market, they can cost less to operate, and as a result their investment fees can be lower.

I'll put this into perspective. A retirement plan menu of actively managed mutual funds may have an average expense ratio of 65 basis points, or $65 for every $10,000 invested. Compare that to a plan with a menu of index funds, which has an average expense ratio of just 10-15 basis points, or $10-$15 for every $10,000 invested.2 Over time, that difference can really add up. In fact, by using low-cost index investments, a participant in a 401(k) plan could have over $115,000 more at retirement.3

Despite the significant cost benefits, not everyone who has access to low-cost investments takes advantage of them. According to a recent study, while some 84 percent of 401(k) plans offered index funds as part of their lineup, index funds held just a quarter of 401(k) assets as of a few years ago.4 Knowing more about the benefits of these kinds of investments could certainly help many more workers as they save for retirement.

Even though you aren't directly responsible for the selection of funds available in your company's plan, you can decide which ones to invest in. First, be sure you're up-to-date on which investments are available to you, and take special note of any index mutual funds and exchange-traded funds on the menu. When allocating your contributions, take care to maintain the right mix of asset classes to satisfy your savings goals and risk tolerance. If you're not sure what's best for your unique situation, take advantage of any professional investment advice that is available as part of your plan.

If your plan does not include any index funds, you should still be mindful of the expense ratios of the funds that are available to you. The Department of Labor now requires your plan's administrator (generally, your employer) to provide plan, investment and fee information to you. You can also talk with your employer or HR representative about your plan's selection of funds and any opportunities to include more index funds going forward.

These days, planning for retirement is a responsibility that falls squarely on each of us, so it pays to understand how you can make the most of the money you're putting in your 401(k). While no one can predict the market, you can make proactive choices about where you allocate your dollars. Staying mindful of fees and choosing low-cost investments can make a difference when it comes to reaching your savings goals.


1. 2014 401(k) Participant Survey conducted by Koski Research for Schwab Retirement Plan Services, Inc. Koski Research is not affiliated with Schwab Retirement Plan Services, Inc.

2. Based on Schwab Retirement Plan Services research using (1) 2010 data from 195 defined contribution plans serviced by Schwab Retirement Plan Services, Inc. and Schwab Retirement Plan Services Company, and (2) 2010 data from a comparison set of plans serviced by other providers. In this comparison set, the weighted average operating expense ratio (OER) for midsize plans ($20 million-$100 million) using primarily actively managed funds was $55-$95 per $10,000 invested, and for large plans ($100 million-$350 million) the OER was $50-$75 per $10,000 invested. 65 basis points is the average of the range. Index mutual fund estimate is based on an average weighted OER of $15 per $10,000 invested in plans that have implemented the index mutual fund version of Schwab Index Advantage® and the estimated average weighted OER of $10 per $10,000 invested for the exchange-traded fund version of Schwab Index Advantage.

3. Hypothetical assumptions for illustrative purposes only supporting an additional ~$115,000 to a 401(k) participant's retirement savings: Annual market growth, 7.50%; initial contribution rate (year 1), 5.00%; increase in contribution rate (year 2-6), 1.00%; ongoing contribution rate (post year 6), 10.00%; industry standard employer match, $.50 per $1 for the first 6% of income contributed; beginning salary, $50,000; yearly salary increase, 3.0%; starting age, 25; age at first year of distributions, 55; percent of last salary distributed annually, 50.0%; Approximate difference of $115,000 represents the additional account balance resulting from an investment allocation comprised of index mutual funds with a weighted operating expense ratio (OER) of 20 basis points versus an investment allocation comprised of actively managed mutual funds with a higher weighted OER of 86 basis points. The 86 basis point assumption is based on Cerulli analysis of mid-sized 401(k) plans. Assumptions do not factor in the potential impact of professional, independent advice services, nor any fees that may be associated with these services or other fees that may be charged to a participant account.

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