Your old 401(k)s isn’t just sitting there. And that is not unique to you — no one’s 401(k) ever just stays put, whether you are actively contributing to it, no longer contributing to it, or no longer employed by the employer offering it. This is the gist of a conversation that I had with someone a few weeks back.
This individual was under the impression that her 401(k) from her previous employer was simply going to stay put, now that she was no longer a part of that organization. In her estimation, nothing would happen to her money except that over the years she could expect to see some growth.
Based on my interactions throughout the years, many unsuspecting folks unfortunately seem to operate under this same erroneous assumption that could potentially lead to costly unintended consequences — as you are about to see in just a moment.
401(k)s, like any other similar investment vehicles, have certain fees associated with them. In my opinion, one of the most dreadful things surrounding these plans is that these fees are not disclosed anywhere on the statements you receive as being deducted from your account balance, because they are deducted directly from your returns.
For example, say that the fees associated with your 401(k) were 1.5 percent a year. If your investments earned, say, a 6 percent return for the year, you’d only end up seeing an increase of 4.5 percent (6% minus the 1.5% fee). Yes, you can say that the fees get paid on the back end.
In the case of the individual with whom I had the above mentioned discussion, I was able to dig out the associated fees on her old 401(k) from her former employer’s Summary Plan Description document.
And it wasn’t great news. As an employee, her fee was approximately 1.5 percent annually. However, once she was no longer actively employed by the organization, it increased to 2.5 percent. I must note here that this practice isn’t unusual in the 401(k) world. It’s pretty standard for your fees to increase when you are no longer part of the sponsoring employer’s workforce. A good question is: How many folks out there are aware of this? Do you know how much you are paying in fees? The fact is that these fees matter a lot, because they directly affect the outcome you’ll end up having when the rubber finally meets the road.
Let’s assume this individual had about $100, 000 in this old 401(k), and it will earn a return (before fees) of 8 percent a year for the next 10 years. If she were still employed at the company offering the plan, her net return after deducting the 1.5 percent in fees would be 6.5 percent. In 10 years, her money would have grown to about $191, 218. Unfortunately, however, since she is no longer an active employee, her fee goes up to 2.5 percent, meaning her net return comes down to 5.5 percent, which equates to a balance of $173, 107 at the end of those 10 years. That comes to about $1, 811 extra fees a year ($18, 111 over those 10 years).
This lady thought all along that her money was just sitting there; she learned the hard way that this isn’t the case because that is not how investment accounts of any kind work. This realization gives her the opportunity to seek an alternate investment account that will get her the same or a potentially better return, but with a lower fee structure so she’ll come out ahead and end up keeping more of her money. And from where I am sitting, isn’t that the goal of every hard working investor?
When it comes to your old — or current — 401(k), are you asking the right questions, or simply making assumptions?
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