Here’s something you haven’t heard in years: I have good news about your 401(k).
Last week, the Department of Labor published a new regulation requiring 401(k) plans to tell participants (that’s you), on an annual basis, what services they’re charging you for and how much they’re charging. No, this wasn’t already required. The regulation takes effect at the end of August.
“It’s an itemized receipt,” says Dave O’Brien, a certified financial planner in Richmond, VA, who helps businesses develop 401(k) plans. “Back in the 80s, when you bought a car, all you knew was the MSRP on the window. Today, you go to any different website and it tells you what the true cost is.”
O’Brien and other retirement plan experts I spoke to agreed on two things: People aren’t going to read the new disclosures, but it’s great news anyway.
“The new regulations are a huge deal, not necessarily because of what an individual can do with the information, but more about what’s going to happen to the overall marketplace,” says Mike Alfred, cofounder and CEO of Brightscope, which helps people see how their employer’s 401(k) stacks up. “You can already see that happening.”
For example, said Alfred, last month Schwab announced a new 401(k) product based entirely around low-cost index funds.
Let’s take a step back, though, and ask: Why does it matter how much your 401(k) costs? You never get a bill for it, right?
The high cost of 1 percent
In the world of 401(k)s, like the rest of the world, there are haves and have-nots. The haves work at big companies that have the size and power to negotiate with plan providers (the insurance companies and mutual fund companies that implement 401(k) plans for employers) for a 401(k) with great investment options and low fees. Think of these good 401(k)s as Disneyland.
Most people are stuck with crappy 401(k)s, full of expensive funds with extra management fees slapped on top. These are more like your skeezy neighborhood amusement park, lousy with pickpockets and greedy carneys. Or, to go back to Dave O’Brien’s car dealership example, these plans sell you undercoating without telling you.
The price difference between the best and worst 401(k)s is shocking. In 2009, the Government Accountability Office released a report that was mostly about the benefits of automatic enrollment in retirement plans, but also included these gems:
– “[M]ore than 80 percent of 401(k) participants reported in a nationwide survey not knowing how much they pay in fees.”
– And what you don’t know can hurt you: Over a 20-year period, a 1 percentage point increase in fees and expenses would reduce a worker’s ending balance by over 17%. If you have an expensive 401(k), you could literally be retiring years later so your retirement plan provider can get richer. And the difference in cost between the best and worst plans is a lot more than 1 percentage point. I’ve seen plans charging as little as 0.1% and as much as 3%.
“Providers, as you may know, don’t want this regulation, because it’ll make it harder for them to make as much money as they have in the past,” says Brightscope’s Alfred.
Let ’em have it
If you’re stuck with a 401(k) run by carneys, it’s probably not because you work for an evil company; it’s because your company is just as confused by this stuff as you are. The new regulations can help there, too, because they require itemized disclosures from plan providers (Schwab, Nationwide, Merrill Lynch, and so on) to plan sponsors (your boss).
Even though the regulations don’t go into effect for another six months, it’s worth trying to figure out what your 401(k) is charging you now. Nobody (other than weird personal finance writers) enjoys talking to their benefits department, but it wouldn’t hurt to let them know that you understand there are new rules coming soon and you’d like to get that information as soon as possible. My fantasy is millions of employees waving their annual fee disclosure forms and descending on their benefits offices in droves, but I’m a weird personal finance writer.
If we’re going to ask workers to manage their own retirement savings, the least we can do is give them an honest, accurate bill. “The spirit of this is, you should know what you pay for,” says O’Brien.
That’s a good start. Now I’m going to go into fantasy mode. You know the sticker on your water heater that shows you how energy-efficient it is compared to the competition? Wouldn’t it be great if your 401(k)’s annual report had to put your expenses in context?
This is, not coincidentally, a lot like what Brightscope shows you on their website, but a federal mandate would make the information more specific and more widely available. If you’re paying 1.1% for the same fund that charges 0.5% in the 401(k) of the company next door (and this happens all the time), wouldn’t you like to know?
Oh, one more thing: I’d like to apologize to carneys for comparing them to financial services industry professionals.