Uncover The Hidden Fees In Your 401(k) Plan

Marketplace Money, the personal finance program on public radio, had a segment on 401k plan fees a few weeks ago. The host Tess Vigeland interviewed pension consultant Matthew Hutcheson, who said 90% or more of all 401k plans pay 3-3.5% in fees. Here’s a quote from the transcript:

Vigeland: How high do some of these costs go? Are we talking 3 percent? 5 percent?

Hutcheson: The average plan, which is really 90 percent or more of all of the 401k plans in the United States, is paying approximately 3-3.5 percent. However, there are some plans, especially those that are associated with insurance companies, that have additional layers of fees added on; I’ve seen as high as 5 percent.

The 3-3.5% number, if true (see note 1), is devastating, especially if you also don’t get a match from your employer. A $1,000 investment growing at 10% a year for 30 years becomes $15,220 if you pay 0.5% in fees. If you have to pay 3% in fees though, the same investment grows to only $7,612, or only half of  what you could’ve got with lower fees.

It is true that it’s not easy to find out exactly how high the fees are in a 401k plan. Asking the HR department or the 401k vendor won’t help much because even they don’t necessarily know. You are likely to get a wrong answer from them.

While the expense ratios on the funds are usually disclosed, the admin fees are often hidden. Some employers pay the admin fees out of their own pocket. That’s good. Some employers let the vendor take out the fees from the participants’ accounts.

I used to work for a company which used Manulife, now John Hancock. Their fund performance sheet lists the expense ratio (ER) for each fund. Then it says in a footnote,

“The ER does not include any contract-level or participant recordkeeping charges. Such charges, if applicable, will reduce the value of a participant’s account.”

That’s telling you there can be hidden fees. You should find out how much the fees really are in your 401k plan. But how? You can wait until the government comes out with mandatory disclosure rules or you can take your own initiative. Here’s a simple method. It requires some patience though.

  1. Find in your plan’s menu one fund that you are not using.
  2. Do a one-time transfer and move $100 to it. Do not include this fund in your periodic payroll contributions.
  3. Wait until a full quarter passes. On your next quarterly statement you should have the beginning and ending balance for that fund.
  4. Calculate your gain or loss in that fund. Compare your actual gain or loss with the reported gain or loss number of the fund in the quarterly statement. If your actual gain is less than the reported gain, or if your loss is higher than reported, the difference is caused by hidden fees. Multiply the difference by 4 and you will get the annual percentage for the hidden fees.
  5. Add the hidden fees to the weighted average expense ratio of the funds you are using, and you will get a better picture of the total fees in your plan.

For example, suppose your balance in the test fund was $102.53 at the beginning of the quarter, your ending balance was $105.11 and the reported gain for the fund was 2.98%. Your actual gain during the quarter was 105.11 / 102.53 – 1 = 2.516%. The missing 2.98% – 2.516% = 0.464% is caused by hidden fees. Multiply by 4 and you are paying 0.464% * 4 = 1.86% extra fees on top of the expense ratio of the funds. If the average expense ratio of the funds you are using is 1%, your fees are now 2.86%.


(1) Read more about how Matthew Hutcheson calculated the 3-3.5% number in his paper Uncovering and Understanding Hidden Fees in Qualified Retirement Plans.

(2) The 3-3.5% number is probably on the high side for the average 401k participant. While it may be technically true that 90% or more the plans pay 3-3.5% in fees, because fees are higher in smaller plans with fewer participants than larger plans with many more participants, I don’t think the average participant pays that much. Still, you should find out how much you pay in your plan. Hence this post.

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  1. Anonymous says

    What about dividends that will be deposited in the last month of a quarter? Would they not impact the calculations?

  2. Anonymous says

    TFB, why worry about something that you can control? Suppose you find out the fee is too high in your opinion. What are you going to do? Stop participating in 401K? We all are hostages of our companies in that regard, whatever they negotiate, we will have to accept

  3. serbeer says

    Sometimes we can control it. For example, I still have money in my old employer’s 401K since it has very good choice of funds AND since I don’t want to move money into rollover IRA since I hope to convert my Non-deductible IRA to Roth in 2010.

    But I’d appreciate if TFB answer my previous question about dividends. That may be a problem, I don’t think dividends are factored in EOQ fund performance report… Of course, I can simply subtract them before looking at account’s performance… But not sure what is the right thing to do. What do you suggest TFB?

  4. Harry Sit says

    @serbeer re: dividends – The reported fund performance should be consistent with the activities in your account. If dividends were reinvested before the end of the quarter, the reported performance number should reflect the reinvestment. If dividends were reinvested after the end of the quarter, then those dividends should be reflected in the performance number for the next quarter. Either way, you don’t have to do anything special about it.

    @anonymous re: what can you do about it – Knowing the number is the first step. It helps you make decisions on (1) whether to leave your money in your old 401k plan after you leave; (2) whether you should prioritize funding your own (Roth) IRA after you get the 401k match. It also helps if you want to lobby your employer about switching to a different 401k provider. Sometimes the current people in charge don’t even know how high the fees are because the contract was signed years ago by somebody else. I was able to convince my former employer to switch to Vanguard after I showed the company owner he was paying more than 3% in fees from his own 401k account. The fees hit him the hardest because he had the largest balance in the plan.

  5. Ted says

    I just put $100 in the balanced fund in my 401k (ER 0.90%) to conduct your fee test. I will post the results at the end of June.

  6. JoeTaxpayer says

    Well, anon, the assumption of the 401(k) is that you will save while in say the 25% or 28% bracket but withdraw at 10% or 15%. Best case is 18% less. A 3%/yr extra expense makes the 401(k) moot, why bother? Deposit only if the match is great and only use other accounts. if no match, don’t use 401(k) at all.

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