401(k) Fees: The Wolf in Sheep’s Clothing

While the 401(k) plan has been around for decades, we are just now starting to see the cycle of this strategy.

Most people know that if you save in a 401(k) plan, you're able to deduct what you put into it on your income taxes. If you put $18,000 total a year into your 401(k) and you make $78,000 a year, then only $60,000 a year of your income is taxable.

However, what people don't talk about is how 401(k) plans are constructed, charged and the responsibility of the employer in managing those plans.

401(k) Fees

Even though 401(k) plans are tax-deferred until withdrawn, they may be loaded with up to 13-15 different fees that you would not normally have in a good IRA, Roth IRA or a non-qualified brokerage account. On a high-level range, these expenses can consist of:

• Communication expenses like enrollment and ongoing material fees;
• Record-keeping and administrative expenses;
• Participation fees;
• Loan origination and maintenance fees;
• Tax filing fees;
• Trustee fees, etc.

These fees can erode a substantial amount of your potential retirement nest egg.

Employers who create 401(k)s have a fiduciary responsibility to make sure they are doing everything they can to avoid high fees.

In fact, the US Department of Labor is auditing employers to see if their fees are too high.

According to CFO Daily News, in 2013:

“Nearly three-fourths (73%) of these investigations resulted in fines or other corrective action for the employers that were involved.”

The average fine last year was $600,000; up from $150,000 four years ago.

A small business owner, who in good interest creates a 401(k) plan for their employees and who trusts their broker’s advice, could unknowingly be in a high-fee plan that could result in hefty fines for themselves.

What can employers do?

As an employer, the Department of Labor requires small businesses to compare annually their 401(k) plan against others to make sure fees are reasonable. You can research 401(k) plans on the Internet, talk to your advisor or call a company like ours to ensure your plan is adequately audited and in line with the industry standard and you are not paying excessive fees.

What can employees do?

Take ownership of responsibility of where your money goes. As an employee, it's important to understand the fees being paid for your plan. Talk to your employer (chances are they don’t know and will be appreciative of the help) or call our office to check your 401(k) fees; we can help you navigate the complicated language reports. After all, this is your net worth that gets reduced by the potential excessive fees.

Does a divorce void a 401(k) spousal beneficiary?

Not by operation of federal law, but that doesn’t mean the answer is always “no.” In some states, law says that after a divorce, an ex-spouse is no longer considered to be a person’s beneficiary (unless they are reaffirmed as a beneficiary afterwards). A similar provision can be built into plans as well. So while the answer is generally “no,” you’d have to check your state law and the plan’s specific language to be 100% sure.

We say at Strada Wealth Management, “make informed financial decisions.”

• You cannot control taxes, but you can try to minimize them.
• You cannot control inflation, but you can work to protect against it.
• But fees, you can control.

These 3 things will eat away at your wealth the most over the course of your investing life. Control what you can and work with what you cannot.

Jennifer Failla, CDFA™
Principal, Strada Wealth Management
Toll Free: 866.526.7098
Email: info@stradamanagement.com

Ensuring Long-Term Financial Interest

Ensuring Long-Term Financial Interest

Tax efficiency - when discussed in divorce, portfolio construction, and investing in general - is how much of your money is left over after you’ve paid your taxes. How efficient was that investment to your personal bottom-line?

To understand how efficient a particular investment may be, a person must understand what they own inside the portfolio, but also how those instruments are taxed so they can efficiently calculate their true net income potential. At the end of the day, you need to understand how your investments are working for you and how your life is impacted by it.

There is often confusion around what is taxable, what is tax-deferred, and what is tax-exempt.

• Taxable accounts, such as a checking account that earns interest, would be subject to taxes on the interest.
• A tax-deferred account indicates investments which are sheltered from taxes as long as they remain inside of the account; for example, an Individual Retirement Account (IRA) or 401(k) plan. If those investments are taken out, those monies will be taxed at ordinary income tax rates.
• Tax-exempt investments are those not subject to federal or state taxation, such as income from a municipal bond.

The distinction is important to understand, especially in a divorce when a client might be reviewing an account for income potential. Income from a taxable account will be treated differently than a tax-deferred account, depending on the client’s tax bracket. A tax-deferred account may have growth, but taxes must still be paid when funds are withdrawn. A good question to ask oneself is: how much net income will this investment in this account yield me?

Each account has advantages and disadvantages. The first steps to becoming tax efficient and investing wisely is to understand your tax bracket; understand the classification - or “titling” - of your accounts; and understand the investments in your accounts and how they affect the income.

There is a common rule that the investor should protect inefficient investments in tax-deferred accounts (e.g., 401(k)s and IRAs), and tax-efficient investments in taxable accounts (e.g., brokerage or checking accounts).

Placing high-growth stocks, Exchange Traded Funds, and mutual funds in tax-deferred accounts like 401(k)s and IRAs can allow an investor to make trades, capitalize on profits, losses, etc. without the worry of taxes. Tax-inefficient accounts might be a good fit for municipal bonds since the income generated is tax free.

This is not a catch-all, but it can provide a guide for understanding. An investment advisor or your tax professional can help sort through the specifics in your individual portfolio.

We have a saying in our office: “Divorce forces you to put your financial house in order.” We say this a lot. Every investor can benefit from taking a hard look at what one owns, why it is in a particular account and whether or not it is even working for the needs and objectives of the investor.

Jennifer Failla, CDFA™
Principal, Strada Wealth Management
Toll Free: 866.526.7098
Email: info@stradamanagement.com