Don't Get Duped by Investment Fees

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Published November 27, 2012

| FOXBusiness

When it comes to choosing mutual funds to build your 401(k) or retirement portfolio, there’s more to the decision-making process than the stocks that make up the investment. Funds’ fees can also have a serious impact on your total return.

“If you have a 401(k) with 2% fees or higher, over the course of 40 years of your working life you can easily end up with half of your retirement earnings going to fees,” says Bill Harris, founder of online wealth management company Personal Capital. “People think it’s just 2% but to make up what you’re paying in fees means five or more years of additional work.”

The type and amount of fees investors pay vary:  marketing and distribution fees are used to promote and sell the fund, other fees pay the fund manager if the fund is actively managed and administration fees cover all the expenses related to running a mutual fund.

Tisa Silver-Canady, assistant director at the office of Financial Education and Wellness at the University of Maryland, says administrative fees may be justifiable, but argues fees for marketing and distribution don’t benefit the investor.

“A fund with high marketing fees is not going to help people already invested in the fund,” she says. “If the company is spending a lot of money to market the fund those high fees can eat away at the return.”

The fees associated with an actively-managed fund are also questionable, according to mutual fund experts. Investors may not mind paying fees to have a top-notch fund manager pick the stocks that go into the mutual fund if the fund beats the market. But that’s not always the case, making the fees for an actively managed fund a waste of money if it doesn’t outperform.

“History shows most active managers don’t beat the market,” says Silver-Canady. “You don’t want to pay someone extra to do something that’s not earning you an extra amount of return over time.”

According to Greg Carpenter, chief executive of Employee Fiduciary, retirement investors are better off choosing passive mutual funds like an index fund or an ETF  for their portfolio to avoid fees and have a greater portion of their money grow. “You really need to figure out why you’re paying (for an actively-managed fund) because a lot of the time you have a match from your employer. Why do you want to chase an additional return when you get a match,” says Carpenter.

Just like the types of fees vary, the percentage you will pay also differs. Often employees of large corporations will pay less in fees than those at small and medium businesses because larger organizations have more power to negotiate. Experts say total fees of 1% or below are considered good, while fees of 2% or more are considered “ugly”. “There is a lot of ugly,” says Harris.

In addition to the fees, investors have to be aware of their investment’s share class. Each share class has a different fee associated with it, explains Carpenter. For instance, one share class can charge fees of 67 basis points while another can charge 192 basis points all for the same underlying investments, he says.

Even though mutual fund fees are public knowledge, finding out how much you are paying isn’t that easy. According to mutual fund experts, federal legislation has been circulating for years to require funds to disclose fees, but it has only been in 2012 that the Department of Labor issued regulatory advice mandating disclosure of fees to participants.  While that helps, deciphering the fees is still tough because they are often disclosed in long legal-like documents, says Harris. 

Investors have to rely on their employer to explain the fees or check the fund fees online with one of the many mutual fund research websites. “When you get your statement it’s not spelled out for you,” says Silver-Canady. “Don’t be discouraged if the information isn’t right in front of you. It may be hard to find but it’s worth digging for.”

 

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