If I were to ask you what 401k fees you pay, you would probably say nothing. Well, that’s not true. You are paying something, but it is hidden. The Department of Labor is about to change that. They are requiring that your employer provide you with information concerning the 401(k) fees that you are paying in an easy to understand format. Many people won’t be happy.  They thought they were paying nothing.

Here is how the fees have been hidden all these years:

Annual fee- A small annual fee of $25 or more is added to your account at the beginning or ending of the year. You are paying that to a custodian who takes your contributions and invests it for you according to the investment choices you make.

Higher investment costs- Let’s say ABC mutual fund costs you $25.50 a share to buy in your 401k program but if you bought ABC mutual fund outside of your 401(k) you would be paying $25.25 a share. The difference $.25 is a fee that you pay for that investment choice.

Higher expense ratios- Let’s say ETF fund has a low expense ratio on .50 in your 401(k) plan. That is the amount of fees of the account that goes towards the investment management of ETF Fund and the marketing (quarterly reports, performance statements, etc.) of ETF Fund. You could probably purchase ETF Fund for .10% outside of your 401(k), but the difference is a fee that you pay for the privilege of having to purchase that fund in your 401(k).

Wrap accounts and the brokerage account options can also have additional fees that you will pay in a 401(k) plan that you would not normally pay.  In a wrap account, you pay for access to a professional investment manager who takes a fee which is a percentage of assets under management. There is also an additional percentage (usually anywhere up to an additional 1%) tacked on for the privilege of getting access to that particular investment manager or sometimes called a marketing fee.

Next time you need information about retirement and open up your 401K statement, look for those fees. Soon it will be stated clearly what you have been paying. In a bull market, it is easy to dismiss such fees but when the market is down, it can make losses even larger. Don’t be afraid to speak up to your employer and request that a plan with lower fees be offered. Check with your Financial Advisor or a Wealth Coach to see if your fees are in line with the average.

What do Verizon, US Airways, John Deere and Co., Seagate, Marathon Oil, Ernst and Young and Shell Oil Company all have in common? They all offered Fidelity Magellan as an investment option in their retirement plans in 2010 ( as did 1,400 other companies).

The important question is: Do plan sponsors still offer Magellan?

In fact, some companies have:

1. Removed Magellan from the plan all together,
2. Others have frozen the fund i.e. do not allow new money into the fund but participants can leave current money in the fund
3. And for some, Magellan remains an investment option.

If a company has not removed a poor performing fund from its retirement plan then it is a violation of Department of Labor (DoL) Guidelines, which have been affirmed in the courts. “A fiduciary must initially determine, and continue to monitor the prudence of each investment option available to plan participants.” (4th Circuit Court of Appeals)

The impact of not properly supervising a plan’s investment options is more important then ever. Wal-Mart just agreed to pay $3.5 million to settle a suit because they failed to properly supervise its retirement plan. In another court case, individual plan participants can bring suit against the plan fiduciaries if they feel that they have been damaged.

Consider Magellan’s Poor performance:

• Fidelity Magellan is in the bottom 15% of similar funds (Morningstar ratings) for 1 year, 3 year, 5 year and 10-year time frames.
• The fund failed to match the returns of the Russell 1000 Growth its benchmark
• The fund failed to match the average return of funds of this type.
• Its “risk metrics” (Alpha and Beta) are very poor

The issue is not really that Magellan is a poor performer but rather that Plan Investment Committees (PIC’s) allow the fund to remain in the line up. Under what possible monitoring and removal methodology would any retirement plan continue to offer such a poor performer based on the metrics above?

When a company does not properly monitor the investment lineup and a fund that is no longer appropiate remains available to participants, it could be due to:

• The PIC’s or plan sponsor did not know they had the responsibility
• They did not spend the time to do what they are required to do.
• They inappropriately relied on guidance from the financial services provider which in the vast majority of case that was Fidelity

It makes no difference why since all 3 reasons are breaches of fiduciary responsibility. Having Magellan or any other poor fund in the investment lineup is a time bomb waiting to happen because it could be claimed by a plan participant, or the DoL that there was:

Failure to operate for the Sole Best Interest of the Participants

All Plans are required by law to be operated for the sole benefit of the participants. What are the possible benefits to the participants to continue to offer such a poor performing fund in the investment line-up.

Failure to identify a potential conflict of interest

ERISA requires that PIC’s identify potential conflicts of interest. All of the companies listed above use Fidelity as their record keeper. It is to Fidelity’s “best interest” to continue to have this fund in the investment lineup since it generates management fees from the fund and as clear that no participant would benefit from using Magellan. It would appear that those companies that did not remove Magellan failed to identify the potential conflict of interest between what is best for Fidelity and what is best for the plan and its participants.

Failure to complete an independent review of the Investments

Fidelity provides retirement plan services to more retirement plans than any other. Fidelity routinely provides investment data to the PIC’s for consideration. Few plans ever get independent data or independently validate the data from Fidelity. When the plan fiduciaries rely solely on Fidelity-provided data, they have violated ERISA for not completing an “independent review”.

Failure to provide the necessary information to the participants

It is hard to believe that any participant would continue to invest in Magellan if they had the proper notifications from the PIC’s as required by ERISA. It is a reasonable conclusion that many participants are not capable of effectively investing their retirement funds without the proper data, which is why plan fiduciaries are required to monitor and remove poor investment options.

Failure to follow their company’s own plan documents

Most retirement plans have an Investment Policy Statement (IPS), which gives direction as to how the PIC’s should select, monitor and remove investments for a plan. If a plan keeps the Magellan fund in the plan’s fund line-up when it continually fails to meet the IPS standards, the PIC’s will have committed a fiduciary breach for failing to follow plan documents.

Conclusion

So, what are you to do if you are a plan sponsor or serve on a plan’s 401(k) committee?  Tracy Tierney, a partner of GCA Law Partners specializing in ERISA, summarizes some of today’s best practices for plan administration and compliance with fiduciary standards as follows:

1. Understand Your Plan’s terms.  Every plan sponsor or member of a PIC should know and understand the basic terms of their company’s plan because the plan document is the foundation for plan operations.  Consult ERISA counsel or your third party administration with any questions regarding plan design or application because mistakes can be costly to correct.
2. Understand Your Fiduciary Duties.  Because members of a PIC are plan fiduciaries, each member should understand their fiduciary responsibilities as set for the by ERISA, including those which relate to Plan investments.  This includes the PIC’s duty to monitor and report on the investments offered by the plan.
3. Follow an Investment Policy Statement.  An IPS can be an excellent tool for the PIC.  When followed, it provides evidence that the members of the PIC fulfilled their fiduciary duty by following a thoughtful process.  An IPS should be reviewed annually, and if your plan does not have an IPS, consider seeking ERISA counsel to help you develop one.
4. Utilize an Independent Third Party Investment Expert.  Plan sponsors should not rely solely on their vendors, such as Fidelity, to provide reporting and analysis of investments.  If their vendors are not fiduciaries, they are not required to abide by the same standards of care and prudence, and they are not required to put the best interest of the Plan first.  Having an independent third party investment expert, especially one who is a fiduciary, will help mitigate the risk that the participant’s bests interests are not being put first.
5. Consider a Fiduciary Insurance Policy.  Because members of a PIC may be held personally liable for breaches of fiduciary duty, some companies choose to obtain this insurance, which is different from the ERISA bond that a plan is required to have.  PIC members may also want to investigate whether plan documents provide any indemnification or reimbursement for claims made against PIC members for “fiduciary breaches.”

If, as a retirement plan participant, you are invested in Fidelity Magellan, you should consider doing the following:

1. Move your funds out of Magellan.
2. Request your plan be reviewed and benchmarked by an “independent” fiduciary.
3. Should your company refuse to get an independent review, consider taking to an ERISA attorney to determine if your plan fiduciaries are properly supervising your retirement plan.

The information in this document does not constitute legal advice. For assistance with legal questions specific to your situation, please consult an attorney.

by Michael Chamberlain 

The 401K maximum contribution limit for 2012 is $17,000. That means you can contribut a maximum of $17,000 into your 401K plan. If you are over the age of 50, you are able to contribute an additional $5,500 to the maximum 401K contribution limits. This is called the catch-up contributions because so many people are getting a late start in saving for their retirement. After having saved enough money for emergency cash reserves, this is a great way to invest and see you money grow fast. Why? Because of these three benefits:

• You contribute with money that hasn’t been taxed yet. Let’s say you earn $45,000 a year and you contribute $5,000 to your 401K plan, you will only have to pay income taxes on $40,000. You pocket the cash that you would have had to pay on that $5,000.
• You don’t have to pay tax on the earnings in a 401K account. Employee B invests $5,000 in a mutual fund in his 401K. At the end of the year, the mutual fund made a $200 profit and would have been taxed as a capital gain. But since the earnings were in a 401K, there is no tax.  In addition, every year after that, the profits compound over time. Many of my clients are in awe of how much their401K maximum balance has grown over time even though they had some bad years.
• Your employer may match your contributions up to a certain percentage. Let’s say ABC Corporation will match you up to 3% of your salary that you contribute to your 401K. So if Employee A contributes $3,000, ABC Corporation will also add $3,000 in his account. That is a 100% return on your money. It is hard to beat that kind of return, and foolish not to take advantage of it. Yet studies show that most Americans don’t contribute up to the matching amount.

Many people don’t like the fact that their money is tied up in the 401K plan until they are 59 and a half, but that was what the 401K plan was designed for- long term retirement account. Short term or emergency funds should be elsewhere. Because of the benefits described above you would be foolish not to take advantage of contributing to your 401K plan. Because contributions are taken right out of the paycheck, many clients don’t feel like they miss the money. You can also change your withholding exemptions when you contribute a lot to your 401K so you get a bigger paycheck instead of more tax refund. Your Financial Advisor or Wealth Coach can help you with this or refer you to some IRS worksheets.

A new Fidelity report finds 401K investors who stuck it out despite the turbulance are being rewarded. Has the tide changed from panic to the quiet storm? I think we will see 200-300 point swings in the market and that can cause havoc to a portfolio that you are going to depend on for income in the future. This 401K report shows investors are getting more savvy and staying the course to get the 401k maximum balance they can.  Yay!

It is no surprise that a lot of people are depending on their 401K maximum balance to provide income in addition to their social security. That is why you need to make careful choices when you are investing your contributions into your 401K plan at work. Here are 5 of the most common 401K investing mistakes that can deplete your 401K balance quickly:

1)      Don’t take fees into account. You may have a limited number of investment options and you may also have a brokerage option that will give you a lot more choices. Sounds like a no brainer to take the option with more choices. Not so fast. Many of the brokerage options have a mix of load funds (those with an upfront commission or a deferred sales charge) and no-load funds. Are you savvy enough to know the difference? Will you be able to pick out the ones with all those choices that are no-load and have low expense ratios?

2)      Put all of your money in one sector. Good asset allocation means spreading your money around asset classes (large-cap, small cap, foreign, etc.) and asset styles (growth, value). A common error is to put your money into the fund that has the best investment return. This is not a great investment strategy. It is very risky and it doesn’t take advantage of buying low and selling high.

3)      Leave a lot of money in the money market options. Since you can’t touch this money without penalty before age 59 and a half, why keep it in savings accounts? If you are that risk adverse, you should look into stable value funds or funds that invest in US Treasuries. Not having your contributions invested and working for you over time leads to a lot of disappointment when retirement comes and your 401k maximum balance is low.

4)      Switch funds every quarter. Moving in and out of investments is a surefire way to lose a lot of money fast. That methodology is called market timing. It is proven not to work. Now this isn’t the same as reviewing your holdings once a year and determining if your asset allocation is still correct (for example, 60% growth and 40% income) or if the fund’s manager has left and the returns are lot lower than expected due to a new investment policy. That kind of review is important but just darting in and out of funds trying to get the best one is a losing strategy that never works.

5)      Don’t stick to a plan. It is hard to have a long term outlook when the media is screaming at you to buy gold now or sell everything and go into cash. You should ignore all of that and invest according to your financial goals, your tolerance for risk, and your personal tax bracket. If you shoot for nothing, that is what you are going to get. Figure out what is a reasonable return that you can get with the asset allocation that you devise. Let’s say that you decide a 60/40 mix is appropriate for you. With that asset allocation, you determine that you should get 7% over the next ten years.

Don’t make these critical 401k mistakes when you are deciding what to do with your contributions. Even saving and investing 2% of your pay can make a big difference over the long term according to Fidelity. Avoid these 5 critical 401K mistakes and you will be rewarded with a bigger 401K balance that will replace all or part of your paycheck.

Eve Kaplan, CFP(R) Practitioner, (Guest contributor)

The hard-earned dollars you defer each month into your 401(k) are about to get the money equivalent of a face lift in 2012. Why? Fees that affect your net 401(k) plan balance could drop on account of regulatory changes in 2012. These changes force providers to disclose all their fees to your employer and to you for the first time ever.

Knowing what you pay for something gives you the ability to lobby your plan administrator at prove he/she has selected a 401(k) plan that’s delivers good value for money. Plan administrators also can see if their current 401(k) plan is up to snuff.

Here’s how the changes will play out in your 401(k) account next year:

1. Dept of Labor Regulation 408(b)2 goes into effect April 1, 2012. This regulation requires plan providers (e.g. John Hancock, ING, Hewitt – whoever is listed at the top of your 401(k) statement) to disclose ALL their fees to your employer. (You might be thinking – “doesn’t my employer already know what I’m paying each month for my 401(k) plan”? The answer often is: Not often!)
2. Your employer also needs to demonstrate it has a process in place to evaluate your 401(k) plan and show it selected a plan with “reasonable and appropriate fees.” Your employer also should confirm if any plan advisors are fiduciaries on your plan or not. (Having an advisor that’s a fiduciary is a good thing for participants and employers because you receive a higher standard of care. Having a 3(38) fiduciary is the platinum standard in the 401(k) industry).
3. By autumn 2012 you’ll be able to see how much you personally pay for your plan in dollars and cents. Regulation 404(a)5 goes into effect on May 31, 2012, requiring full disclosure of plan fees to participants. By Q3 2012, you will see fees fully disclosed on your Q3 401(k) statement – e.g. $280 for the advisor, $430 for the underlying expense ratio of your investments, etc.

It’s clear the majority of Americans don’t have enough saved in their 401(k) plans to help cover retirement.  Greater fee disclosure and more pressure on employers to pick cost-effective plans should drive overall 401(k) plan costs down, promote transparency and possibly improve quality.

To understand the impact of fees on plan balances, compare Jerry and Lenore. Jerry’s 401(k) at ABC Company has annual plan fees totaling 1.4%. He has $100,000 in his 401(k), will defer $23,000 each year ($17,000 plus $6,000 company match) and will retire in 15 years. He projects his assets will grow by 5% per year, net of fees. Jerry should have $704,200 in pre-tax dollars when he retires in 15 years.

Lenore, by comparison, works at XYZ Company. Her annual plan fees are 2.4% per year (1% per year more than Jerry’s plan). She also has $100,000 in her 401(k), defers $23,000 each year and will retire in 15 years. Since she’s paying 1% more in fees per year than Jerry, her assets are projected to grow by only 4% per year (net of fees). When Lenore retires, she expects to have $640,636.

All things being equal, Jerry should earn $63,564 more in pre-tax dollars than Lenore because his 401(k) plan costs less. Perhaps Jerry will use this to retire 6 months earlier, or take a nice cruise to celebrate his retirement.

We haven’t even addressed a further +1-2% potential rate of return each year in 401(k) plans that have an effective fiduciary advisor present steering participants toward low cost, automatically rebalancing solutions. Automatically rebalanced investments help keep Jerry on track so his 401(k) plan doesn’t drift away from the model portfolio his advisor counseled him to retain. If Jerry has this advice advantage, the additional $64,564 advantage over Lenore could morph into $134,367 more than Lenore by the time he retires (a 6% annual return vs. Lenore’s 4%).

Everyone wins when both you and your employer are clear about 401(k) costs and quality. 2012 is a great time for plan administrators to make sure they are giving their employees a 401(k) plan that’s high in quality – not high in fees.

Get The Wall Street Journal for 75% off!

Many people are sweating over the fact that their 401K maximum balance at the end of their working years won’t be enough to support the lifestyle that they thought they would have. Let’s not dwell on what you don’t have but let’s discuss some of the options that you do have. I don’t think it helps to pretend that you will worry about that when the time comes- if it ever does. The time to prepare for the shortage is now—while you are working. Let’s take a look at some of the common options that you will have:

Get creative about working part-time during retirement. Most people only have to replace 25% of your current earned income. If so what could you do for 25% of that time and enjoy. You will find that there are more opportunities outside of your current career track that exists and would be even more enjoyable.

Start a business. I am not talking about creating the next Apple Computer, but you could do some consulting, writing, teaching, etc. to earn extra income and not work for someone else.

Are you concerned that your social security will be taxed if you work into retirement? Yes, that is true. But you have to figure that it is also additional income net of tax. It is income you need to supplement your retirement so don’t let the tax liability worry you.

Hold off of taking that early social security at 62 especially if you have the long life genes. If you start taking the higher amount at age 70, by the time you are 78 you will have made up all the lost income from age 62 to age 70 and more.

You are forced to retire at 62 and you don’t have enough income to live on so that social security looks tempting. Don’t do it! Spend down the IRA, investments, 401k maximum balance or other resources. Why? Because those resources have the opportunity to make more money, the social security income will never go up past the rate of inflation.  Is that gambling? No, it is just a calculated risk assessment.

Lifestyle changes, part-time employment or self employment, making the right income choices including social security can make revive any retirement plan.   Even if your 401k maximum balance isn’t what you had hoped for, you do have several options in retirement to make your money last.

*Scared to open your 401K statement?

Financial Stress

*Don’t think you will ever recover from the losses?

*Too many investment choices and don’t know how to evaluate?

This ebook will help you open your statement, figure out your 401k contribution limits and gain confidence-knowing that your money is working for you- in your time frame, with your risk tolerance, and with the return you need to meet your goals.

You deserve to have confidence in choosing and maintaining the most valuable investment you own-your 401K plan.

Sign up  ( in the box to the right) for my e-newsletter filled with wealth building tips and to buy my eBook:
The 401K First Aid Kit: Stop Your Portfolio Bleeding and Get Back to Financial Health

(Now available at Amazon, too.)

You will also get:

* my most popular report to download now—THE 9 BIGGEST 401K MISTAKES YOU CAN MAKE

* Free Whole-Hearted-Way e-newsletter (written by Fern Alix LaRocca CFP® with over 25 years experience)

The Roth IRA is for wussies. Whoa! Every article under the sun is saying that the Roth IRA is the best thing since sliced bread to build wealth and I say no . Here’s why- in your do it yourself financial plan, you have to decrease taxes and keep up with inflation and you have to do that before you even try to make a profit~ Here’s why- in your do it yourself financial plan, you have to keep up with inflation and decrease taxes and you have to do that before you even try to make a profit. That is the secret to fast wealth. The best way to cover those two bases is to use tax deferred plans plans that have both features of reducing our income when we contribute and also deferring any tax on our gains.  Deductible IRAs, 403b plans, 401K plans, and 457 plans, etc. are prime examples of that . Notice I didn’t say Roth IRA. That is because you lose the tax saving benefit with the Roth IRA because youi are contributing with after tax money. So for most of us who aren’t in the Bill Gates or Warren Buffett league we need to contribute first to all of those plans that I mentioned before contributing to the Roth IRA.

Okay now I know you are freaking out because all that money you put away you can’t touch till you are age 59.5. That’s right -so go ahead and be a wussie and contribute to your Roth IRA first so you have the ability to get your greedy hands into your nest egg when you need it. You also get these other benefits of the Roth IRA:

• You can use contributions to help pay for college
• In retirement, all of your withdrawals will be tax free and you won’t have to withdraw annually as you would with a traditional IRA or 401K.
• It is a great account to preserve assets you intend to pass on to your heirs

So go ahead and be a wussie if you can’t stand the idea of locking up as much money as you can in a tax deferred plan, and contribute to your Roth IRA as the next best thing. -Fern Alix LaRocca CFP® Wealth Coach

If you have an IRA you probably know about the concept of a Roth IRA conversion – where you  take distribution of a portion of your IRA and directly transfer that money into your a Roth IRA,  paying tax as you go.  Then the Roth IRA can continue to grow tax-free (as Roth IRAs do) and  you’ll never owe tax on your qualified distributions from the Roth IRA.

In addition, if the investments you’ve made in the Roth IRA have lost money, before October  15 of the following year you have the opportunity to recharacterize your Roth conversion.  If  you didn’t recharacterize, you’d be paying tax on a conversion amount that is much lower now if  there was a downturn in the investments, so your average tax rate is much higher than you’d  hoped.  By recharacterizing, you can undo the conversion or a part of it.

I had a question raised to me recently about using the recharacterization option to your  advantage.  Here’s the gist of the strategy:  If you have an IRA worth, say $100,000, you could  convert it into two Roth IRAs, one half invested in a 2x leveraged bull-oriented investment, and  the other half invested in a 2x leveraged bear-oriented investment.

If the two investments go flat for the year, your conversion could be recharacterized with no tax consequence.  However, if the market went up by 10%, your bear holding would be down 20% (being leveraged 2x) and the bull holding would be up 20% (vice versa had the market dropped).  This would give you the opportunity to recharacterize only the bear holding, leaving you with a traditional IRA worth $40,000.  Your Roth IRA would be worth $60,000, although you would only have to pay tax on the original $50,000 converted.  At a 25% tax rate that works out to $12,500 in tax, which would only be 20.83% on the Roth IRA.

Perhaps that rate isn’t low enough for you though – maybe you need to ensure that the tax rate is even lower, say 15% or less.  Following the example, you’d need to see an increase of 66% or more in your holdings, which would equate to a 33% move in the market (for your leveraged holdings, one way or the other).  If the market doesn’t move in the amount you hoped, you can just recharacterize the entire conversion, nothing lost.

You probably want to pull your “winnings” off the table and put the remaining Roth IRA into a safe(r) investment than the leveraged investments chosen before, such as a balanced fund or even straight bonds.

Now you now can pull the same maneuver in the following year with whatever is left in the traditional IRA, splitting it just as before.  Over time you should wind up with a significant Roth IRA with a lower tax cost.

This is not a huge payoff strategy – you’ll be losing money in your traditional IRA holdings each year, guaranteed.  Your net position would be the same (minus the tax).

After the first year of the example, assuming a 20% gain you’d have with $60,000 in the Roth and $40,000 in the traditional IRA, having paid $12,500 in tax.  Second year, same result and you’d have $84,000 in Roth, and $16,000 in traditional IRA, paying $5,000 more in tax.  Third year, again the same 20% gain  resulting in a total of $93,600 in Roth, $6,400 in trad, paying $2,000 in tax.  And so on, until the amount gets too small to work with any more.

The end result

The end result is that all of this tallies up to the same $100,000 that you started with, having paid tax of just less than $21,000, versus the original $25,000 you would have paid.  Holding out for a higher return from the strategy would yield a lower tax rate overall.

Jim Blankenship CFP