7 Hidden Fees to Watch Out For in Retirement
Your retirement plan and budget need to factor in these expenses
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Investing fees matter, whether you hope to accumulate enough money for a comfortable retirement or are already retired. Consider the following scenarios:
A hypothetical investor who invests $100,000 and earns 6 percent annually for the next 25 years will end up with $430,000, according to Vanguard. If that same investor incurs investment costs of 2 percent each year, the portfolio will only grow to $260,000.
As you can see, fees and expenses can crack your nest egg. Here are seven examples of retirement fees, and ways to mitigate or avoid them.
(This article appeared previously on GoBankingRates.com)
1. Advisory Fees
Advisory fees are costs you pay to an adviser who creates a financial plan and/or manages your investment portfolio, said Philip Lee, a Certified Financial Planner and wealth manager with Financially In Tune in Wakefield, Mass. Common fees include the following:
Hourly/Project Fee: You might opt for this arrangement if you want a review of your portfolio and specific investing advice. An hourly fee also can make sense if you seek help on topics such as how to lower taxes, or how to create a tax-efficient withdrawal strategy from your portfolio during retirement.
Fixed Fee: It makes sense to select this arrangement — also known as a retainer fee — if you intend to hire an adviser on an ongoing basis for financial planning services and wish to delegate ongoing investment or portfolio management to the expert. This type of fixed fee typically does not change based on the value of the portfolio.
Assets Under Management (AUM) Fee: This fee resembles a fixed fee. However, your fee varies based on the value of the portfolio, and it often includes minimum investment thresholds or minimum annual fees. Historically, AUM fees have been relatively high. But today, there is marketplace pressure to reduce these fees, said Lee.
Consumers should evaluate the services they desire and weigh these against the cost, he added.
"Ask the adviser questions," said Lee. "Understand how they are compensated and what incentives, if any, they may have that could influence their advice to you."
2. 401(k) Expense Ratios
Many participants mistakenly believe they do not pay 401(k) fees when they invest. But that's not true. For example, you pay expense ratios every year, and these fees can vary greatly.
The difference between paying 1.5 percent and 0.1 percent in fees might not seem like a big deal, but it is, said Sam Farrington, founder of Sound Mind Financial Planning in Omaha.
"These fees add up to a significant difference over time," he said. "If you are deciding between two similar funds with similar track records, it's possible choosing the one with the lower expense ratio may pay off over time."
In the wake of 401(k) lawsuits, many 401(k) plan sponsors are more conscious of a plan's expenses. If you feel an employer's plan is too costly, do your homework and consider approaching your boss with your concerns. Just make sure to do this in a respectful, tactful way.
3. 12b-1 Fees
Mutual funds charge these fees annually to cover marketing and distribution costs. They are included in a fund's net expense ratio.
"Look for funds with lower net expense ratios and you will find the fund with lower or no 12b-1 fees by default," said Matt Hylland, an investment advisor and founder of the cloud-based Hylland Capital Management.
These fees are often used to cover some of the expenses of a 401(k) plan. But 12b-1 fees also can be present in mutual funds outside of your plan. It's always a good idea to know the expense ratio of any mutual fund you are considering.
4. Annuities Fees
Look closely for these sneaky fees, as they can be hard to find, said Chris Hammond, a financial advisor and founder of the Retirement Planning Made Easy website. When you look at the prospectus of a variable annuity, go to the table of contents and look for a section that mentions "fees" or "expenses" or even "contract charges."
"Start digging in there, and find out what benefit the fee is providing you," said Hammond. "If you don't need that benefit — such as an income rider guarantee — see if the company will let you drop it so you can lower your overall fees."
Shop around because annuity fees can vary widely. Be wary of any surrender charges, which are assessed if you move money out of the annuity prior to a certain date. They're designed to serve as "handcuffs" that keep you from moving money. Nobody benefits from these fees — except the insurance company.
5. Ongoing Yearly Fees
A lot of brokerages charge extra if you opt to receive paper statements instead of electronic statements, said Hylland.
"It is not uncommon to save $100-plus per year for opting to receive your statements electronically rather than in the mail," he said.
With the same investments available just about everywhere, it pays to shop around for a custodian that offers low fees or no fees for statements and other account features. Also, be on the lookout for transaction fees you might be required to pay when you buy and sell Exchange Traded Funds (ETFs), stocks and mutual funds.
A front-end sales load is an upfront fee based on a percentage of the assets you invest. You usually pay this fee when investing in mutual funds labeled "A" shares.
"This means for every $100,000 invested in a mutual fund with a front-end load of 5.75 percent, only $94,250 goes to work for you," said Farrington. "This initial hit must be made back just to break even."
Fortunately, you can choose from many different no-load funds. That keeps your money working harder for you, added Farrington.
Preparing a retirement strategy around reducing taxes is incredibly important, regardless of where you are on your path to retirement. "Taxes will most likely be one of your largest expenses in retirement," said Hylland.
To reduce your tax exposure, consider funding a Roth IRA in years when your income is low, he said. This type of retirement investment allows you to pay taxes now in exchange for being able to withdraw the money tax-free at retirement.
"Pay as little short-term capital gains as possible," said Hylland. "Investments that are held for less than a year are subject to higher tax rates."
Finally, ensure the dividends you collect on investments count as qualified dividends, which are taxed at the long-term capital gains rate instead of your income tax rate.
Nate Byers, founder of JBC Wealth Advisors in Madison, Wis., also suggests learning a few strategies to manage taxes in the years leading up to retirement and in retirement itself. These strategies include learning to appropriately time charitable giving, and using techniques such as tax-loss harvesting.