Fees are an important consideration when choosing investments for your 403(b) or 457 plan. Although fees may seem small when expressed as a dollar amount or percentage of assets, the reality is that they can have a significant impact on the ultimate balance of your nest egg when they are paid year after year. One study indicates that your financial goals are pushed back one year for every additional quarter percent in annual fees.*
Any investment involves some fees; you can’t avoid them entirely. What you can do, though, is be sure you understand what you’re being charged, and why. Then you will be able to gauge whether the value of what you get for the fee justifies the cost.
Typically, a 403(b) or 457 plan has two kinds of expenses: administrative costs and investment management fees. The latter is often expressed as an expense ratio, or the amount of the fees as a percentage of your net assets. For example, if you had $1,000 invested, a fee of 0.2% would cost you $2 a year, while a fee of 3% would cost you $30 a year. Review the chart to see the impact of various expense ratios.
A 403(b) or 457 plan allows you to purchase two types of investment products: mutual funds and annuities (including fixed, variable and equity-indexed annuities). The fees will vary depending on which of these options you choose and also – if you select a variable annuity or mutual funds – on which investment choices you make within those products. In general, annuities offer more features – many of which you don't need – and charge more fees than mutual funds do.
A mutual fund is an investment that pools money from many participants and invests in stocks, bonds, short-term money-market instruments, or some combination of the three. In a 403(b) plan, mutual funds are purchased through a custodial account.
Mutual funds may charge fees for administration, management, sales commissions, redemptions and 12b-1 marketing fees (see the glossary of fees below).
An annuity is a contract with an insurance company, and generally includes a death benefit. Three varieties are available through your 403(b) plan:
- A fixed annuity pays a guaranteed rate of return for a specified period, and also has a minimum rate. The insurance company guarantees your rate will not fall below the minimum rate when the current rate expires.
- A variable annuity offers a range of investment options, called subaccounts, which are similar to mutual funds. The value varies depending on the performance of the underlying investments.
- The return of an equity-indexed annuity is based on changes in an equity index such as the S&P 500 Index. The insurer also guarantees a minimum return if the contract is held to maturity.
Annuities may charge many of the same fees that mutual funds do, along with mortality and expense fees and surrender charges (more about fees below). Be sure to check out the fees before choosing an investment.
To check out how mutual fund fees can affect your return, use the Financial Industry Regulatory Authority (FINRA) Mutual Fund Analyzer at http://apps.finra.org/fundanalyzer/1/fa.aspx.
* Source: CBS News Econwatch, www.cbsnews.com, posted Aug. 17, 2009.
Here's How to Find the Fees at www.403bCompare.com
- Go to www.403bCompare.com.
- Click on "Browse Vendors" on the left-hand-side menu. (Note: you can also search for vendors using the search tool, in which case you would skip steps 3 and 4.)
- Click on the letter corresponding to the vendor's name.
- A list of vendors will appear. Click on the vendor of your choice.
- Choose the tab at top that says "Product List."
- Select the product you are interested in.
- Choose the tab at top that says "Fees and Charges." You can then review the fees and expenses charged by this investment product.
If you'd like to compare the fees and charges of this investment product to others:
- Select the "Add to My Compare" link. This will save the information to your "My Compare" box, similar to a shopping cart on a retail Web site.
- Choose the next product, following steps 1-7 above, and select the "Add to My Compare" link.
- When you are ready to compare the products, click on the "My Compare" link in the blue bar at the upper right-hand side of the Web page.
- Your selections will be listed. Check the products that you would like to compare. You can compare only three at one time, and they must be in the same category (for example, you can compare different mutual funds, but you cannot compare a mutual fund with an annuity).
You may also choose to have your information e-mailed to you if you'd like to keep it for future reference. Otherwise, when you leave the site, your My Compare information will be deleted.
How Fees Reduce Earnings
The following chart shows how various expense ratios reduce the ending balance of a portfolio. It assumes that you invest $100 a month for 20 years and earn an annual average return of 6%.
Glossary of Fees
Vendors of 403(b) investment
products are required to disclose all fees when registering with
403bCompare.com. 457 plans should disclose all fees in their literature. Below are some common fees. Be sure to ask the vendor
about any unfamiliar fees.
12b-1 Fee: Paid out of fund
assets to cover the costs of marketing and selling fund shares and
sometimes to cover the costs of providing shareholder services.
Account Fee: Paid by investors for the maintenance of their accounts. It may apply only to accounts below a specified dollar level.
Covers record-keeping and other administrative expenses. It may be
charged as a flat account maintenance fee or as a percentage of account
Contract Fee: This is a flat dollar amount charged either once at the time of issue, or charged once each year.
Custodial Fee: Charged for safekeeping or physically holding securities.
Exchange Fee (Transfer, Switch): Sometimes imposed if you exchange (transfer) to another fund within the same fund group or “family of funds.”
Load (Sales Charge):
The amount that investors pay when they purchase (front-end load) or
redeem (back-end load) shares in a mutual fund, similar to a commission.
Management Fee: Also called the investment advisory fee, this represents the company’s cost for managing the money in the fund.
Mortality and Expense: This charge compensates the insurance company for insurance risks it assumes under the annuity contract.
Different from a front-end sales load, this is another type of fee that
some funds charge when shareholders purchase their shares. It is paid
to the fund (not to a broker) and is typically imposed to defray some
of the fund’s costs associated with the purchase.
Charged by some funds when their shareholders sell or redeem shares
soon after purchase. Unlike a deferred sales load, a redemption fee is
paid to the fund (not to a broker) and is typically used to deter
frequent trading and to defray fund costs associated with a
Rider Fee: A charge for a provision added to an insurance policy that provides additional benefits.
Surrender Charge: A fee assessed by the insurance company if you withdraw money from an annuity within a certain period after a purchase payment.
Withdrawal Charge: A fee charged by some annuities and funds when an investor takes money out of his or her account.
Charge for an investment program that bundles or “wraps” a number of
services (brokerage, advisory, research, consulting, management, etc.)
together and covers them with a single fee based on the value of assets