What if what you learned in the next three minutes could help you retire three years sooner?
That probably sounds like the start of an infomercial, but the reality is that seemingly small choices you make about how your retirement savings are invested will have a huge effect on your ability to retire.
With the decline of traditional pension plans, most Americans will have to rely on retirement plans such as 401(k)s or Individual Retirement Accounts to try to maintain their standard of living in retirement.
And if you are one of the millions of Americans that has a 401(k) or an IRA then you are paying fees on these retirement savings. But half of all Americans don't know what they're paying. Think about it — you know what your cell phone bill is, you know what your car insurance is. But your retirement accounts — what do you pay for those?
Typically when you look into fees on your retirement accounts, you'll see numbers that are a little under or over 1% — meaning if you have $100 in your retirement fund, you are paying about $1 a year in fees.
So at first glance, it might seem like whether you pick a fund with fees that charge you 25 cents or $1.30 is just small change.
But it's not. Research shows that individual investors — people like us — can be better off over the long-term with balanced, low-cost funds that try to track the market, instead of high-cost funds that try to beat it. And over time, seemingly small differences in fees add up to big money.
Let's take a typical 25-year-old worker who earns the median wage – approximately $30,000 for her age group – and does all the right things to save for her retirement, setting aside 5% of her salary in a 401(k) where her contribution is matched by her employer.
But when it comes time to pick a fund in which to invest these earnings, she picks a fund with 1% fees on everything she invests. So what's the difference between picking that fund and a fund that charges 0.25% fees? That fraction of a percentage point could cost her approximately $100,000 in extra fees over her lifetime. In fact, if she wanted to retire with the same balance as if she picked the lower fee retirement fund, she would have to work three years longer to make up the difference.
And what if she and her spouse — both diligent savers — pick funds that cost 1.3% in fees? That will add up to a quarter of million dollars in extra fees.
The numbers tell a powerful story — that often hard to understand fees are draining Americans' retirement funds.
So what can you do about it?
Find out what you're paying on your retirement accounts. You can look it up, but the information is often obscure and doesn't give a sense of how important seemingly small fee differences can be. That's why we are proposing that there should be a simple, straight-forward label on all retirement funds that explains fees to customers in a way that is easy to understand. After all, better labeling has led Americans to make more informed choices about everything from the refrigerators that they buy to the food that they put on their table.
With good information, and at no cost to taxpayers, we can save workers a lot of money and make it much more likely they can retire.
Bringing in a retirement fund label can also kick start a national conversation about how we can fix our broken retirement system, reducing unnecessary costs and risks on individuals so that people across the country can retire in dignity.
Jennifer Erickson is the director of competitiveness and economic growth at the nonpartisan, nonprofit Center for American Progress. David Madland is the managing director for economic policy and the director of the American Worker Project at the Center for American Progress.
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