The Impact Fees Have on Mutual and Index Funds
While Milk Your Money does not want to start picking your investments for you, we do have suggestions as to what you should look for and avoid when it comes to arranging your retirement portfolio. In this post, we will focus on the impact fees have of dramatically reducing your retirement savings over long periods. Consider this; a 1% fee charged on your retirement fund can reduce earnings by 17% over twenty years…
Why do Funds Charge Fees
First, it’s important to understand why retirement funds even charge fees. Because most people have money invested in mutual funds, I will use them as an example. Mutual Funds are consistently rearranging their holdings (buying and selling different securities) to hopefully increase their year-end profits. This buying and selling activity is not free, and thus you are charged a fee. In addition, fees are used for administrative things like producing account statements, printing and mailing documents. Some funds also use fees to compensate investment professionals (advisors) for their expertise.
Expense Ratio
There are numerous different fees associated with investment funds; the most important and easiest to locate in our opinion is the expense ratio. The expense ratio gives you a good idea of what the ongoing fees charged to own a particular fund are each year, including all fees associated with management issues, administrative fees, etc. The expense ratio is easily located by looking up the ticker symbol in Yahoo Money or Google Finance, as well as the funds prospectus. The expense ratio is a good gauge that encompasses all of the fees associated to own a fund on a yearly basis that is given as a percentage. The fees are not actually paid by you directly, but taken out of your holdings, which reduces you future earnings.
Typical Advice
It’s typical for most financial advisors to tell their clients that fees are not the only thing to look for when picking retirement funds, while this is true, advisors often downplay the actual impact fees have on your nest egg. It is tempting to pick funds that have a short history of very high returns and dividends, but it’s unrealistic to assume that these funds will keep pace. Fees, unlike returns, are guaranteed to come out of your fund every year, so please consider them.
Mutual Fund Expense Analyzer
Click Here to access a great tool called a mutual fund analyzer that if used right, has the potential to save you thousands and earn your thousands for retirement. The analyzer is very simple to use and understand, all you need to do is enter in a ticker symbol of a fund and the amount invested and at what rate of return and for how many years. After the information is calculated, an estimate is provided detailing: 1) the funds value after X amount of years 2) Profit/Loss 3) Total Fees and Sales Charges.
In order to paint a clearer picture of the role fees play in affecting the long-term growth of retirement funds, here is an example:
If $10,000 were invested in a Fidelity Index Fund (FUSEX) with an estimated 8%, return over a 20-year period the fund would return $45,687. Over the 20 years, the fund would only charge $469 if fees.
Now, if $10,000 were invested in a Fidelity Large Cap Mutual Fund (WFGIX) with an estimated 8% return over a 20-year period the fund would return $35,437. Over the 20 years, the fund would charge a total of $4,794 in fees.
The difference in fees in the above two examples is $4,325! If you consider this over a 40-year period, the impact is enormous. The bottom line is that fees do matter, choose your funds carefully because the result could save not only thousands of dollars but also years of working. $
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[...] I like the S&P 500 index, and thus, most of our retirement money is invested in it. I invest in the index in two different ways; the first is through an employer sponsored retirement match program. Typically, most retirement funds will offer at least one index fund. The second way is by buying an ETF of the index in my Roth IRA account. Another advantage to these indexes is because they simply track an index, the day-to-day management of the funds is minimal, which means the fees associated with owning them are very low versus a mutual fund for example. This is significant because just a 1% yearly fee on a retirement account can reduce the earnings by 17% over a twenty year period (read more about the impact fees have on mutual and index funds here.) [...]