401(k) Advice—for a Hefty Fee

by Karen Blumenthal - Monday, 31 January, 2011

Forget the old brochures and model-portfolio charts. An increasing number of 401(k) plans now are offering extensive advice programs, and even the opportunity to turn over management of your account for a fee.

Charles Schwab and Fidelity Investments offer online and phone assistance, and Vanguard Group offers account holders over 55 years old the option to quiz a financial planner. Fidelity, Vanguard and others, including J.P. Morgan Chase, also are dangling managed accounts, in which you pay $40 to $60 a year for every $10,000 to get a portfolio plan and automatic rebalancing. The fees, which are in addition to fund expenses, start to go down on accounts of more than $100,000.

The actual providers of the advice—typically third parties like Financial Engines, the largest independent advisory service—act as fiduciaries, meaning they are legally bound to put your interests first. Working with the choices in your plan and using automated programs, they select portfolios that are supposed to be well-diversified while also keeping fees relatively low—which is important, since expenses have the single biggest impact on your returns over time.

The best advice tools also should take into account how long you plan to work, how your spouse is invested and other family assets—but you need to take the time to provide all that information.

So do you actually need any of this stuff? And is it worth paying for? Here are a few questions to ask to help you decide:

• Am I saving enough?

One substantive result of getting advice is that people who do tend to save more. In a survey last year, Schwab found that 70% of participants who received 401(k) advice nearly doubled their savings to an average of 10% of pay. Similarly, Fidelity says that 45% of those who used an online 401(k) tool increased their contribution rate to 7% of pay from 4%, on average.

Many of us aren't saving enough, and the problem has grown more acute since the economic downturn. Financial Engines last year reviewed 2 million portfolios and found that 39% of participants—particularly those in their 20s and 30s—weren't saving enough to get their employer's full match, up from 33% in 2008.

Adequate contributions are crucial to building a nest egg. So here is some free—if obvious—advice: Save more, at least enough to get the company match. And increase your contribution every year until you reach 10% of your pay.

• What percentage of your plan is in stocks?

Shockingly, more than 60% of 401(k) investors in their 20s owned little or no stock in 2009, according to the nonprofit Employee Benefit Research Institute, or EBRI, and the Investment Company Institute, a fund-industry trade group. That is true even though you should take on more risk in the early years.

In plans where company stock was an option, roughly 30% of those over 40 had more than 20% of their 401(k) accounts invested in that one stock—a risky choice.

Young people without stocks and older people with too much stock or company stock aren't likely to meet their retirement goals, says Jack VanDerhei, EBRI's research director, so they may well benefit from advice. But young people and those with accounts of $50,000 or less shouldn't pay extra for it. They should simply invest their contributions in one well-diversified target-date fund.

• How confused are you about your 401(k) options ?

In the Schwab survey, 53% of investors said they found choosing 401(k) benefits was more confusing than choosing health-care plans, underscoring how befuddling many people still find retirement plans and strategies.

How complex? Brigitte Madrian, a professor at Harvard University's Kennedy School of Government, and two other professors asked almost 400 Harvard staff members, many with graduate degrees, and about 250 MBA students at the University of Pennsylvania's Wharton School to select the best allocation for $10,000 among four Standard & Poor's 500-stock index funds.

Because the funds had the same investment strategy, the participants should have selected the one with the lowest expenses. Instead, many made their selections based on past performance—relying mostly on the return since inception, a number that varied only because the funds were started at different times. Others tried to "diversify" among the four funds, even though they all were essentially the same, except for fees.

Even when provided with a cheat sheet of the annual fees and loads, only 10% of the staffers and about 20% of the MBA students selected the fund with the lowest expenses. Overall, the groups selected a portfolio with significantly higher fees than the cheapest fund, a move that would have sliced their lifetime returns.

For investors who have a large account, say $500,000 or more, and want help, signing up for a managed account may be a cost-effective option. Financial Engines says the average annual expense for its managed accounts—including mutual fund and management fees—is 0.65%. That is a reasonable amount to pay in total expenses in a 401(k) plan.

Write to Karen Blumenthal at karen.blumenthal@wsj.com

Source: http://online.wsj.com/article/SB10001424052748704013604576104333533482512.html?mod=WSJ_PersonalFinance_PF15