Four Sneaky 401(k) Fees You Can Refuse to Pay

Check your latest statement for the words “12b-1 Fee.”

1. The “12b-1 Fee”

Owing its name to the Securities and Exchange Commission (SEC) Rule 12b-1, this fee is a charge from a mutual fund to cover marketing, distribution, and administration expenses.

The original intent with this rule was to encourage mutual funds to invest in marketing so that more people would buy into the mutual fund. In theory, the more assets that a mutual fund can buy, the better the economies of scale. Unfortunately, the empirical evidence from the SEC shows that mutual funds with 12b-1 fees have higher expense ratios than those without those fees, and that the services rendered to earn the fees don't enhance the fund's performance.

By law, 12b-1 fees can range between 0.25% and 1% of a fund's net assets. Given that these fees have shown no benefit to investors, you should try to choose funds that don't charge 12b-1 fees at all. If all your available investment options charge such a fee, go with the one that charges closest to the minimum 0.25%.

2. Redemption Fee

A front-end load is one of many sneaky investment fees to watch out for. Front-end load funds have such a bad rap that many investment firms have started advertising no-load fund options.

However, there can be a catch. While no-load funds won't charge you for loading shares, those funds can charge you a fee for unloading your shares too soon. Known also as an exit fee, back-end load, or contingent deferred sales charge, a redemption fee is applied to an investor that exits a fund too soon. How soon is too soon? The minimum holding period ranges from 30 days to one year, so make sure to check your fund's prospectus.

Here are two useful rules of thumb when evaluating redemption fees:

  • The average minimum holding period to avoid a redemption fee is 65 days, so avoid funds that require you to hold onto your fund much longer than that. While your nest egg should be a last resort fund, you shouldn't be penalized for accessing your money when in need.
  • The SEC limits redemption fees to 2%. However, some funds may charge as low as 0.01%. The lower the redemption fee, the better.

3. Exchange Fee

Diversification is a useful investment strategy to lower your market risk. For example, it's generally better to split your investment into three significantly different assets than to “put all your eggs in one basket.” If one of your investments tanks, you still have two to fall back on.

Before you fire up the online dashboard of your 401K and transfer money from one fund to another, check for applicable exchange fees within your retirement plan. Even worse, some 401K plans may tack on additional load and redemption fees when you exchange between funds.

4. Individual Service Fee

On top of your plan's administrative fee, your 401K may incur individual service fees related to features that you opted into. You may incur individual service fees when:

  • Taking a loan from your 401K account;
  • Executing participant investment directions;
  • Opting for a clause to terminate a contract with your employer before the contract's expiration date; or
  • Choosing an investment option that includes an insurance component (e.g. annuity).

There are many other types of individual service fees. Keep in mind that some individual service fees that are paid indirectly from the investment options you have chosen may not be listed in your quarterly 401K statement.

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