Here is an interesting article at Forbes.com written by Hedrick Smith, author of the national bestseller Who Stole The American Dream. He talks about three things you probably didn’t know about 401k plans: “(1) how it got started – accidentally; (2) how much they should regularly save to build a safe retirement nest egg; and (3) how big a bite mutual funds take out of their gains.”
The 401k was slipped into the Tax Code in 1978 from a New York congressman as a favor to execs at Xerox and Kodak who wanted the CEO and his circle of friends to have a retirement fund tax shelter. The Treasury Department decided some time later that every worker should get the same opportunity. Seeing a great money-making opportunity, the mutual fund industry starting selling DIY 401k to Americans who thought they could beat the Market.
As simple as the concept is of saving money for retirement is, millions of people fail to do so and have nothing when they reach their golden years. Not investing enough (if at all), cashing out or borrowing are just some of the reasons that led to this.
Even those who are doing the right thing are not doing enough. If you want to live the lifestyle you have grown accustomed to, you need to save 10 to 12 times your final yearly salary. The average person making $50,000 per year, needs $500,000-$600,000 when they retire, but the median savings is under $100,000.
Most workers are saving about 8-10% including their company match, but many experts agree that that number should be more like 15% (even 18% according to some). Mutual funds and financial advisers take a big bite out of your plan from transactions fees, setting up the funds, paperwork, etc.. Jack Bogle, founder and longtime CEO of the Vanguard mutual funds, said these fees comes to about 2% per year.
According to Mr. Bogle, a mix of stocks and bonds gains an average of 5% per year. In numbers, $1 becomes $7.04 in 40 years….ergo $100,000 will become $704,000. That buck over only 20 years becomes just $3.39. If you calculate 2% in fees, that 5% return drops to only 3% and your dollar becomes only $3.26 in 40 years.
“Where did the nearly $4 difference go?” Bogle asks. “It went to the fund or to Wall Street in fees. So you the investor put up 100% of the capital. You take 100% of the risk. And you capture about 37% of the return. The fund or Wall Street puts up none of the capital, takes none of the risk and takes out 63% of the return.”