Why Your 401(k) Isn’t Growing Like You Think (Ep. 262)

If you're in this stage that you are really heavily considering, what am I doing with my money? Is it actually helping me get ahead? If I have access to the majority of the money that I'm earning and I have good saving habits, what can I use that money for in order to have it go out and make some more friends? Maybe that's like investing in yourself, buying a course, maybe it's buying a business, maybe it's buying real estate, whatever kind of floats your boat. I just think it's important to think about what the future holds and how you are making sure that you're putting yourself in the best position to not only take advantage of opportunity, but also to be educated and have a really good skill set to make sure that you as a person can set yourself up for success. Hello and welcome back to the podcast.

Today I have some fun planned for you all. We are going to go over the 5-4-1-K half-truths. So this will just be a first section of a five-part series.

So buckle up. We're gonna have some fun. And I actually want to start off this podcast by telling you guys a story about this card game called Hand and Foot.

I don't know if anyone has ever played it, but I played it with my best friend and her husband. And I just remember that everyone is very excited to play. They were all talking about how they loved this game.

I'm like, okay, amazing. And so if you're a bit like me, sometimes when people are reading to you, you kind of check out. And I just remember that the amount of time it took to go over the rules for this was absolutely insane.

And I just remember thinking like, if I would have known that these were all of the rules and that it would have taken this long for me to understand the game, I probably would have decided that I didn't want to play it. So all that to say, I want to go over these 4-1-Ks. And just to preface this, I am not a financial advisor.

So this is just based off of my research, my findings, and obviously backing up these opinions with math. So take that for what you will. If you have a 4-1-K, talk to the person that's in your HR department.

Talk to your financial advisor. So this is just information for you to do with what you want. So this is 4-1-K half-truths.

Now, why does everyone love their 4-1-K? Typically, it's for a couple of reasons. One, because they get the employer match, which is fantastic. And two, because they are using this vehicle because they want to retire off of it.

So I thought it would be fun to just go through these different things and to kick this off. The 4-1-K was originated by a person named Ted Benna. He was the creator of the 4-1-K plan.

And these plans started gaining a lot of popularity in the 1980s because corporations saw it as like a cost-effective alternative to traditional pensions. So if you know anything about pensions, they're typically guaranteed to you, which is a huge word, guaranteed. They're saying, hey, this is how much money you're going to live off of if you contribute this amount, guaranteed.

And essentially, what companies found out was this is a very expensive way for them to retire their employees. So the 4-1-K plan was kind of like a mix of, hey, this can still help you retire, and you are taking on all of the risk for your own retirement. Now, in one of the interviews of Ted Benna, he was saying that the employers were originally expected to cover fees of these plans.

But they essentially, again, just like the risk, pushed the costs onto their own workers. And the reason why this is important is because the main half-truth that we're going over today is management fees. So a lot of people don't understand that they are paying management fees actively in their 4-1-K plans.

It's just that you might not know how much that equates to or what that amounts to. And then he went on to say in this interview that the biggest benefit from a 4-1-K has been the fact that it has converted spenders into savers. And I would agree that if you are a person that kind of likes to set it and forget it, and maybe you don't have the best money management skills, a 4-1-K is a really great option because I have seen people stop contributing to these.

And it didn't necessarily help their spending pattern, if you get what I'm saying. So you have to have the habit in the first place to save money. And if you don't have that habit, and you are participating in your 4-1-K, I think it does help you build that habit.

But notice that it didn't say you can have the retirement of your dreams. It said it just has essentially built the habit for people that are normally spenders to turn them into savers. And the reason why I think that this is so effective, just kind of going along with this habit, is it's money that you can't really touch.

So if you are contributing to your 4-1-K, that money goes into that environment before you even see that paycheck. So it's already there. Okay, so let's get into this management fee situation.

So like I said, a lot of people don't understand that they're actively paying management fees. So I thought it'd be fun to go over this. So what are management fees based upon? Well, typically, they fall into three different buckets.

You can pay investment fees, plan, administrative fees, and individual service fees. And some of these fees are like flat fees, you know, just like a one cost thing for this type of transaction. And investment fees are typically a portion of your entire portfolio.

So this includes like fund management and investment oversight. So if you add all these fees up, they become quite a lot. And they impact your portfolio significantly.

And you are going to be paying these fees, regardless of whether or not your account value is going up or going down. So the average management fee could be around 2%. And it could be even more than that.

So I thought it would be interesting to kind of play out how does the impact of management fees on a portfolio work for someone. And just kind of give you guys some real math and real numbers. So let's take Joe, for instance, he's going to be 35 in this scenario.

He's married, and he has been really diligent about putting money in his retirement because he is looking forward to living his golden years with his family traveling, let's say. So he currently has $50,000 and he is making $100,000 a year. So he is contributing $17,500 per year into this plan.

And we'll go out 30 years just so you can see that the aggregate of like, hey, what does it look like if someone is 65? And his employer matches up to 50% of the first 6% of his salary. So if he's making $100,000, that means that the employer is matching up to 50% of the first 6% of his salary. So that's where it gets a little hairy.

So 6% of his salary is $6,000. 50% of $6,000 is $3,000. So long story short, his employer is contributing $3,000 every single year that he stays there that he's contributing to his plan.

That's how much they are contributing to his 401k every single year. And this is assuming that this doesn't go up just for the sake of easy numbers. Okay, so I am going to share with you my handy dandy calculator.

Mary Jo always likes to poke fun at me because I am kind of a nerd. And that's okay. I'm proud to be a nerd.

I just like numbers and math and how things work and proving to myself things with numbers. Okay, so here is his $50,000 that are already in the plan. We're going to go out to age 65, so 30 years, and we are going to assume that the average earning rate inside of this plan is 8% year over year.

And I will asterisk this and say that average rate of return is something that is used in the financial industry as kind of gospel. But really, average and actual rate of return are very different.

Because essentially, you're not accounting for any losses is what I'm saying.

So this is assuming 8% every single year for 30 years with no dips in the market, which is impossible. It's just not going to happen. So I will say that this is like best case scenario that we're kind of reviewing this situation together.

So he's contributing the $17,500 every single year until age 65. So if you just account for the earnings rate and how much he's contributing, the gross account value is at $2.8 million. Now, that is honestly a huge reason why people love 401ks is they're like, hey, I can just kind of set it and forget it.

My account value is going to grow. Again, we're going over half truth. So I want you to understand the big picture of how this plays out and what is impacting these plans.

And do you have control over that? Okay, so we are going to add the employer match, which is exciting. So like I said, they're matching up to 50% of the first 6% of this person's salary. So Joe is receiving $3,000 every single year from his employer.

So if you take $3,000 and times it by 30, they have contributed up to $90,000 for Joe in his retirement. So this brings his account value instead of $2.8, it brings it up to $3.2. And again, this is where people go, this is more than enough money for me to retire off of. I don't have to worry about it.

Okay, so now let's get into the things that aren't so exciting about these plans is the management fee. So like I said, on average, people are paying quite a bit of money in these plans and they don't even realize it. So a conservative management fee would be around 2% of Joe's portfolio every single year until he's 65.

So we're going to add in this management fee of 2%. So this took his account value from $3.2 to $2 million roughly. And here's kind of, you know, the thing that makes you scratch your head a little is the management fee is over half a million dollars.

So Joe himself has contributed almost $600,000 to the plan. The management fees are at $514,000. So if you think about what his employer contributed, $90,000, the management fees wipe that out.

Now you're still obviously earning in the market, which is a good thing. And here is kind of like the other side of that coin. So this is the first 401k half true that we're going to go over is the management fees.

And if you notice, it didn't just bring his account value down by half a million dollars. It brought it down by $1.2 million. And here is the effect of this over time.

Here is why this is happening is because these management fees are taken out every single year. So it's similar to the person that is constantly interrupting the compounding of their money.

Because you're paying these management fees over time, you are earning on less money.

You are growing less money because you've had to interrupt the earning potentials of those dollars in order to pay these management fees that most people are unaware of. And like I said, I was doing some research and I found that around 2.6% of people have over a million dollars in their 401k plans currently. And if you think about kind of what we're up against in America, that number is a little bit defeating because we have to deal with inflation.

We have to deal with taxes. We have to deal with whoever is in office and whether or not you agree with how their politics impact how we're able to receive money or what taxes we have to pay. So I think it's really important that if you're in this stage that you are really heavily considering, what am I doing with my money? Is it actually helping me get ahead? And if I have access to the majority of the money that I'm earning, and I have good saving habits, what can I use that money for in order to have it go out and make some more friends? Maybe that's like investing in yourself, buying a course.

Maybe it's buying a business. Maybe it's buying real estate, whatever kind of floats your boat. I just think it's important to think about what the future holds and how you are making sure that you're putting yourself in the best position to not only take advantage of opportunity, but also to be educated and have a really good skill set to make sure that you as a person can set yourself up for success.

So this is the account value, $1.2 million. And we haven't even gotten into the taxes part. And that will be a completely different podcast.

So stay tuned for that. But I just think it's interesting to go over these account values with what we think that they're going to be without factoring in these things that we haven't actually considered.

And the reason why I think it's important to talk about this is because I've been in this industry for a really long time.

And a lot of what people say about whole life insurance is like, you know, it's so expensive. And I'm like, expensive compared to what? So I just think it's important to know where you're putting your money, know why you're putting your money there, and to be informed no matter what avenue that looks like for you and set yourself up for success. I mean, you hear this all the time, but it's like no one's going to save you.

So you kind of have to save yourself and make sure that you're putting yourself in the best situation possible. And if you're counting on that money to retire, you know, a difference of $1.2 million, not even factoring taxes is massive. If you divide $1.2 million over 30 years, that's $40,000 a year.

I mean, that could be someone's take home salary after taxes or even their salary before taxes. And I don't frequent Walmart often. I'm not going to lie to you guys, because I just feel like the customer service there is terrible.

But when I do go infrequently, I always see someone that is like much older there as a door greeter. And I always think like, did this person know that this is what they were going to be doing at this age? And are they happy about it? And if they are fantastic, like they're always having the warmest smiles, the friendliest greeting. But I also think that I wish someone would have sat them down and said, Hey, this is how much money you're going to need to live off of.

This is how much cash flow you're going to need to have coming in to sustain your lifestyle. And let's increase that by the rate of inflation to make sure that you can set yourself up for success now to make sure that you're doing what you want to at that age. I'm such a huge proponent of that.

So to recap what we went over today, the 401k half juice, it all looks amazing if you don't consider the other side of the equation. So with management fees alone, it brought that account value down by $1.2 million. And the larger the portfolio size, the more management fees you're paying, you're paying these fees, whether or not your account value goes up or goes down, which I fundamentally disagree with.

But this is how these plans work. So I hope that you all enjoyed this podcast. Make sure to stay tuned for the second phase of the 401k half juice coming to you soon.

So if you have any questions, if you have any requests, you can email me at terysa at without the bank.com. Mary Jo at without the bank.com. It's a pleasure to be here with you all today. And I hope that you all have a beautiful rest of the week. All right.

Take care. Bye.