IMHO: Income Tacts

Now, tax season’s not quite the arduous experience it once was—not since that fateful “encounter” with the AMT a couple of years back, along with a year replete with a variety of “special” events, that finally persuaded me that it was a better use of my time to enlist the services of an expert.  Still, there is the process of gathering the requisite information from which that expert can do his thing (aided in no small part by the order in which my better half keeps our financial house), and it provides a good opportunity to get a 30,000 foot perspective on how we spend (and invest) our money.      

This year—as in most years—I was astounded at how much of our household income is absorbed by various taxes—federal, state, local/property, and, yes, FICA (which I consider a tax—but that’s a subject for another day).  Indeed, while I have an opportunity to see most of these reduce my take-home every pay day, that never has quite the same impact as seeing what it adds up to over a year’s time.  After all, it’s one thing to hear people talk about tax rates and tax brackets, credits, deductions, and allowances—or even to see those interim deductions on those payroll stubs.  It is another altogether to see, all in one place, how much of one’s household income is “rendered unto Caesar.”  This may be a free country, after all, but that doesn’t mean it’s cheap.

For all the angst and drama about fee disclosure, most plan participants are already given a fair amount of information about the costs of their retirement plan accounts.  Of course, it’s generally in tiny little numbers in tiny little print—numbers that look like pennies (fractions of pennies, actually) and are expressed not in dollars and cents, but basis points, or bps¹. That doesn’t change the fact that most participants could, if they were so inclined, figure out how much their 401(k) costs.  All they would have to do is sit down with their year-end statement and the prospectuses associated with the funds they have invested in, and—setting aside for a second potential “distortions” like interfund transfers (of which there generally aren’t many), the timing of contributions deposited, and the fluctuating value of the fund over the course of the year, and ignoring the impact of things like trading costs within the fund—they could get a respectable, if not completely precise, sense of how much they are paying.

Of course, what they’d also get, if they took the time to do that, is a single figure that would show them what they paid for their 401(k) last year.

Now, like many of those government taxes, those 401(k) fees are a toll that is taken along the way.  For years this industry has fretted about the difficulties of producing that single number at a participant level—and, the way those fees are currently structured, that concern is not without merit².  Some have suggested that producing that figure would produce an unhealthy focus on fees alone, rather than the broader context of a total return; others, that the additional costs of producing that figure would be prohibitive³, and that participants wouldn’t be able to fully appreciate the array of services they are receiving for those expenditures. 

That said, as “easy” as the largely imbedded nature of retirement plan fees makes it to extract them for the investment fund community, it also renders them largely invisible to the investing public.

As a consumer, when it comes to buying things like a car, I may not care (or need to care) how much commission that car salesman gets, how much the manufacturer paid for the tires, or even how much profit the dealership makes.  But, at the end of the day, I expect—and have a right to expect—to know how much I am paying for the vehicle I drive off the lot.  As a taxpayer, I may not know or fully appreciate just how much of my taxes go to support what services (and I may disagree with some that I do), but, at least once a year, I’ve got an opportunity to know how much I am paying in aggregate (and, generally on a somewhat less frequent basis, I have an opportunity to do something about it).

Unfortunately, as a 401(k) investor, I’m still largely in the dark—and, IMHO, the sooner participants know how much they are paying, the better off we’ll all be.

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¹ In my experience, most “regular” people don’t know what a basis point is (many don’t quite seem to understand what a mutual fund is), and many don’t read the prospectus where such things are explained. 

² In which case, one might cynically suggest that perhaps a methodology that would be easier to communicate might be more appropriate.

³ Frankly, IMHO, some of the proposals that have been made to present this information to participants would kill a lot of trees AND shed little in the way of clarity.