So I have a young friend at work, someone who has only been teaching a couple of years. He's a terrific guy, an excellent teacher, and very bright. We've worked together some, and it's been fun to see his enthusiasm.
He sees me as something of a mentor, I think -- at least in journalism, where we collaborate a bit. Recently he asked my advice about investing for the future, because I'm Mr. AP Economics and all that ... so, I tried to offer him my take on his investment plan, to which he's contributing monthly.
His question to me was whether he was paying too much in fees to his investment company. Here was my answer (I've changed the name of his fund company to XXX; I also reference Vanguard as an alternative, but there are certainly others out there that offer no loads and very low fees):
Yes, I think you're paying too much. .
Let's say you invest $750 a month for 40 years and make an average annual return of 8 percent (yes, I know that's high, but stick with me). In 40 years, your account will have $2,635,710.82 in it. And let's further assume that this is happening in a Vanguard Funds S&P 500 index fund, which has annual fees of 0.17 percent. That means your money is actually earning 8.17 percent per year, but Vanguard skims off 0.17 for its trouble.
Now, let's assume you're putting the same $750 a month into your XXX funds. It would take you three years to get to $25K if you're starting at zero -- until then, you're only earning 3.97 percent because XXX initially skims off an astonishingly high 4.2 percent. (At the end of three years, you'd actually have a bit more than $28K.) After you hit $25K, your XXX fund costs reduce by two percent, so your rate of return would bump up to 5.97 percent for the rest of the way, as XXX is still skimming off 2.2 percent each year. Take the $28K+ account balance and continue adding $750 a month -- at the end of the same 40 years, you'll have $1,480,577.98, almost 50 percent less than what you'd have with Vanguard.
So I guess the question is this: is your relationship with the XXX guys worth more than $1 million to you? (Answer: I doubt it.)
This is obviously a simplistic example (I didn't mess with the whole "lesser of $30 or 2 percent" thing, I just assumed a 2 percent charge went away after three full years), but the bigger point is this: fees matter. And if you can dramatically reduce your fees by going to a no-load, low-fees fund company like Vanguard, which is cheaper across every type of mutual fund than the rest of the market, the difference in fees goes to your bottom line instead of their Lamborghini payment.
So my advice is to switch, quickly. If there are big surrender fees for another few years with XXX, maybe wait until then to take that money out. But don't put any more NEW money in XXX. Instead, open a 403b7 account with Vanguard and start putting your new money there. When the surrender fees go away with XXX, you can switch that money over to Vanguard.
Hope this helps. ...
