Author Topic: Avoid high 401k fees by diverting investment to Traditional IRA?  (Read 1426 times)

Jaketucson

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Avoid high 401k fees by diverting investment to Traditional IRA?
« on: December 13, 2017, 04:52:04 PM »
My wife has a 401k with Nationwide that is not ideal.  She has access to Vanguard Funds (Total Stock and Total Bond markets, specifically) but they are "off-menu." Nationwide charges a net asset fee of 1.47% for using "off-menu" funds, so for VTSAX we're looking at total expense of 1.51% (1.47 NAF + .04% expense ratio). They charge a NAF of 1.07% for their "menu" funds, resulting in close to 2% total expense for even their cheapest funds.  So we're better off going with VTSAX even though it's off-menu, but 1.51% is ridiculous.

I had a brainstorm to do annual rollovers of the previous year's 401k contributions into a Vanguard Traditional IRA so that we only pay the high fees for a year.  I called Nationwide and her plan does not allow In-service rollovers, meaning we can't rollover funds out of her 401k while she is still employed. 

Plan B is to divert $5500 per year to Vanguard and reduce her 401k contributions by that amount.  At least then we'd be avoiding the high fees on a portion of the money.  Then a further thought occurred to me: why not open a Traditional IRA for both of us, giving us $11,000 to divert? The end result is that we would be contributing enough to the 401k to get the employer match, putting the rest into IRAs, still getting the pre-tax benefit. 

I could then adjust her W-4 withholdings higher (claim more exemptions) to account for the higher pre-tax income on her paycheck, basically keeping her bi-weekly federal tax the same as it is currently.  That way we don't have to make it up at tax time, since her W-2 would otherwise show higher income and higher tax that we would then get back when we file and claim the IRA deductions.  Our income level (AGI) does allow us to deduct traditional IRA contributions even with access to 401k.  The phase-out starts at $99k AGI and we're well below that.

Does this seem like a logical plan?  Am I missing anything important?  I tried searching the forums and didn't find this specific question being asked.  I apologize if I am duplicating posts.  Thanks for your input!

TexasRunner

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Re: Avoid high 401k fees by diverting investment to Traditional IRA?
« Reply #1 on: December 13, 2017, 05:28:27 PM »
I can't do the math just this second, but yes with the inflated expense ratios, it probably makes sense to contribute up to but not exceeding the match, and max out Vanguard tIRAs, then drop back into 401k to the max.

Numbers needed for maths to occur (lol), if you don't mind the personal data out there:

Current tax bracket / expected effective tax rate:  ____
401k Match:  ____  (IE 25% up to 7% or dollar-for-dollar up to 10%....  etc)
Any fees for depositing / withdrawings / rollover to/from/with that account:  _____
Annual maintenance fee? (A plan that anti-outside funds likely has one)
S&P 500 expense ratio for Nationwide (with Nationwide's fund):  ______
Total market index fund at nationwide (with Nationwide's fund): ______

Etc...

It is also likely that you would want to fill the 401k bucket with nationwide's S&P500 or Total Market Index plan, if they have one.  Check all the investing options.  Yes, Vanguard's fees are nice, but not so much that a .15% expense ratio on Nationwide doesn't make sense (untill, of course, you get the opportunity to rollover, then GTFO of that company, IMO).

Thanks


(Edits because I can't spell...)
« Last Edit: December 13, 2017, 05:29:58 PM by TexasRunner »

Jaketucson

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Re: Avoid high 401k fees by diverting investment to Traditional IRA?
« Reply #2 on: December 13, 2017, 09:08:36 PM »
Thanks TexasRunner!

Our situation right now is that we're not able to max out the $18k in 401k.  Ballpark contributions for the year are around $10,500-11,000. So keeping the match in the 401k and having two tIRAs would leave us a bit short of maxing out both tIRAs.  Dropping back to the 401k wouldn't be likely to happen for several years, or unless one of us gets a substantial raise or other increase in income.  I'll try to answer you questions:

Current tax bracket: 15% with our current pre-tax contributions/employer benefits.  We would be in the 25% bracket if those went away.
401k match: dollar for dollar up to 4%
No fees for depositing to 401k.  Not sure about withdrawals or rollovers as we've never done it before.
No annual maintenance fee that I can find, though there are roughly $50/year in "administrative costs" that show up every September that don't seem to be tied to any of the other percentage-based fees.
Her plan does not have an S&P500 index fund in the "menu."
Her plan does not have a total market index fund either, but we have the ability to go outside the main plan funds so we are invested in VTSAX and VTBLX (90%/10% respectively), but as previously stated, Nationwide has the 1.47% net asset fee on top of the expense ratios.

I get what you're saying about paying slightly higher expense ratio for Nationwide index funds--.15% plus their 1.07 NAF for in-plan funds would be slightly more palatable than what we have currently (though still highway robbery).  That was my first choice to optimize, and quickly realized it wasn't an option since they don't even offer their own index funds in this plan.

An aside--I really can't help but wonder if Nationwide purposefully rips off small businesses that have no negotiating power.  I have a Nationwide 457 plan that only charges the funds' expense ratios (I work for city government).  My friend works for county government and also has a Nationwide 457 plan with very low fees (slightly different than mine, but much better than my wife's). 

MDM

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Re: Avoid high 401k fees by diverting investment to Traditional IRA?
« Reply #3 on: December 13, 2017, 09:09:33 PM »
Does this seem like a logical plan?  Am I missing anything important?  I tried searching the forums and didn't find this specific question being asked.  I apologize if I am duplicating posts.  Thanks for your input!
Not unreasonable.

See Investment Order and To 401k or not to 401k? That is the question. for some relevant reading.

TexasRunner

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Re: Avoid high 401k fees by diverting investment to Traditional IRA?
« Reply #4 on: December 14, 2017, 08:28:17 AM »
Yes, MDM is correct.  That is the thread I was remembering when replying to yours.

As far as your specific situation is concerned, I'll outlay 2 options:



OPTION 1:  Everything into 401k
I am assuming a fluid amount of 11,000$ to go into savings-

$11,000 avoiding 15% tax = +$1650.00
Match up to 4% dollar for dollar (assuming 40,000$ as 25% tax in 2017 starts at 80k and this is your wife's fund) = $1600.00 FREE MONEY
Drain of 1.51% per year = Drain of $166.10 in year 1, $332.20 in year 2, etc

Total Gains Option 1 for (5) years:  +$13,756.50




OPTION 2: Max 401k to the 4% match, then tIRA the rest (assuming you can keep the saver's credit...)

$11,000 avoiding 15% tax = +$1650.00 (assuming the tIRA deductions will remain total-income deductible)
Match up to 4% dollar for dollar (assuming 40,000$ as 25% tax in 2017 starts at 80k and this is your wife's fund) = $1600.00 FREE MONEY

This leaves 1600$ in the 401k to be subjected to the pillaging increased fees and $9400.00 into you AND your wife's tIRA buckets.  Also note, you can deposit into 2017's buckets until 4/17/2018, or whenever you file your taxes, whichever is earlier.  Maybe something to look at.

$1600 drain of 1.51% per year = 24.16 in year 1, 48.32 in 2, etc
$9400 drain of 0.04% per year = 3.76 in year 1, 7.52 in 2 etc (HENCE THE POWER OF LOW FEES!!!)

Total Gains Option 2 for (5) years:  +$15,831.20


For a difference of $2074.70 for Option 2 across five years.




*Yes I know compounding doesn't actually work that way, but its 98% accurate and keeps the math simple

**Either way, saving money is better than not saving money, so if you doubt you will actually deposit into the tIRA and keep it there, may be worth electing for plan A

*** I have not included investment gains, ONLY tax avoidance / fee avoidance gains in the numbers.  The actual gains on investments will skew these numbers to be even further apart.

**** FACEPUNCH!!!!  What are you doing with your finances such that you cannot max out BOTH the $18000 401k and the $11000 tIRA for you and your wife, (Not eve counting your opportunity for 401k, which I am guassing you have)!  Unless you are in an EXTREMELY High Cost of Living area, at 80k a year you need to be doing everything you can to max out the tax-deferred options.  Your future self will thank you.  A case study may help if you are willing to do one.  Just look here: https://forum.mrmoneymustache.com/case-studies/how-to-write-a-'case-study'-topic/

(Edits to clarify....)
« Last Edit: December 14, 2017, 08:31:39 AM by TexasRunner »

Jaketucson

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Re: Avoid high 401k fees by diverting investment to Traditional IRA?
« Reply #5 on: December 15, 2017, 10:01:20 AM »
Thanks again, TexasRunner.  I will dodge the facepunch though.  I left out a lot of information that I figured was not pertinent in order to keep my question more focused.  I will have a pension when I retire that I currently contribute a mandatory 11.65% of my gross income to.  Because we live frugally, this will cover a majority of our living expenses.  Using the 4% rule math, the pension will equate to about an 800k nest egg if I retire at 20 years, and if I decide to work longer would increase that.  I also contribute to my 457 plan, a little bit more than my wife puts in her 401k.  I also have a 401a plan that I have a mandatory 3% contribution with dollar-for-dollar match up to 3% (I won't get into why this is mandatory for me).  Our only debt is a mortgage at 3.5%, and a HELOC that I took out this year to pay for a solar panel system and to pay down my mortgage to get out of paying mortgage insurance.  We are aggressively paying this HELOC off within 2 years (a large chunk of which will happen when I file my taxes and get the benefit for the solar panels).  When I ran the numbers for the solar, it was something like a 10-12% ROI over the life of the system, so we pulled the trigger before our state changes the rules on net-metered solar. 

I will accept a slight slap on the wrist though--your response (and MDM's-thank you also) made it obvious to me that I should probably shift things around to max out my 457 first, contribute to the wife's 401k enough for the full match, then use a tIRA or two to dump the rest into.  (My 401a also has less than ideal funds, but my 457 is awesome).  It was easier in the past to have both of our contributions equal so that I could calculate our savings rate more simply.  But now I'm more interested in optimizing things, and have a much better handle on all this stuff than I did a few years ago. 

Thanks again for all the help! I came up with similar calculations as you when I first started looking at this.
« Last Edit: December 15, 2017, 10:03:08 AM by Jaketucson »

TexasRunner

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Re: Avoid high 401k fees by diverting investment to Traditional IRA?
« Reply #6 on: December 15, 2017, 10:38:40 AM »
Thanks again, TexasRunner.  I will dodge the facepunch though.  I left out a lot of information that I figured was not pertinent in order to keep my question more focused.  I will have a pension when I retire that I currently contribute a mandatory 11.65% of my gross income to.  Because we live frugally, this will cover a majority of our living expenses. 

Facepunch withdrawn.  Those numbers make a lot more sense.  Way to go.  :)

Our only debt is a mortgage at 3.5%, and a HELOC that I took out this year to pay for a solar panel system and to pay down my mortgage to get out of paying mortgage insurance.  We are aggressively paying this HELOC off within 2 years ...

May be worth loking at the rates (on both the mortgage and the HELOC) and if they are NOT ~5% or more above the 10-year Treasury note yield, then perhaps pay them slowly to get the best returns (current 10-yT note is 2.368%, so if they are NOT above 7.25% or so...).  One the E-fund is funded and all tax-deferred options are filled, then it becomes more of a personal choice.  It just might not be the "most" efficient. 

Then again, LCOL and personal choices factor in considerably. 

I will accept a slight slap on the wrist though--your response (and MDM's-thank you also) made it obvious to me that I should probably shift things around to max out my 457 first, contribute to the wife's 401k enough for the full match, then use a tIRA or two to dump the rest into.  (My 401a also has less than ideal funds, but my 457 is awesome).

Glad to help.  I have learned IMMENSLY from this forum and am going to be SOOOO far ahead than I would have been otherwise.

Lucky with the 457 account.  Nice perk there.

Thanks again for all the help! I came up with similar calculations as you when I first started looking at this.

Glad to help.  I'm also about to (probably) be in the same scenario due to changing jobs and switching to a different 401k provider with the new employer.  It would be nice if I could talk them into getting Vanguard... but thats really a pipe dream.