The Mutual Fund Retirement Myth
Mutual funds can be a good way to save for retirement. Mutual funds are good to start with if you don’t have a lot of money, or maybe you’re a young person saving in a 401(k) plan at work. Yes, mutual funds are fine in those cases, especially in a 401(k) or IRA, because those are tax-deferred vehicles. You’re not going to get whacked with all the distribution of capital gains, taxes, etc.
As people mature in their journey to wealth, get a little more capital under their belt, start approaching retirement, and take money out of these accounts one day, there’s a better way to do it. There’s a more cost-effective way to do it. You can reduce paid taxes as well. You can potentially increase the total rate of return and reduce the tax drag and costs by utilizing dividend-paying stocks.
As a general rule of thumb, be wary of mutual funds and annuities. Oftentimes, 3% to 4% per year is the internal expense of a variable annuity, and I’ve seen higher. Between mortality and expense fees, administration fees, sub-account fees, income riders, and death benefit riders, you’re talking about four different layers of expenses being pulled out of an annuity. A lot of mutual funds are like that, too. They don’t have M&E fees, but they have 12b-1 fees. That’s an ongoing expense that comes out. Some of it goes to the fund company and some to the advisor. To be fair, there can be a circumstance where almost any investment could be appropriate. Let’s say you’re a physician who is concerned about potential medical malpractice judgments, and perhaps you’re number one goal is creditor protection of your assets. In this case, it may be appropriate to design a low-cost, stripped-down variable annuity to help save for retirement. I have used products like this for clients in high-risk careers who were concerned with creditor protection, and we were out the door at 1% annually (all in cost) with a properly structured annuity. Couple that with properly funded 401k and pension arrangements, cash value life insurance contracts, as well as solid estate planning, and the investor who is concerned with getting sued can become a great option to consider in the state of Florida.
So back to expenses, often, there’s a load with these Wall Street registered products, like a sales charge or sales load in a mutual fund, either upfront or it’s a deferred load. There are a lot of expenses that come out of these products that people aren’t often aware of. Do an x-ray of the products you own. Understand the true cost of ownership of everything you own. If you have an advisor and you’re paying him 1%, unless you’re in all individual stocks and bonds, 1% is not your total cost out the door. One percent is the advisor’s fee, but you have expenses to the fund companies and the products you own. There’s money coming out the back door, so understand your total cost of ownership because it’s not about how much you make; it’s about how much you keep after expenses and taxes.
Disclosure: Every investor's situation is unique and you should consider your investment goals, risk tolerance and time horizon before making any investment. Prior to making an investment decision, please consult with your financial advisor about your individual situation.