Several large financial services and investment companies have been aggressively attempting to persuade retired or retiring feds to roll their Thrift Savings Plan account balances over to IRAs. With more than $220 billion invested in TSP accounts, more companies are sure to follow.
I believe this effort represents one of the greatest threats to the value of TSP accounts and the benefits they provide participants in retirement. This threat is significant enough that TSP managers have issued cautionary statements, through their July Highlights newsletter and other media, and have approached some of the perpetrators with requests to retract or modify their advertising.
As a TSP account owner, it is important that you understand why companies are promoting this option and how it is likely to affect your interests. While there might be a legitimate reason to recommend an IRA rollover, such as gaining greater withdrawal flexibility in retirement, the reason is too often that it will benefit the person or organization making the recommendation. It benefits them in the form of income derived from your new IRA account. This invariably means that the move will result in higher costs. TSP offers its participants the lowest cost of any plan of its type, anywhere. I challenge anyone to find a plan in which you can invest, with all of the advantages offered by TSP, at comparable cost.
TSP’s low cost is important to you as a participant because it translates directly into better investment performance, and correspondingly increased benefits to you in retirement. The weighted average cost of TSP’s five basic index funds for 2007 was about 0.05 percent of the average daily balance for the year. By comparison, Fidelity, a company that is aggressively marketing TSP-to-IRA rollovers, charges its mutual fund customers about 1.1 percent of the average daily balance – 22 times TSP’s cost – for the privilege of investing in its mutual funds. This was the weighted average cost of its funds as recently reported by Morningstar.
Higher cost is not unique to Fidelity. T. Rowe Price, Vanguard, American Funds and all the other mutual fund complexes have similar handicaps in comparison to TSP. Consider a TSP account containing $500,000. It will cost $250 to maintain the TSP account for a year at
0.05 percent. At 1.1 percent, that account will cost $5,500 per year. Of course, depending upon the mutual funds you choose, or which are chosen for you, and any other loads, fees and expenses that might be levied, the actual cost to own your IRA may differ, but 1.1 percent is not unusual and is fairly close to the national average for mutual fund expenses.
So, why would you pay $5,500 per year for an account when you can get one from TSP for $250 per year?
The usual assumption is that the IRA provider – the brokerage firm or fund manager – has some special ability to produce investment returns that are superior to those produced by TSP’s index funds. But history and logic say otherwise. Study after study has shown that, historically, managed mutual funds fail to predictably and reliably beat the markets in which they invest. Of course, a particular fund or group of funds may wind up beating their market, but it’s most likely that they won’t, and predicting in advance which ones will and when is impossible. On average, investment managers earn the same return as the market in which they invest, before taking expenses and fees into account.
Another possibility is that the extra expense you pay will get you some top-rate planning and analytic services. Not likely, since “advisers” who work only for compensation obtained through mutual fund loads or expenses – securities salespeople – are prohibited from offering investment advice that is more than just incidental to their primary business of selling investment securities. They are also bound to act in the interests of their employers and the companies who pay them, rather than in your best interests.
The higher fees you pay will most likely result in a significant decrease in the returns you receive each day, month and year, lower income from withdrawals during retirement, and a lower ending account balance when the game is over.
Written by Mike Miles
For the Federal Times
Publication December 13, 2008