Which way would I be better off?

Question

Hello I am in a bit of a quandary about how to go about investing in my situation. I am eligible to participate in a 457 deferred comp plan at work through ICMA. Most of the expense ratios for the ICMA funds range from .48 to 1.25% I also was considering investing directly from my checking account into some of Vanguards funds. They actually have funds with zero expense ratios, no loads, or 12b-1 fees.

I do understand about the benefits of investing before taxes into a deferred comp 457 plan. What my question is at what expense ratio/fees do the tax deferred benefits of the 457 plan begin to lose their value to a lower expensed mutual fund like Vanguard (or any other I'm not pushing Vanguard here)? FYI I'm 32 years of age and am maxing out my Roth to invest on my own. I would be into the mutual fund to buy and hold for the long term.

Answer 1

No, my friend. Vanguard does not have any funds with zero expense ratio. Maybe 0.20%.

Deferred comp plans are outstanding. There is absolutely no reasonable expense ratio that can make up for the increased gain of your deferred comp plan. Not even 5%. Look at it this way.

If your tax bracke is 25% about average, then (1.25 x 0.10 x 0.985) ** N
has to equal what you can receive at (1.00 x 0.10 x 0.0998)**N.

There do not equal. In every case the first equation eclipses the second. Remember that if you are in a taxable mutual fund account you will get taxed every year on your realized capital gains assuming of course there are some. (I am an optomist) In a tax free account they continue to wrack up return year after year untaxed until removed.

Answer 2

Vanguard's Target Retirement funds maybe the ones that seem to have zero expense ratio because they do not add an extra expense fee (like Fidelity does) on top of the expense ratios of the funds they invest in.
The .48 to 1.25% expense ratios of the ICMA funds are below average. Look at the total after tax return of the 457 plan investments vs. funds from Vanguard, T. Rowe Price or whomever. Think about this: If you are successful in investing, upon retirement you may be in a higher income tax brack than you are now (+ no mortgage or dependent {kids} deductions). Most of the gains of your deferred comp plan will be from increased value of the investments (capital gains). When you finally take out the funds, will they be taxed at the low capital gains rate of 15% or your dividend/interest rate of up to 36%? Would a tax free roth be better?

Answer 3

Hello. This is the original poster. Thanks for the replies. Muncie I may have confused funds in the American Century One Choice Family offered though Vanguard. They do show to be expense free as they are relatively new only being around since 2004.

Gosh thanks for your reply as well. I am already maxing out my Roth on my own after I get paid so I cant use that to be a part of my deferred comp plan. I want to be able to control my individual stocks purchases in that retirement vehicle. Plus the limits of the 459 plan are $15,000 so I would be able to put a lot more into that. My main concern is would the benefits of the tax deferment be negatively impacted by the expense ratios from my 459 plan or would i have a better return in 30 years by investing in a lower expense ration fund without getting involved with my tax deferred account.