Amaya and Sven both went to work for different employers upon graduation from college. They were paid the same and both were able to save $12,000 per year in their respective 401(k) accounts each year for 45 years. They both retired at age 67. The two friends each earned an average of 7.5% gross return on their retirement account balances. The only difference is that Amaya's employer used low-cost index funds while Sven's employer used fully-managed mutual funds with higher costs. Amaya's funds averaged an annual cost of 20 basis points (two-tenths of one percent) while Sven's funds averaged an annual cost of 120 basis points (1.20%).
Calculate their account balances at retirement and describe the effect on their respective retirements; provide your worksheet and explain the lesson to be learned from this problem.
(Each calculation is the future value of a 45 year ordinary annuity. While there are several means of calculating the effect of the investment costs, I would recommend reducing the average gross return by the annual cost. Again, I recommend using Excel by selecting "Formulas" on the menu bar across the top of the Excel page, and then "Financial" on the drop down bar-then scrolling down to "FV".)
How might this calculation change the way you look at your own retirement plan and account?