By Matthew M. Glatt, CPA – Founder and CEO of FLP Financial Group, LLC
In some recent studies, baby boomers were asked to estimate how much they pay in investment fees. Over 40 percent of respondents said they don’t think they pay any fees at all, and another 19 percent of respondents said they are pretty sure they pay less than .5%. All of these people were in for a rude awakening, unfortunately. The average amount paid was closer to 1.5%, with some examples stretching all the way up to 3% or more.
Why is it that so many people are totally unaware of the money they’re handing over to financial advisors? Believe me, that’s by design. A lack of transparency in the financial industry allows individuals and companies to hide fees in many different ways. As much as I wish I could say that it’s only a few bad apples engaging in this behavior, I can’t. It’s more of an industry standard.
So what can the average investor do about this? A few things, actually…
Know Your Investment Strategy
How is the money in your retirement account being invested? If you have any money in taxable accounts, and your advisor has you on a plan using aggressive investing tactics such as frequent turnovers or trading within the fund, you may be subject to tax on each transaction at the end of each year. Why? Because each time stocks are sold or traded in a taxable account, you’re subject to capital gains tax.
These are fees that are not paid to your advisor directly, so he or she does not disclose them when you ask about a commission. Indeed, many investors have no idea how much they’re paying in taxes, and therefore have no idea that the amount can be reduced.
The best way to avoid these fees is to take your retirement goals, risk tolerance, and the potential for taxes into account. With this information, come up with an appropriate investing plan, and stick to it.
Learn About Mutual Fund Fee Structures
There are internal expenses all throughout mutual funds that can be difficult to track down, and even more difficult for the average investor to understand. That’s because there are several different share classes (A,B,C,R, and I) and each one has a unique fee structure.
Some share classes such as Class A charge you a large amount up front, but then have lower fees later on. Other share classes require little in the way of up front costs, but then have higher ongoing fees such as 12b-1 fees.
The point is, each share class has its own expense ratio, and depending on how much money you are investing, and how long you have until retirement, your best bet at a given time is going to change. Research each share class, read up on their internal fees, as well as up front fees, and look for the one that makes the most sense for your unique situation.
Beware one-size-fits-all solutions. This is one area where you really have to do some homework.
Learn How Your Financial Advisor Gets Paid
There shouldn’t be some magic phrase you need to say in order for your financial advisor to level with you, but for many investors, they are running into that exact situation. If you ask about hidden fees, you may be told there are none, because they’re technically spelled out somewhere in your paperwork – it’s just that nobody ever brought them to your attention.
This is where the importance of fee structure comes in. If a financial advisor gets paid a commission based on how well your investments perform, then they have more incentive to invest your money in a way that benefits them, not you. They will often give you suitable advice, but certainly not the best advice they could be giving you.
What you want is a fiduciary. A fiduciary is a wealth manager who charges fees, not commissions. Furthermore, they have a legal obligation to act only in your best interest. They must be transparent with how they’re handling your money, and continually work to get you the absolute best outcomes. It is not required that every financial advisor be a fiduciary, so it’s critical that you ask. If you get a dodgy or equivocal answer, that’s a bad sign.
Learn Which Fees are Worth Paying
First off, don’t ever believe anyone who tells you that there are no fees for investment and wealth management. There are. It’s just that some fees are warranted and some exist only to add wealth to your advisor.
Commission based relationships are risky for you, the investor. A much better bet would be to work with someone who charges asset based fees. This way, you know exactly what you’ll be paying up front, and there is no incentive for your advisor to move your money around without your knowledge.
A fee should be considered outrageous if it’s unnecessary, or if someone went to great lengths to hide it. If you ever have to dig, or even get a second pair of eyes on your portfolio in order to find the hidden fees, red flags should be going up all over the place.
Work with an advisor that you trust – someone who is transparent, honest, and who will level with you. You’re talking about real money here, so you want a realist handling it, not an idealist trying to sell you promises.
For a detailed breakdown of all the hidden costs you may be paying, click here to download The True Cost of Investing.