Jim, a 66-year-old investor and retired paramedic, knew he was paying something, but he just wasn't sure what. So he sought to move to another financial advisor and get some answers.
Why he never asked anyone in the first place is beyond me; frankly, it was beyond him, too. But finally it occurred to him to ask the question: "How much am I paying on my investment accounts?"
Jim had about $300,000 in a few separate, managed portfolios. It consisted mostly of mutual funds and exchange-traded funds. It turns out he was paying roughly $5,500 per year in advisory fees.
I am not sure if he was more upset or embarrassed. Either way, he knew that he would be paying some fees, but he didn't know how much and why. Wanting to confirm, he had finally asked his former advisor: "Are there any other hidden fees that I should be aware of?" The advisor apparently responded: "No, there are no additional fees."
That's when he decided to take some action and call my office to set up a meeting.
As I mentioned, Jim had three separate accounts — two that the advisor was charging 1.5 percent. The other account, which was a managed ETF portfolio, was being charged 2 percent. He asked me the same question regarding the fees. Without looking at his statements, my initial thought was, If you have mutual funds or ETFs, there is going to be some sort of internal expense.
But when he handed over his first statement, it didn't take long to see that he, in fact, was paying more than the 1.5 percent the advisor was charging. It was a mutual fund platform that I was very familiar with, since it was one that was commonly used by advisors at my previous brokerage firm.
We use a few different mutual fund screening software programs, and I pulled up one to show him what the internal expense of the mutual fund was. The internal management fee of the fund was 2.04 percent.
"Clients should want the advisor's incentives to align with their own. … If a client is looking for advice on short-term goals …, a one-time fee would be more appropriate than an ongoing fee."
At first Jim was silent, probably thinking about what his former advisor had told him. Then, with somewhat positive reassurance, he said, "Well, at least it's only about a half percent more than what I thought. That's not so bad."
I explained to him the 2.04 percent was in addition to the 1.5 percent that he was paying the advisor, for a total fee of 3.54 percent just on this one account. You would have thought that I punched his firstborn square in the mouth.
I wish I could say that this was an isolated incident, that this only happens on seldom occasions — but unfortunately, it doesn't. It happens quite often. Time and time again, we come across investors who are paying exorbitant fees in their portfolios. And even worse, that they're often paying 2 percent to 3 percent more.
Fees can sometimes feel outrageous. But the question is, why? Fees feel outrageous when they aren't appropriate for the service you need or when you don't know about the fees in the first place.
Certified financial planner Benjamin Brandt, president and founder of Capital City Wealth Management, dives into the first point. "Rather than focusing on the fee amount, I would first question the structure of the fee," he said.
"The clients should want the advisor's incentives to align with their own," Brandt added. "As an example, if a client is looking for advice on short-term goals (debt management, business appraisal, life insurance), a one-time fee would be more appropriate than an ongoing fee.
"If, on the other hand, a client needed an ongoing retirement income plan, a recurring plan-based fee might be more appropriate," he continued. "Once the appropriate fee style is determined, cost comparisons can be made. Oh, and anytime an advisor says their products don't have fees . . . run!"
Additionally, chartered financial analyst Grant Bledsoe, president and founder of Three Oaks Capital Management, points out a great way to help get at the truth about fees.
"I had someone ask me recently, 'Are there any fees I'll incur in my account that you don't invoice me for directly?'" he said. "I think this is a good way to phrase the question, since it encompasses loads, commissions, expense ratios, 12b-1 fees and anything else that comes out of the account."
Unfortunately, many people are blissfully unaware of the fees they are paying in their investment accounts. A survey commissioned by Rebalance IRA showed that, out of their sample of full-time employed baby boomers, 46 percent believed they do not pay any fees whatsoever in their retirement accounts. Moreover, those who believe their fees are less than 0.5 percent total 19 percent. Yikes.
Some financial advisors steer their clients toward "suitable" investments, but not necessarily the "best" investments. A new rule emerging from the Labor Department, the "fiduciary rule," is aiming to ensure that financial advisors must act in the best interest of their clients.
Financial advisors should already be transparent about the costs associated with their services, including the internal costs of the investments themselves. Investors have a right to understand how and what they're paying.
While this is common sense, investors are best advised to research before investing. If you feel you're in the same boat as Jim, here are some simple ways to verify how much you're paying:
When it comes to your investments, you can discover the truth about the fees you're paying. Take matters into your own hands, find the fees and act accordingly.
— By Jeff Rose, founder and CEO of Alliance Wealth Management
