HISTORICALLY, BROKERS have been paid through the commissions they charge every time you buy and sell. But faced with competition from fee-only financial planners, even the major brokerage firms are now looking to reduce the emphasis on commissions and instead charge a percentage fee based on an account’s size. For instance, a financial advisor might charge 1% annually on a $1 million account, equal to $10,000 a year.
This eliminates many of the conflicts-of-interest that come with paying commissions. Still, fee-based arrangements can be expensive—and perhaps so expensive that good investment performance is unlikely.
For a $250,000 or $500,000 account, the advisor’s fee might be 1.5%. Add that to the annual expenses of the mutual funds that are bought, which could be 1%, and clients might find themselves paying 2.5% a year. It is extremely unlikely that the funds involved will perform well enough to overcome those costs and keep up with the market averages over the long haul. What if you have less than $250,000 to invest? You’ll struggle to find a traditional advisor who will manage your account on a fee basis. Instead, check out the burgeoning group of online advisors.
Our Humble Opinion: Despite the drawbacks, paying fees is preferable to paying commissions. But here are three pieces of advice: First, try to limit the fee to 1%—and even less if you have a seven-figure portfolio. Make sure the same percentage is charged on all accounts you have with the advisor, even if it’s, say, a small Roth IRA. Also make sure the fee is lowered if you add significant money to the account.
Second, push your advisor to find you funds with low annual expenses, preferably below 0.5%, on average. See if any of the funds charge 12b-1 fees, which could be providing additional income to your advisor—income the advisor ought to be disclosing to you. Third, make sure that, in return for your annual fee, you get more than just management of the money you have with the advisor. Your advisor should meet with you regularly, help you develop a financial plan, provide guidance on your workplace retirement plan, and offer advice beyond investments, including suggestions on estate planning, taxes, insurance, and handling debt and real estate.
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