Know How Much You Are Paying for Financial Advice
Many people do not know what they are actually paying for financial advice. If you are currently using or considering using a financial advisor, please know that unless your advisor can clearly state that he or she is a fee-only registered investment advisor, you won’t know how much you are paying.
It is important to be aware of how much money your financial advisor is being paid so you can ensure your invested money is being used wisely.
How Brokers Get Paid
A stockbroker might skirt the question of how they are being paid by saying you aren’t paying anything out-of-pocket for advice. But he or she is likely getting paid with commissions and other behind-the-scenes compensation.
Besides the fee issue, stockbrokers, as opposed to registered investment advisors (RIAs), are held to a suitability standard, not a fiduciary standard. This means if your broker believes a particular fund that pays a big commission is appropriate for you, he or she can recommend it because the investment is “suitable.”
On the other hand, RIAs are fiduciaries, which means they must give advice that places your interests first.
How to Check If You Are Paying Hidden Fees
To start, look at the advisor’s business card. If it says “Securities offered through …” you are not working with an RIA.
If you’ve already invested, look for the following on your statements:
- Annuity: If you own an annuity (especially in your IRA), your broker or insurance agent likely made a huge commission, perhaps as much as 10%. And, if you want to get out of the annuity, you will forfeit 10% or more if you pull your own money out within a certain period of time, sometimes up to 10 years or more.
- Mutual Fund A Share: If you have a mutual fund that has an “A” at the end, it means your stockbroker got money upfront when you purchased the shares. For example, some popular stockbroker products pay the stockbroker a commission of up to 5.75% for selling their funds.
- Mutual Fund B Share: If you own a mutual fund that has a “B” at the end, it means your broker got some money upfront from the fund company. If you sell the shares within a certain period of years, you will likely be required to pay a penalty, sometimes up to 10%. Additionally, the fund might charge “12b-1” fees each year for marketing, typically 1%. (For related reading, see: 12b-1: Understanding Mutual Fund Fees.)
- Mutual Fund C Share: A mutual fund with the letter “C” at the end charges 12b-1 fees every year. Essentially, the longer you hold the fund, the more commission you are paying.
So, how can you judge your costs? Look at the fine print on your funds’ prospectuses or websites. If you have $800,000 invested in commission-based funds, you could have paid as much as $46,000 when you invested. Ongoing operating expenses and 12b-1 fees could be 1.5%, or $12,000 per year.
Fee-Only RIAs Don’t Charge Hidden Fees
It’s true that you pay for the advice of a fee-only RIA, but that is the only money your advisor will receive. RIAs also work with you on more levels than simply investing by helping with financial planning and advice. Your investments will be in no-load (commission-free) funds without 12b-1 fees or withdrawal penalties.
Based on the example above, if your RIA charges 1% of assets under management, wouldn’t it be worth $8,000 per year? For this amount, you will get unbiased advice, avoid commissions, surrender charges and 12b-1 fees, have access higher quality funds, and pay lower fund costs.
(For more from this author, see: Finding True Wealth in Retirement.)
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