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The financial advising industry stinks for its jargon. The worst culprit might be the different ways advisors charge fees.
Lots of DIYers – and lots of professionals too! – consistently get this language wrong.
These people below? All conflating or confusing the terms.
And I don’t blame them! Man alive, it’s hard to keep track of.
- Fee-only
- Advice-only
- Fee-based
- Assets under management (AUM)
- Commission-based
- Project-based
- “We do better when you do better.”
- Flat-fee
- Loads, trails, and wraps
I’m writing this as a simple “evergreen” post that folks can use to decipher what fee jargon actually means.
Fee-Only vs. Commissions
The first big line in the sand: “fee-only.”
Being “fee-only” means the advisor is paid ONLY by you, the client, for their advice. You pay them a fee. That’s it.
The advisor does not receive commissions, kickbacks, or bonuses for selling you particular funds, products, etc.
You pay the fee. They give you advice.
But “fee-only” doesn’t tell you anything more about what the fee actually is.
It only tells you, “No commissions here. There’s a fee for advice – and that’s it.”
“Fee-Based”
“Fee-based” is not the same as “fee-only.”
Fee-based advisors charge fees (typically AUM, discussed below) AND earn commissions on certain products.
You should think, “They are fee based, but not fee only. There’s more than just a fee.”
This is the dominant wirehouse model (Morgan Stanley, Merrill Lynch, UBS, Wells Fargo, etc).
“Advice-Only” or “Planning-Only”
Most financial advisors will manage their clients’ assets, making investment changes within their clients’ portfolios. This is a core service of the wealth management industry, and a reason why many clients seek professional advice.
But some clients are comfortable and confident investors, only seeking counsel in other aspects of their financial plans.
“Advice-only” or “planning-only” advisors serve these types of clients.
These advisors provide guidance and advice to their clients, but do not manage their clients’ assets or “push the buttons” on their clients’ portfolios.
Most “advice-only” advisors charge flat fees or hourly fees (see more below).
Being a “Fiduciary”
The “fiduciary filter” is helpful in finding an advisor, but it’s far from the only question you should ask.
Read more: The Questions To Ask Any Financial Advisor
Being a “fiduciary” says nothing about how fees are charged.
The fiduciary obligation is a standard of conduct. Not a fee structure.
People conflate “fiduciary” with “fee-only” because fee-only advisors have done an effective job of marketing the idea that their fee structure inherently produces better fiduciary behavior.
But there are advisors who earn commissions but also describe themselves as fiduciaries.
So again – being a “fiduciary” says nothing about how fees are charged.
Learn more here:
Common Fee Models
When advisors charge fees for advice, the most common models are:
Assets Under Management (AUM):
The dominant model in the industry. The fee equals a percentage of managed assets, with 1.00% being the most common. e.g. on a $2M portfolio –> 1% = $20,000 annual fee.
Many firms “tier” their AUM fees. As assets grow, the percentages shrink. e.g. 1% on the first $1M, then 0.5% after $1M
Many firms have “account minimums” and/or “fee minimums,” pricing out smaller clients.
Note: “Wrap Fees” are extremely similar to AUM fees. When you see “Wrap Fee,” you should (mostly) think “AUM fee.”
Flat Fees
Flat fee advisors quote a flat price to their clients (rather than quoting a percentage fee that will change based on portfolio size).
Some flat fee advisors quote the same, uniform fee for all their clients.
Some flat fee advisors adjust their fee based on the client’s complexity.
Some flat fee advisors work on a “one-time” basis. See Project/One-Time below.
Other flat fee advisors work on an on-going, annual basis.
Investment management may or may not be involved.
Project / One-Time Fee
This engagement typically involves a fixed fee in exchange for a specific, one-time deliverable. There is no on-going relationship.
Investment management is typically not involved.
Hourly
Hourly advisors are a subset of flat fee advisors who sell their time to clients on an hourly basis.
This engagement typically involves a fixed fee in exhcange for a specific, one-time deliverable. There is no on-going relationship.
Investment management is typically not involved.
Monthly / Subscription
Some advisors sell their services on a monthly and/or subscribption basis.
Hourly advisors are a subset of flat fee advisors who sell their time to clients on an hourly basis.
Investment management may or may not be involved.
Commission Models
Commissions are still the dominant fee structure in the financial advising industry.
Transaction Commissions are the original advisor pay model. Commissions are earned when products (stocks, funds, insurance products) are bought or sold. Still dominant in insurance and some broker-dealer channels.
Mutual Fund Loads are a type of sales commission embedded in some mutual fund purchases.
“Trails” / 12b-1 Fees are ongoing annual payments from mutual fund companies to the advisor who sold the fund to a client. This fee is embedded in the fund’s expense ratio (which the client pays).
Insurance Commissions are paid by the insurance carrier to the salesperson when they sell life insurance, annuities, long-term care, disability, etc. commissions alone can run 4%–8% of premium.
Specialty Models
There are a few corner case (but still reasonably common) fee structures still worth covering.
Performance Fees are often found in exotic and/or high risk investments. If the investment performs above a particular threshold, then the advisor / fund manager receives extra payment. Common in hedge funds and private investments, highly regulated for retail clients, and generally limited to qualified investors.
TAMPs (Turnkey Asset Management Program) allow financial advisors to outsource investment management, portfolio construction, trading, etc. to a third-party for (usually) an AUM fee. Sometimes this fee is explicity passed onto the client. Other times, the fee is implicitly embedded in the advisor’s overall fee.
It’s a Jungle…
The many different fee structures (and naming conventions) make advisory fees a challenging mess for clients and consumers to understand.
Hopefully this simple primer helped out.
For more information on questions to ask a financial advisor, tune in here:
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