“Experience is a good school. But the fees are high.”
– Heinrich Heine
When it comes to investment management and financial planning, there are a plethora of fees, expenses, and charges to decipher. Fortunately, with a little a bit of knowledge, you can definitely know which fees shouldn’t ever be paid without actually paying them yourself first. Here is a list of the fees to watch out for, and ideally never pay:
1. Mutual Fund Sales Load Fees (Front-End and Back-End)
Once upon a time, the mutual fund companies found it best to incentivize brokers to sell you their fund by paying that broker a commission, and thus, the load fee was born. A load fee is a sales charge on mutual funds, and they typically come in the form of an A share, B share or C share. There is absolutely no logical reason why you should pay a load fee for a mutual fund, so don’t do it. Instead, look for no-load, no transaction fee funds, as these can provide the same performance without the upfront (or backend) cost. (Whether or not you should purchase a mutual fund at all will be covered in a future article, and yes, there are some asset classes where a mutual fund is merited. Hint, it’s almost never in U.S. bonds.)
2. Commissions
Commissions are a dirty word to fiduciaries, and for good reason, as they create an incentive for the advisor or broker to do what is best for themselves, instead of what is best for you. There is absolutely no reason to pay a commission, ever, under any circumstance. It doesn’t matter what your friend, broker, advisor, etc. says, just don’t do it, it’s not necessary. (For related reading, see: What Happens When You Try to Time the Market?)
3. Account Fees and Low Balance Fees
Account fees are a sneaky way for financial companies to make extra money from their clients. There is no need to pay an account fee or a low balance fee, as there are plenty of financial firms that are excellent and they will offer you an account, the same account as any other firm, for no charge of any kind. There is no benefit to be had by paying an account fee.
4. Trading Fees and Transaction Fees
If the investment that you are choosing has a transaction fee or a trading fee, pick a different investment, as the difference between the investment with a fee and the one without the fee will be minimal, if there is a difference at all. (In investing, there is almost always a substitute with similar performance that is available without a trading or transaction fee.)
5. Annual Financial Planning Fees
Paying a financial planner to prepare you for your future is a wise idea, but you shouldn’t pay to have financial planning done every year, as that is not necessary. A comprehensive and holistic financial plan will last you until you have a significant life change (or there is a significant change in the law), and in most cases, that is at least five years. (For related reading, see: Why Investors Need to Focus on the Long-Term.)
6. Hedge Fund Fees
Until the fee structures significantly change, there isn’t a good evidentiary reason to pay a hedge fund to do anything for you. Why? Because 98% of the profits go to the hedge funds themselves and not to the investors. Figure 1 below shows the investor profits, after fees, from hedge funds. A case is often made that hedge funds add diversification to a portfolio, but with the significant cost that they carry, any diversification benefit is wiped out. Plus, you can achieve similar diversification benefits using different approaches that have a much lower cost.
7. Variable Annuity Fees
Aside from the very few providers that only charge a small fixed fee, all other variable annuity fees should not be paid. The costs far exceed any benefit that you get. In general, keeping your insurance and investments separate is a wise idea, otherwise, you will be overpaying an insurance company to invest your money for you.
8. Surrender Charges
Don’t enter into an investment that has a surrender charge, because there isn’t a reason that is good enough to justify the fee. If you find yourself in an investment that has a surrender charge, an analysis should be done to see if it’s worth surrendering or not.
A final note on fees. Simply put, with all factors being considered, a fee worth paying is a fee that improves your expected result, adds value to your life, can’t be easily replicated for a lower cost and doesn’t put a conflict of interest between you and the entity charging the fee. When examining fair fees, the lowest fee or a low fee is not always the best, as the old saying, “you get what you pay for,” can certainly hold true in the financial planning and investment world. However, there are plenty of fees that have absolutely no merit, and by avoiding them, you can ensure that you have indeed made yourself that much wealthier.
