Why The Advice Industry Sells You Complexity

I sat through a pitch a few years ago where a very pleasant man in a very good suit spent fifty minutes explaining a strategy to me, and I understood almost none of it.

At the end I asked what it cost. He said one per cent, in the tone people use for a rounding error.

One per cent of what, charged when, on which balance, and counting which other fees, took me two more meetings to get answered.

The argument

The complexity is not incompetence and it is not an accident. It is the product.

A business that charges a percentage of the money it manages has to justify the percentage every year. Buy three low cost index funds and leave them alone is defensible advice, and it is also unbillable advice, because a client who can state the entire strategy in one sentence starts wondering why the sentence costs $4,000 a year.

So the sentence gets longer. Sleeves, tilts, overlays, a tactical allocation that moves twice a year, a structured product with a payoff diagram. The complexity is what the fee is attached to.

What one per cent is in dollars

1 per cent of a $400,000 portfolio is $4,000 a year. It comes out whether the account went up, down or nowhere.

Then compound it. $400,000 growing at 7 per cent a year for 25 years, with no further contributions, becomes about $2,171,000. The same $400,000 growing at 6 per cent, which is what is left after the fee, becomes about $1,717,000.

Four hundred and fifty four thousand dollars.

That is not the $4,000 a year you were quoted multiplied by 25, which would be $100,000. It is much worse than that, because every $4,000 you handed over in year one also stopped compounding for the 24 years that followed.

The fee underneath the fee

The advisory fee is frequently not the whole fee, which is the main reason the dollars question beats the percentage question.

An expense ratio is the annual slice a fund takes out of its own assets before you ever see a return. Index funds tracking broad markets are widely available somewhere between 0.03 and 0.10 per cent. Actively managed funds commonly charge 0.60 to 1.00 per cent, and some products built for retail investors go higher than that.

On $400,000, a 0.70 per cent expense ratio is $2,800 a year, and it sits underneath the $4,000 advisory fee rather than instead of it. The total is $6,800, which is 1.7 per cent of the account, and the client who was quoted one per cent has no idea.

That total is the number to ask for. Every layer, added together, expressed in dollars.

Follow each fee to what it rewards

• Assets under management, a percentage of the balance. Rewards gathering assets and holding on to them, which builds a quiet bias against anything that shrinks the account: paying off the mortgage, buying a property, funding a business, giving money away while you are alive.
• Commission on products sold. Rewards selling the product that pays the commission, and the products with the richest commissions are reliably the most complicated ones on the table.
• Hourly. Rewards hours, which is not perfect, but the incentive is at least sitting in plain view on the invoice.
• Flat annual retainer or a one-time planning fee. Rewards finishing the work and keeping the client happy enough to renew. Closest in shape to how you pay an accountant or a lawyer.
• Free. Somebody is getting paid. Find out who is paying them, and for what, before the second meeting.

None of this makes anybody a villain. I know genuinely good people working under every one of these models, including the first.

A pricing structure is a gravitational field though. It bends the advice slightly, constantly, and mostly without anyone deciding to bend it.

The fiduciary word does less work than you think

A fiduciary is someone legally obliged to act in your interest rather than their own. The word gets used loosely in marketing, and in the US whether the obligation applies can depend on which role the person is playing at the moment they say the thing.

So do not ask whether they are a fiduciary and accept yes. Ask them to confirm in writing that they act as a fiduciary at all times, across the entire relationship, on every recommendation.

Then watch how the sentence comes back qualified. The qualifications are the useful part of the reply.

Where complexity is genuinely earned

I am not claiming everything is simple. Some situations are properly hard and worth paying serious money to get right.

• A concentrated position in a single stock with a very low cost basis, where the tax on unwinding it is the whole problem.
• Selling a business, where the structure of the sale changes the tax bill by six figures.
• An estate that crosses state or national borders.
• Equity compensation with a vesting schedule and a tax trap buried in the exercise rules.
• A divorce that has to split retirement accounts.
• A child with a disability who needs a trust built so that an inheritance does not disqualify them from benefits.

Every one of those is a project with an ending. They price well as flat fees or hourly work, and a good advisor will tell you when the project is finished.

What deserves suspicion is permanent complexity. The arrangement that needs a quarterly meeting forever and never resolves into something you could explain to a friend over dinner.

Ask the one question

Email your advisor and ask how much you paid them last year, in dollars, counting every fee: the advisory fee, the expense ratios on the funds they put you in, any commission, any revenue sharing paid to their firm by a product provider.

Dollars, not a percentage.

A good advisor answers that in one reply with a number in it, because they already know the number and are not embarrassed by it. I have watched that question take three weeks and come back as a request for a phone call, and the request for a phone call is itself the answer.

Whatever number comes back, put it next to what changed in your financial life last year because of the advice. Some years that comparison will make you glad you are paying. The years it does not are the ones worth acting on, and you cannot have that thought at all until somebody puts the dollars in writing.