What A 1% Advisor Fee Costs Over 30 Years

An advisor took me to lunch when I was 29 and told me his fee was one per cent. I remember thinking that was almost nothing, because I was comparing it to 100 and not to 7.

That is the trick of the number, and it is not a deliberate trick. One per cent of your balance is a large fraction of your return, because your return is a single-digit percentage of your balance too.

The three ways

First, a percentage of assets under management, usually written as AUM. You hand over a portfolio and the advisor takes an annual percentage of whatever it is worth, typically billed quarterly, typically around 1% for an individual investor and lower on larger balances.

Second, a flat or hourly fee. You pay for the advice directly, the way you pay a lawyer or an accountant. A one-off financial plan might be a few thousand dollars, an ongoing relationship might be a flat annual retainer, and an hourly conversation is billed like any other hour.

Third, commission. You pay the advisor nothing visible, and the product pays them for selling it to you. Insurance, annuities and some mutual funds are sold this way, and the compensation is built into the product's own costs.

Plenty of people do two of these at once, which is legal and worth knowing about before you assume the flat fee is the whole cost.

What one per cent actually is

On a $500,000 portfolio, 1% a year is $5,000. It comes out whether the market rose, fell or did nothing, because it is charged on the balance rather than on the gain.

In a year the portfolio returns 7%, the account makes $35,000 and the fee takes $5,000 of it. That is 14% of the return, which is a very different-feeling number than the one on the brochure.

In a year the portfolio falls 10%, you lose $50,000 and pay roughly $4,500 for the privilege.

After thirty years the no-fee account holds about $3,806,000 and the fee-paying account holds about $2,815,000.

$990,734.

Here is the part that surprised me when I first ran it. The total of every fee cheque over those thirty years is about $418,000. The damage to the ending balance is about $991,000.

The other $573,000 is the return on the fees you paid, which would have stayed in the account compounding alongside everything else.

That is why comparing the fee to your annual return understates it. Every dollar of fee is a dollar that never gets to compound for the remaining twenty-nine years.

Which does not mean it is too much

A good advisor can be worth well over $5,000 a year, and the ways they earn it are usually not investment selection. Talking someone out of selling everything in a panic is worth more than a decade of fee. So is getting the withdrawal order right in retirement, or catching that a Roth conversion makes sense in a low-income year, or handling the paperwork after a death in the family when nobody in the house is capable of reading a beneficiary form.

What the arithmetic demands is that you know the number.

$5,000 a year is a price. Prices are fine. Prices you cannot see are not.

The same advice at four times the price

One per cent on $250,000 is $2,500 a year. One per cent on $1,000,000 is $10,000 a year.

The second client does not get four times the meetings. There is more complexity at higher balances and there is not four times more, which is why most AUM schedules step down in tiers above certain thresholds and why the flat-fee model exists at all.

The comparison worth running is direct. If a flat-fee planner charges $4,000 a year and an AUM advisor charges 1%, they cost the same at $400,000. Below that the percentage is cheaper, above it the flat fee is, and the crossover moves every year, because your balance grows and the flat fee mostly does not.

The fee stack

The advisor fee is rarely the only fee. Underneath it sit the funds they put you in, each with its own expense ratio, and sometimes a platform or custodian charge on top.

An advisor charging 1% who builds the portfolio from index funds at 0.05% costs you 1.05% all in. An advisor charging 1% who uses actively managed funds at 0.70% costs you 1.70%, which on $500,000 is $8,500 a year rather than $5,250.

Same conversation, same meetings, same advisor. $3,250 a year of difference, sitting in a layer most people never ask about.

What commission looks like from the inside

A front-end sales charge, sometimes called a load, comes off the top when you buy. A 5.75% load on a $100,000 investment is $5,750, so $94,250 starts working for you on day one and you are 6.1% behind before anything happens.

Other products pay the seller through ongoing charges inside the product, or through surrender charges that penalise you for leaving in the first several years. None of this is hidden in the sense of being illegal. It is disclosed, in a prospectus, in a section people do not read.

The honest version of the commission model is that the advice is free and the product is expensive. Whether that is a bad deal depends entirely on whether you needed that product.

The tier in between

Automated services, usually called robo-advisors, build and rebalance a portfolio of index funds by algorithm for something in the region of a quarter of a per cent. On $500,000 that is $1,250 a year against $5,000.

What you get is the portfolio construction, the rebalancing, and sometimes automated tax-loss harvesting. What you do not get is somebody who picks up the phone in March 2020, or who knows that your mother is ill and your brother is going to contest the will.

Several firms now sell a middle version, the algorithm plus access to a human when you want one, priced between the two. If the thing you actually need is a sensible portfolio and a rebalancing schedule, the cheapest tier does that, and the arithmetic on $3,750 a year of difference is the same arithmetic as the chart above.

Fiduciary, and why the word matters

A fiduciary is legally required to act in your best interest. An advisor who is not held to that standard may only be required to recommend something suitable for you, and suitable leaves room for the version that pays them more.

The complication is that some people operate under both standards depending on which hat they are wearing in a given meeting. Which is why the question is not whether they are a fiduciary. It is whether they are a fiduciary all of the time, on every recommendation, including the insurance conversation.

Titles are not credentials

Financial advisor is not a protected term. Neither is wealth manager, financial consultant or retirement specialist. Anyone can print those on a card.

What you can check is the record. In the US, adviserinfo.sec.gov and the BrokerCheck tool run by FINRA both let you look up a person or a firm and see their registrations, their employment history and any disclosed complaints or disciplinary actions. It takes two minutes and it costs nothing.

Registered investment advisers also file a document called Form ADV, and Part 2 of it is written in something close to plain English. It sets out how the firm is paid, what conflicts of interest it has, and what it charges. That document exists so that you do not have to take anyone's word for the answers below.

Ask in writing

Email is fine. A written answer is a different document from a spoken one, and the difference tends to show up in the precision.

• Are you acting as a fiduciary one hundred per cent of the time, on every recommendation you make to me, including insurance and annuity products?
• What is your fee, stated as both a percentage and a dollar figure on my current balance?
• What do the investments you would put me in cost on top of your fee, as a weighted average expense ratio and as a dollar figure?
• Do you or your firm receive any payment, commission, revenue share or incentive from any product, platform or custodian you recommend?
• What would I pay in total, in dollars, in year one and in year ten, assuming my balance grows at 7%?

The last one is the one that does the work, because it forces the whole stack into a single figure and it forces them to project it forward. An advisor who answers all five clearly and in writing has just told you they are comfortable being measured.

One more thing to watch for in the reply. An advisor who answers the dollar question with a percentage has not answered it, and an advisor who cannot tell you the weighted average expense ratio of the portfolio they proposed has not read it closely enough to be charging for it.

Go and send those five questions to whoever currently manages your money. If nobody does, run 1% against your own balance and see what the annual price of hiring someone would be. Either way you will know a number you did not know this morning.