Ask Brad: Is Your 1% Fee Too Cheap?
This is the latest installment of a regular column to answer questions from advisors who are considering transitioning to an RIA model. To see Brad’s previous articles, click here. To submit your question, please email Brad here.
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There is no shortage of vocal advisors and observers ready and willing to dive into any conversation about how you should set your fees.
Is the AUM model best? Or is it dying?
Does a retainer or subscription approach better reflect the value you’re providing as an advisor?
Is an hourly approach the most “fiduciary” way to charge?
Show me someone passionately arguing for one of these, and I’ll easily find you another person equally passionate in opposition.
Don’t believe me? You can find heated debates playing out near-daily on social media on this topic.
I am not here to stir that pot.
I want to expand on an interesting observation I read recently. Credit to Bob Veres and his latest Inside Information research reporting on fees, which got me thinking about this.
The arguments for and against an AUM fee approach often overlook a particular consideration.
Over the past few years, much has been said about the threat of “fee compression” for advisors. That has not panned out.
Two variables are at play, though. Other pieces of the supply chain (mutual fund fees, custodial fees, etc.) are being compressed. Second, while the gross advisor fees being charged are generally holding firm, the value provided in return is increasing (i.e., advisory practices must work more for the same fee.)
Regarding the advisor component of the fee structure, it is more an issue of margin than fee compression.
But consider what is being charged in the first place.
A fee of 1% is a standard benchmark. Let’s assume a client has a $1,000,000 IRA and is seeking the help of an (AUM model) advisor.
Consider this likely scenario:
- An advisor with five years’ experience in the industry charges that client 1%.
- An advisor with 30 years’ experience in the industry charges that client 1%.
After all, it’s the same $1,000,000 account size, and charging 1% on such an account is standard.
Why would an advisor with significantly more experience charge the same fee as someone with much less?
I could argue both sides of this.
Imagine needing to hire an attorney. You have two choices. One attorney has five years’ experience; the other has 30. Is the latter guaranteed to be better at their profession than the former?
I would argue “no.” There are some incredibly talented attorneys five years into the profession that can go head-to-head with an attorney of any tenure.
Likewise, there are well-tenured attorneys than can run laps around less experienced counterparts.
Years in the business alone should not drive fee levels. But shouldn’t experience and talent?
This proves the fallacy of the AUM model, right?
Not so fast. I’ll leave it to the research experts to opine, but to my understanding there is not the meaningful variability in fees we’d expect under either the retainer, subscription or hourly models either. Or at least not as much as one would expect.
Why is someone like me, a person who helps advisors transition to the RIA model, getting involved in a fee discussion?
One benefit of the RIA model, and a motivating factor for many advisors that move to it, is the additional flexibility with how you run your practice. One variable is the fees you charge your clients – both in structure and pricing level.
As I often point out to advisors, the RIA path opens pricing options they usually have never had available to them. That newfound flexibility brings the opportunity to be creative in how you price your services.
As you ponder my noted observation regarding a 1% fee and whether it’s fair or not fair, consider whether you would implement a different fee structure if you had the flexibility to do so.
I recently saw an advisor who set his fees not on account size but on the complexity of the client: a single client with no kids was one price; a married (significant other) couple with no kids, another; different prices for both scenarios when kids were involved.
I’ve seen other advisors set their fees by their client’s stage in life, which roughly translates to age.
Do any such approaches solve the 1% experience/talent quagmire? Maybe, maybe not. No matter how you feel about it, if you had the chance to set your fees essentially however you wanted, how would you do it?
Brad Wales is the founder of Transition To RIA, a consulting firm uniquely focused on helping established financial advisors understand everything there is to know about WHY and HOW to transition their practice to the RIA model. Brad utilizes his nearly 20 years of industry experience, including direct RIA related roles in compliance, finance and business development to provide independent advice regarding how advisors can benefit from the advantages of the RIA model.