The cheapest option today can become the most expensive in the long run
Not seeking advice from a CERTIFIED FINANCIAL PLANNER™ professional only because of the cost may be short-sighted. Some retail investors managing their own accounts or working with a broker to place trades may end up paying considerably more in investment costs than an investor with access to institutional share classes through their advisor, so it's important to consider the net cost. Further, and perhaps most importantly, consider the cost of making the wrong financial decision and the potential upside that an advisor could create for their clients through planning and investing strategies.
Do-it-yourself investors may not realize there's a cost to investing: the expense ratio of the underlying investment directly reduces your return, trading costs apply to buys and sells, and mutual funds may have different share classes with varying fee structures. 401(k) and 403(b) plan participants will generally pay administration fees to help support the plan and their choices are limited to the fund lineup available to them.
An investor working with an “advisor” who is a broker, someone they contact when they want to place a trade on their account, may not always realize when their "advisor" is receiving a commission for placing the trade or making an investment recommendation. The investor may also pay a fee as a percentage of the assets held at the financial institution.
In contrast, fee-only financial advisors do not receive commissions or sell investment products. They're only paid by their clients, typically as a percentage of the assets they manage for the client. Many fee-only advisors are also registered investment advisors, the only type of financial advisor with a fiduciary duty to always act in their clients best interest, the highest standard of care under the law. Darrow Wealth Management is an independent, fee-only registered investment advisor.
How these fees can add up:
Using FINRA's fund analyzer, we selected a random mutual fund that had both Class A (up-front sales charge called a front-load) and Class I (institutional shares with no loads) and compared how the same $40,000 investment would look after 5 years assuming a 5% annual return.
Class A shares: The Class A shares we analyzed had a 4% up-front sales load and an expense ratio of 1.15%. After 5 years, the account was worth $46,271, a $6,271 gain on the initial investment. Over 5 years, $4,027 was paid in fees and expenses, which is reflected in the ending account balance.
Class I shares: The Class I shares we analyzed had no sales loads (neither front nor back-end) and an expense ratio of .83%. After 5 years, the account was worth $48,976, a $8,976 gain on the initial investment. Over 5 years, $1,840 was paid in fees and expenses, which is reflected in the ending account balance. All else equal, the institutional shares cost the investor $2,705 less than the retail shares.
Also keep in mind that this overly-simple example only considers one fund in an investor's portfolio and assumes the same fund was purchased in both scenarios. Even for institutional shares, the expense ratio in this example is high.
Independent financial advisors (not affiliated with a financial institution or wirehouse) can access the entire universe of investment options and may determine that a different investment is a better fit for the client's portfolio, which could further reduce the cost of the institutional shares, especially when the same analysis is applied to the investor's whole portfolio holdings.
Think big picture when evaluating the value a financial advisor can bring
When thinking about whether it's worth it to work with a financial advisor, try to consider the total spectrum of costs and potential savings:
- What's at risk if I make a mistake doing things on my own?
- Do I have the time and expertise to manage my finances properly?
- Could an advisor help me grow my wealth by improving my asset allocation, savings strategy, account selection, tax efficiencies, etc.?
- Could a financial advisor reduce the costs associated with my investments to help offset their fees?
- Do I have a strong handle on my entire financial life (retirement planning, college, estate planning, spending and cash flows, etc.)?
Building wealth takes time and commitment. Though it doesn't necessarily make sense for every investor to work with a financial advisor, many busy professionals just don't have the time required to manage their financial life properly. The key is to be informed about the costs you're currently paying and compare that to what fees and savings could be achieved with a financial advisor, especially given the downside risk of going it alone.
Established in 1987, Darrow Wealth Management has been serving a diverse client base of individuals and families in the Greater Boston area for over 30 years. Now a second-generation family business and predominantly female-run firm, we are proud to have the opportunity to help multiple generations of families in the community achieve their wealth and lifestyle goals.