On occasion I ask people what kind of fees they are paying on their investments.
Some can answer quickly. But plenty of others are puzzled by the question, unsure what to say because they never gave it much thought. A few insist they don’t pay any fees at all.
As a financial professional, I raise my eyebrows at that one.
“Are you sure?” I ask. “Because I doubt any financial professionals are giving you a free service out of the goodness of their hearts.”
The truth is, financial professionals and institutions charge investors all sorts of fees and commissions, taking money straight out of your pocket – and out of your retirement, if that’s your ultimate financial goal.
Of course, some of that is justified and well earned. After all, this is how banks, insurance professionals, financial advisors and others who assist you with your investments get paid.
But are those costs worth what you are getting in return? Are you paying more than you should? Well, it’s hard to know whether you are paying too much if you don’t know what you are paying in the first place.
Yet, the answers to these questions can make a significant difference to your bottom line.
Let’s look at a quick example. Suppose two people have $100,000 each they want to invest, and let’s say over the course of 30 years they both average annual returns of 10 percent.
But let’s also say there is one minor difference. Investor No. 1 is paying 3 percent in fees, dropping his annual rate of return to 7 percent. Investor No. 2 pays 2 percent in fees, reducing her annual return to 8 percent.
Oh well, it’s just 1 percent. How much difference can that really make?
Let’s find out. When investor No. 1 prepares to retire after 30 years, his investment has grown to $760,000 without him laying down another penny. Not a bad deal, right?
But take a look at his neighbor, investor No. 2. Her investment 30 years later has grown to slightly more than $1 million.
So, yes, that 1 percent difference in fees cost Investor No. 1 more than $240,000 – and that’s substantial.
That’s why you need to be proactive about finding out just how much you’re paying for the investment services you’re receiving. Because it can get quite complicated and downright confusing.
For example, a variable annuity can have administrative fees, rider fees and contract fees.
Mutual funds often have load fees that you pay either on the front end with your initial investment or on the back end when you eventually sell your mutual fund shares. I spoke with someone recently who told me he had invested $100,000 in a mutual fund and a week later its value dropped about $5,000, even though the market was doing well. He was mystified about how that could happen, but the mystery was soon solved. He had been charged a 5.25 percent load fee, so more than $5,000 was taken out of his investment immediately to pay that fee.
Sometimes the financial professional you work with is paid a commission on each transaction, so they have an incentive to do a lot of buying and selling within your portfolio because each transaction means more money for them. The list goes on of the ways you may be paying fees or commissions you are only vaguely aware of, or not aware of at all.
So how do you fix the situation? One way is by asking questions, and don’t be bashful about it. Ask your financial professional: “How are you getting paid for helping me?” Is it a fee? A commission? When and how often does money come out of your account to pay them?
Once you’ve learned the answers, your next step is to find out whether there’s a better way for your money to be invested so you get better returns while paying less. You might even need to rethink who is helping you and see if someone else might provide a better service.
It’s your money, so they are all fair questions. You want the most bang for your buck. Your retirement may be riding on it.
Zach Gray has worked in the insurance and financial services industry for over a decade, leading a captive insurance company for several years, and now as an independent financial planner.
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