There is something of a paradox built into the practice of wealth management. On the one hand, the overarching reason why people seek advice from financial planners in the first place is because they want to maximise the wealth at their disposal, whether that is to fund their business plans, to afford a comfortable retirement, or to secure a firm financial foundation for their children.
Most people lack the expertise to manage investment portfolios themselves, meaning that they must pay someone to do the job on their behalf. Hiring a financial planner therefore means sacrificing some wealth to get the most from it—hence the contradiction.
Nonetheless, most people are quite happy to accept the principle of speculating to accumulate. If—for a fee—your financial planner helps you generate considerably more wealth than would be possible without their assistance, there is clearly good value in the service.
But what if you were to discover that you were paying proportionally much more than you should have to for that service? Moreover, what if you found out that the way the fees were structured potentially influenced your asset manager to put their own interests above yours through the way that they ran your investment portfolio? This then leads to the problematic contradiction of allowing your wealth to trickle away in a bid to increase it.
This highlights the issue posed by the fee structure traditionally used by the majority of financial planners—percentage fees. For many years, if you decided to hire a wealth manager the likelihood is you would have paid their fees as a percentage of the total amount you invest. The percentage is usually fairly small—typically around 1%—which on the whole keeps clients happy.
What asset managers don’t like to advertise is how a reasonable-sounding figure like 1% can result in some very significant fees being paid out in the long term. If your investments perform well—which is what your financial planner is hired to ensure—you can easily end up paying out the equivalent of the original investment sum in fees as your portfolio grows.
For instance, dependent on the percentage fee structure, investing £1 million could result in you easily end up paying out £1 million in fees to your financial planner over a number of years. That £1 million could have been part of your assets and either used to help fund your retirement or be passed on to your children.
In addition, many wealth managers keep quiet about the existence of alternative fee structures. For instance, flat-fee arrangements are where the amount you pay is set to a fixed rate annually, rather than rising incrementally dependent upon the performance of your investments. With flat fees, what you pay is always completely transparent and you know exactly what you are paying for the service.
At Capital, we only offer flat fee advice to clients looking for financial planning and asset management services. Here are four reasons why we would advise anyone currently paying via percentage fees to consider switching.
Reduce your costs
A key issue with percentage fee arrangements is that the better your investments perform, the more you pay. We don’t think this is fair because it essentially penalises the client for getting the service they want. As financial planners we could argue that high-performing portfolios are the result of our expertise and hard work, and there is a subsequent expectation of a suitable reward. But at Capital, we believe that a good return on your investments is exactly what you are paying us to deliver—we shouldn’t demand more for doing our job the way you expect. The money belongs in your pocket. Taking incrementally larger sums the bigger your portfolio grows simply means that your money isn’t doing as much for you as it could do.
Pay for the service you get
Another issue related to percentage fee costs rising as your investment grows is that there is a stark inequality between what different clients pay for more or less the same level of service. Someone investing £500,000 might end up paying £5000 a year in fees, while another client investing £1 million pays £10,000. Is the second client getting double the service from their financial planner? No, not by any means. It actually serves as an incentive against investing more. A far fairer system is for everyone to pay flat fees.
Put your interests first
When you hire a wealth manager you want their sole focus to be on doing the best possible thing with your assets—not thinking about how they can increase their own fees. There is an inevitable conflict with percentage fees. An asset manager on a percentage fee contract is always going to be more inclined to encourage you to invest more, since that means a bigger slice for them. At the same time, they will be tempted to discourage you from reducing the assets held in your portfolio, which could otherwise be spent on business investments or buying property. With a percentage fee, you will always be left wondering whose interests your financial planner is really looking after when they give you advice. Meanwhile, a flat fee structure removes all such potential conflicts.
Get objective advice
Percentage fee structures create a problem known as contingent charging. Put simply, a wealth manager who charges percentage fees only earns money if they sell investment products. This gives rise to another conflict of interest; is your financial planner recommending you invest because it’s the best thing to do with your money, or because they have an eye on their earnings? Truly objective financial advice should weigh up all possibilities for what you can do with your wealth, such as clearing debts or buying property. Any financial planner working on a percentage fee basis is likely to be biased against these options in favour of putting your money in your investment portfolio. By hiring someone on a flat fee basis, you are far more likely to get an objective take on all your available options.
Ready to find out just how much a flat fee financial planner could save you? Get in touch with one of our team today and let us start making your wealth work harder for you.