As published recently in their annual report by the financial blog, Kitces, pricing in finance is dominated by one model above all others: Assets Under Management (AUM).
This is a fee structure that, in theory, incentivizes your financial advisor by paying them more as your wealth grows. This can work well in some cases, particularly for clients who want an active investment manager looking to beat the market. But that doesn’t mean it’s the right fee structure for you. If you have less money to invest, for example, or if you don’t need asset management, you might want to look for a different fee structure.
To help understand that, here are the major ways that financial advisors billed clients last year, and what you should know about each format.
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The Four Pricing Models For Finance
As Kitces found, the current financial industry relies on four main billing models:
- Assets Under Management (AUM)
- Retainer Fees
- Hourly Fees
- Commission Fees
As Matt Willer, Managing Director and Partner at Phoenix Capital Group Holdings, LLC, told SmartAsset, it’s very important for the client to pay attention to these different fees.
“You will either be charged by assets under management or a defined fee structure that could be an hourly or flat rate for services rendered. Commissions are less common today, especially for retail investor transactions,” WiIller said. “The problem is the alignment of interest, because under these structures the planner always makes money, but it doesn’t ensure that you will.”
This has been the case for several years, particularly as the commission fee model has fallen increasingly out of favor. However most financial advisors still use a mix of fee structures, billing clients differently for different services. Ultimately, the fees associated with advisor services are negotiated between the client and advisor, and will depend on the services you choose. Financial advisor services can include retirement planning, investment management, estate planning, tax planning and more.
1. Assets Under Management (AUM)
Kitces notes that the Assets Under Management (AUM) fee “reigns supreme.” The report claims that for 89% of respondents, at least part of client payments was tied to AUM.
With AUM, a financial advisor charges based on a percentage of their managed portfolio. For example, say that you give your financial advisor $100,000 to manage and they charge a 1% fee. They would charge $1,000 for their services ($100,000 * 0.01) if they had a 1% AUM fee.
This fee is assessed based on your the total value of your portfolio that will be managed by the advisor. The exact structure is generally at the discretion of the advisor, but may be negotiable client to client. For example, one firm might charge a 1% annual fee, billing based on your portfolio value on December 31. Another might charge a 0.25% quarterly fee, billing based on the portfolio value at the end of every three months.
Advisors tend to charge AUM fees on a sliding scale based on how much you have invested with the advisor. However, 1% annually is the standard for clients with $1 million or less under management. After that, average fees fall as low as 0.5% for particularly high net-worth portfolios.
There are two things to be particularly careful of with assets under management. First, as Kitces notes, many advisors layer AUM fees on top of other service charges. For example, they might charge an hourly fee to make a financial plan, then an AUM fee to manage your portfolio and execute that plan. Look for this kind of layered billing, and make sure you’re getting full value for your money.
Second, your portfolio will typically cost more than the AUM fee alone. If your asset manager invests in managed assets like ETFs, mutual funds or REITs, you will also pay an expense ratio for those assets. This is known as the portfolio’s “all-in fee,” and those managed fund expense ratios can add up fairly quickly.
2. Hourly Fees
With hourly fees, a financial advisor charges based on hours worked. Typically this means they bill at an hourly rate, measured in six minute increments (one-tenth of an hour).
For example, a financial advisor might charge $120 an hour. This means they will clock the time they spend working on your account, charging $12 for every six minutes worked. This is one of the most straightforward ways to bill for professional services, and you should receive a detailed breakdown of time and services with each bill.
About 40% of financial advisors use hourly fees. Typically, they will charge hourly fees for discrete services, like making a financial plan. However very few rely on hourly billing alone. Among financial advisors who bill hourly, almost all of them use the practice as a relatively minor supplement to AUM fees.
On average, financial advisors charge around $250 per hour. In some cases, advisors will charge a flat fee-for-services, typically charging around $3,000 for a specific project like making a long-term financial plan.
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3. Retainer Fees
Retainer fees are a subset of hourly fees. As with hourly fees, about 40% of financial advisors charge a retainer.
With a retainer, you pay your financial advisor a fixed amount of money up front. Your advisor then bills services to the retainer on an hourly basis. Once you have exhausted the retainer, they will either ask for another up-front payment or shift to an hourly fee going forward.
On average, financial advisors that charge a retainer will ask for about $3,000 up front, although standard retainers can range from about $2,300 to $6,000.
4. Commissions
Commission is the practice of charging a fee-per-transaction. For example, say that your financial advisor charges a flat 1% commission and you have them invest $10,000 in a mutual fund. They would charge $100 to execute the transaction.
While this used to be a common business model, today commissions are increasingly rare. Only about 3% of all financial advisors make the majority of their money off of commissions, and increasingly few of them charge commissions at all.
While the Kitces report did not study average commission fees, in general they range from 0.25% to 1% depending on the advisor and the nature of the transaction. Commissions are most often paid by less affluent clients. The less income and overall wealth a client has, the more likely they are to pay commissions rather than hourly or AUM rates. “In fact,” the report finds, “whether measured by income, assets or net worth, the wealth level of commission clients is roughly half that of other clients.”
Pick Your Fees For Your Needs
When you select a financial advisor, how should you navigate these models?
Start by simply asking questions.
“I think the healthiest way to approach this is literally interviewing planners/advisors,” said Willer. “Take your top five concerns, ask the planner how they handle those and what differentiates them from the others, and then talk to references. Fees for services rendered is not offensive, it’s someone’s job, but ask them to explain how their practices deliver value in good markets and bad, and how that differentiates from others in the same business.”
Markets are markets, he said, and no financial advisor can guarantee outcomes. But “don’t be shy about asking questions when it comes to your money.”
On top of this, think about what you actually need. For example, if all you want is someone to help you make a long-term financial plan around an S&P 500 index fund, an AUM fee may not be worth your money. On the other hand, if you want someone to help you build a good target-date fund, AUM fees might be exactly what you need for long-term professional investing.
Decide on what you need, then look for an advisor who will charge you a fair price to deliver it.
Finding the right financial advisor means finding someone who is a good fit for you and your goals. Get matched with a financial advisor today.
The Bottom Line
In 2023, financial advisors had four main billing models: assets under management, hourly rates, retainers and commission. For clients, it’s important to understand the fee structure for your financial advisor so that you can make sure you’re paying for the services you actually need.
More Resources
- Looking for even more numbers? That’s our bread and butter, so let’s talk about exactly how much it costs to hire a financial advisor in 2024.
- A financial advisor can help you build a comprehensive retirement plan. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now. You can also read SmartAsset reviews.
- Keep an emergency fund on hand in case you run into unexpected expenses. An emergency fund should be liquid — in an account that isn’t at risk of significant fluctuation like the stock market. The tradeoff is that the value of liquid cash can be eroded by inflation. But a high-interest account allows you to earn compound interest. Compare savings accounts from these banks.
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