Many mutual fund investors simply don’t know what they are paying or even that they are paying anything at all. A research study was done in 2013 by Environics of 1,004 Canadians over 25 years old and with more than $25,000 in investable assets. Of them, 25% said that they did not pay their advisor either directly or indirectly. Another 19% knew they paid something but didn’t know what that might be.
With a new regulation called CRM2, by mid-2016 you can expect a statement that will show in actual dollar terms the total fees that you are paying. For at least 25% of mutual fund investors, this will come as quite a shock.
Here are four things about investment fees that many people might not be aware of:
Investment management fees can be tax deductible This applies to fees paid to a professional portfolio manager to manage a taxable investment account. It does not apply to mutual fund fees or stock trading commissions.
What this means to you: If you have meaningful non-registered investment assets, and are paying marginal income tax of 46%, then you might be able to get 46% of your investment fees refunded in your taxes. Generally speaking, this would only apply if you are working with a discretionary investment counsellor or a broker using a fee based account.
Mutual funds could have high fees to sell In many cases mutual funds sold by an advisor have some form of holding period, or additional fees will be charged to you. The only way to avoid the fee entirely is to either hold on to the mutual funds for as long as eight years or sell a fund but move the money to another fund within a particular mutual fund family. This isn’t the case with ‘no load’ funds, but in the worst cases with deferred sales charges or DSC version of funds, you would have to pay a fee of 7% of your assets to sell the fund and pull the assets out in the first year.
What this means to you: Try to avoid holding DSC mutual funds. Ask your advisor if you do hold them, and if so, why, and what would the fee be today if you sold the funds and pulled the money.
Hedge funds and performance fees As if fees weren’t high enough, some smart hedge fund manager created the idea of performance fees. In many cases, a performance fee would charge you 20% of the gains above a certain benchmark. Sometimes at least the benchmark’s are fairly high – like an 8% annual return and sometimes you pay a performance fee on all gains. Let’s say a fund returns 8% after management fees of 2%. In some cases this may mean the fund charges 2% plus 20% of 8%, for a total fee of 3.6%. If the fund has a performance hurdle of 8%, in this example it would mean the fund charges 2% plus 20% of 8% minus 8%, for a total fee of 2%.
What this means to you: If you are going to pay very high fees, you better be getting extra skills and benefits. There are a few hedge funds like King and Victoria, Venator, Agilith and Donville Kent that have actually earned their fees, but a much, much longer list that have not.
Managing investments yourself is cheaper, but is it right for you. Much like painting your own house, doing your own gardening, growing your own food, or knitting your own clothes, you will save on costs by doing it yourself vs. having a professional do it for you.
The question for any of these is no different than managing your own money. Do you enjoy doing it? Are you any good at it? Do you have the time to do it? What is the risk or cost if you do a poor job? If you answered yes to the first three questions and are comfortable with the risk, then you probably should manage your own investments.
What this means to you: The question that every do-it-yourselfer has to ask is ‘Will it end up costing me more to do it myself?’ As noted above, while professional investment management fees can be as high as 3% or more a year, there are many people getting professional discretionary investment management for fees well under 1% a year after tax.
As a final word, I would say that investment fees are not the only important factor when it comes to your wealth management. Advice on areas such as advanced tax strategies, financial planning, debt, insurance, trusts and estate planning can add meaningful value beyond investment fees.
The key to being an educated financial consumer is that you must understand what you are paying, how someone gets paid, and the value that you are receiving. If you know those three things, you can make an informed decision about fees that is right for you.
Ted can be reached at firstname.lastname@example.org or by phone at 416-733-3292 x221 or 1-888-816-8927 x221
Reproduced from the National Post newspaper article 15th July 2014.