ByJustin Pritchard, CFP®
When working with a financial advisor, there are several ways you can pay for the advice you receive. Ideally, your advisor will clearly explain how they receive compensation and how you pay, but sometimes that doesn’t happen. If you’re wondering exactly what’s behind the fees you pay, it may be time to ask some detailed questions or consider switching to another advisor.
So, what is an AUM fee, and do those fees make sense?
An assets-under-management (AUM) fee is a billing method based on the amount of assets you have with a financial advisor. This approach is popular with asset management firms, but other forms of compensation are available. For example, some advisors charge flat fees for service or hourly fees.
On this page, we’ll review how an AUM fee works, explore the pros and cons of this traditional pricing model, and review alternative ways you can pay for financial advice.
How AUM Fees Work
An AUM fee is a charge based on the account balances your advisor manages. In most cases, the advisor directly manages assets, chooses what to buy and sell, and handles trades on your behalf. You typically do not place trades.
When paying an AUM fee, you’re typically paying for asset management, so the fee structure is directly related to the service provided. However, some advisors include broader services to clients who pay an AUM fee. For example, they might include financial planning or wealth management to clients at no additional charge (I do this, in some cases). In addition, you might have ongoing access to the advisor or financial planner for non-investment-related questions that arise.
Calculating an AUM Fee
To calculate an AUM fee, you multiply the amount of assets under management by the periodic fee. Calculations differ from firm to firm, so review the firm’s Form ADV (a disclosure that you should receive before investing) to learn exactly how things work. We’ll use a simplified example here, but your situation may be different.
Assumptions:
- Fee amount: 1% annual AUM fee
- Account balance: $100,000
- Billing frequency: Quarterly
If the account balance is $100,000 and the firm bills as of the end of the quarter, the quarterly charge in this case might be $250. To arrive at that number, find the periodic fee, which is 0.25% (the period is one calendar quarter, so the periodic fee is one-quarter of the 1% annual fee). Next, multiply the periodic fee by the billable account balance of $100,000.
If the account remains at the same level for an entire year, you would expect to pay $1,000 in AUM fees throughout that year. Of course, account balances change, so calculations get more complicated in the real world. If your account value rises over time, your fee rises, as well. If your account balance falls, the fee shrinks in sympathy.
Different factors can affect what you pay in AUM fees. For example, the firm might take a snapshot of your account balance at quarter-end (or at the start of the quarter), or you might pay based on an average daily balance calculation. Some firms set minimum and maximum AUM fees. Again, your agreements and disclosures should detail this information.
How You Pay
Direct deduction: In many cases, your advisor deducts AUM fees directly from your accounts. If you have multiple accounts, you can often specify which accounts pay the fees, or the funds can come out on a proportional basis from each account.
Pay by check: You might also be able to pay AUM fees by check. Doing so provides an in-your-face reminder every month or quarter of how much you’re paying. However, it can get cumbersome to pay out-of-pocket over the years.
Other payment methods may be available.
How Much Do You Pay?
The typical AUM fee is 1% on the first $1 million. Beyond that level, the cost typically drops as your household assets cross certain thresholds.
Fees may be negotiable, and it’s possible to discuss a cap on fees if you have a significant amount to invest.
Flat Fees (And Variations)
Flat fees, hourly charges, and other forms of compensation are increasingly popular options. There are pros and cons of every method, so be sure that you understand the tradeoff of any approach you’re considering.
Flat fees might apply to short, one-time financial advice engagements or in-depth projects. Moreover, some financial planners charge flat monthly or annual fees for ongoing advice. And hourly fees are easy to understand since they’re based strictly on the amount of time an advisor works on your finances.
Pros and Cons of AUM Fees
As you read through this, be aware that I may have biases. I use both AUM fees and flat fees, but I do not charge any commissions as a fee-only advisor. From an advisor’s perspective, clients paying AUM fees are often attractive because there is typically recurring revenue and a long-term relationship. With flat fees, on the other hand, clients might only engage on a one-time basis or temporarily. However, there’s often less risk and paperwork for an advisor with those arrangements, which is also attractive.
Advantages
No large upfront commissions: Commission-based financial advisors might charge 5.75%, for example, on money you invest. Some insurance products pay even more than that. While an upfront mutual fund commission might potentially be less expensive than an AUM fee over many years, you still risk the “one and done” situation of an advisor or agent who sells something and does not provide ongoing service (they just disappear). If you’re dissatisfied with an AUM arrangement, you can just fire your advisor and quit paying—and that might be early in the relationship, before you pay a substantial amount.
Ongoing access: With an AUM fee, you typically get ongoing access to your financial advisor indefinitely. If you’re thinking of refinancing, wondering about something you heard on the news, or wondering if you’re on track for retirement. You can ask those questions and update things over the years. Again, some advisors include additional services and guidance to clients who pay AUM fees.
Align investments with compensation: When investment management is the primary service you’re interested in, AUM may make sense. As your assets increase (or decrease), so does the advisor’s compensation. At some point, that may not make perfect sense, and that’s a conversation you can and should have. Aligning the compensation with the risk may make sense as the advisor takes more risk with bigger accounts, and it can help prevent situations where your advisor is asleep at the wheel.
Easy and well-established: AUM fees aren’t perfect. But as long as you’re getting value for the amount you pay, they are an easy way to work with somebody. You have a broad range of choices if you’re looking for AUM advisors, so you can likely find somebody who is a good fit for you. But watch out for the one-and-done advisors who just want you to transfer your 401(k) into an AUM arrangement without providing additional (or ongoing) guidance.
Possibly pre-tax expenses: When you pay AUM fees out of pre-tax IRAs, you effectively pay the fee with pre-tax dollars. That’s similar to getting a deduction for the fee you pay, as opposed to many fees you pay by writing a check or using a credit card. However, if the fee is for financial planning—and not AUM—you are not allowed to pay from an IRA. All that said, just because an expense is tax-deductible doesn’t mean it’s completely free.
Potential Pitfalls
Reduces account balance: AUM fees draw from your holdings, so they ultimately reduce the amount you have invested. If those fees consume a significant portion of retirement accounts, that may be worth reviewing.
Easy to forget: You may forget that you’re paying ongoing fees when the costs simply come out of your accounts. However, many advisors notify you every time they bill your account (this is a requirement for me, for example), so you can see the amount and related calculations every time.
Conflicts of interest: AUM advisors may want you to invest more money and keep your money invested. If you ask about paying off debt with your investments, they may have an incentive to discourage that practice. Advisors might also engage in “reverse churning,” or the practice of charging a fee without actually monitoring your accounts and making adjustments (because they don’t want to do the work or pay trading fees).
Can get expensive: With substantial account balances, you may pay a significant amount. At some point, it’s reasonable to ask if it’s worth it. If an advisor charges $15,000 per year, is that appropriate? Again, it depends on the value you get from the relationship. But you probably need more than just asset management if you’re paying 1% on $1.5 million.
Important: The details of your arrangement depend on the terms of your agreement and any regulatory bodies that your advisor works under. This information is general in nature, could contain errors and omissions, and may not apply to your situation. Ask your advisor for disclosure documents such as Form ADV. Review your agreements and account statements to verify that all AUM billing is handled correctly. The author offers AUM options as well as flat-fee and hourly options. If you want to change your financial advisor, please feel free to reach out.
