What Is an Asset-Based Fee?
There are different ways a financial advisor can earn money for their services in the financial world. One of the most common is asset-based fees. So, what is an asset-based fee?
Simply put, asset-based fees are a way to compensate financial advisors based on the value of their clients’ assets under management (AUM).
That means that as your portfolio grows in size and value, the advisor's compensation grows too.
How Do Asset-Based Fees Work?
Asset-based fees are usually a percentage of the total value of managed assets.
For example, if you have $100,000 in assets and your asset-based fee is 0.50%, your financial advisor would earn $500 in fees for that year.
Of course, asset-based fees can vary based on the type of asset managed, the advisor's experience, and other factors.
Asset-based fees are typically a percentage of the assets under management and can range from 0.25% to over 2%.
Asset-based fees can be charged as a flat fee, or they may decline as the value of your assets increases.
For example, an advisor charging a 1% asset-based fee on a $500,000 portfolio would earn $5000, but an advisor charging a 0.50% asset-based fee on a $100,000 portfolio would only make $500.
Pros and Cons of Asset-Based Fee Advisors
There are pros and cons to working with an asset-based fee advisor.
On the plus side, asset-based fees incentivize financial advisors to help their clients grow their wealth.
After all, the more money you make, the more they stand to earn in fees.
Asset-based fee arrangements can also align advisors’ interests with their clients' since both parties want the value of the assets to increase.
On the downside, asset-based fees can create a conflict of interest if an advisor recommends investments that may not suit their client but would generate higher fees for the advisor.
For example, an advisor may recommend a high-risk investment that has the potential to lose money but has a higher chance of earning a higher return (and thus, higher asset-based fees).
Asset-based fees can also be expensive for investors with smaller portfolios.
Other Types of Advisors and Fees
There are various types of financial advisors, each with a distinct fee structure:
Commission-Based Financial Advisors
Commission-based advisors are compensated by selling products, such as mutual funds or annuities.
They may also earn commissions for executing trades on behalf of their clients.
Commission-based advisors typically work for broker-dealers and are subject to different regulations than asset-based financial advisors.
Flat Fee Financial Advisors
Flat fee financial advisors charge a set rate for their services, regardless of the size of the portfolio.
This could be a one-time fee for creating a financial plan or an ongoing monthly fee.
Hourly Fee Financial Advisors
Hourly fee advisors are paid by the hour for their services.
This type of advisor is typically used for more complex financial planning needs that a commission-based or asset-based fee advisor cannot handle.
Retainer Fee Financial Advisors
Retainer fees are paid in advance for a set period, usually monthly or quarterly.
This fee allows the financial advisor to block off time to work on their clients’ behalf and provides certainty for both parties.
The Bottom Line
Asset-based fees are one way to compensate financial advisors for their services.
They incentivize the advisor to help their clients grow their wealth and align the advisor's interests with those of their clients.
However, asset-based fees can also create a conflict of interest if the advisor recommends investments that may not suit their clients.
There are various types of financial advisors that investors can consider if an asset-based fee advisor is not the right fit.
Each type of advisor has a fee structure, so it is essential to understand how each one works before choosing an advisor.
Make sure to pick the type of advisor that is right for your needs and budget.
FAQs
1. What is an AUM?
An asset under management (AUM) measures the size of a financial advisor's client base and the value of the assets they manage. This includes both individual and institutional clients.
2. What happens if the investment does not generate any income?
If the investment does not generate any income, then the asset-based fee is still charged based on the initial value of the assets. The advisor does not make any money on investments that do not produce income.
3. What is the usual percentage charged for asset-based fees?
Asset-based fees typically range from 0.50% to as high as 2%, depending on the size and complexity of the portfolio.
4. Is it safe to assume that an asset-based fee advisor has my best interests at heart?
No, it is not fully safe to assume that asset-based fee advisors always have their clients' best interests at heart. However, this type of advisor is typically incentivized to grow their clients’ wealth and not earn money on investments that do not produce income. So rest assured, they want your assets to succeed.
5. What happens if I fire my asset-based advisor?
If you fire your asset-based advisor, you may be charged an early termination fee. This fee is usually a percentage of the assets under management to compensate the advisor for their time and effort in managing your account. Make sure to check with your asset-based advisor before firing them to see if they charge a termination fee.
