THE MULTIPLICI TONSUS
This month we look at the Multiplici Tonsus and will chew the fat over the elephant in the financial advice room of investment fees and how, for some investors, these fees may be able to be reduced. Fees are not the be all and end all however they are relevant and do directly impact on the investment income actually received by an investor in the same way that tax reduces an investor’s net income.
If you pay investment related fees of some type the most important question is whether or not they are reasonable. It is not so much whether they are high or low but whether you receive value for money in your circumstances. As an aside this raises the interesting philosophical question of whether you receive value for money from your taxes but let’s not go there today. So how do you know whether or not you are receiving value for money? Essentially the first thing that you need to know is how much you are paying in total fees particularly where there are a number of different fees being paid. It is not always easy. Fees in their totality are often not laid out in a neat tabular form that would be at home in something like Maths For Dummies. You also need to know what you are receiving for those fees and whether there are other alternatives available.
So lets us have a look at the main types of annual or ongoing fees that may be relevant. These are platform or account keeping and trustee fees (if investments are held through a structure like a wrap account), investment manager fees or MERs in industry jargon (where an investor has managed funds), the adviser fee (where you have a financial adviser) and maybe fees for another investment structure (for example, a self managed superannuation fund or family trust or other structure). There can also be a range of relatively small miscellaneous fees. So you should identify which of these categories of fees are being paid by you, quantify the fees in dollars and then tot them up. You should not, however, rely on your annual Fee Disclosure Statement which, notwithstanding the name of this statement, only details adviser fees that you pay directly to your adviser. This statement does not include any grandfathered income being received by an adviser like commission and it does not include platform or investment manager fees. Maybe it should be called a Some of the Fees Disclosure Statement. Anyway moving on from that (these statements do include what is required by law) it is only when you look at the total fees payable will you be in a position to determine whether or not you are receiving value for money. Some investors are going to get a surprise if they do this exercise. Will it be trick or treat?
To get a feel for what the total level of fees payable may be let’s look at a hypothetical but not untypical example. While ballpark figures (inclusive of GST) have been used what you are paying could vary from this so it’s important that you do the exercise with the actual fees that you are paying in total. In this example an investor has a portfolio with a value of $500,000 invested mainly in managed funds which are held through a wrap structure. The average MER (managed fund fees) used assumes 20% of the portfolio is in term deposits (which do not have an MER). Any miscellaneous or one off entry or establishment fees have been ignored. So in tabular form the fees are as follows:
|Account Keeping Fees (Platform)||0.5%||$2,500|
|MERs (Managed Funds)||0.75%||$3,750|
So many mouths to feed. This layering of fees results in a total level of fees payable that are, to put it kindly, solid. To put this into context let us assume that the average before tax and fees income of the portfolio is 5%. This means that after fees the net income to the investor is 2.65%. In other words the fees are about 47% (almost half) of the income. Far out. Look at the flak that Joe Hockey is taking with the top tax rate in the budget. Yet many investors accept this without a murmur.
This does not take into account any capital gains however historically a higher proportion of total returns from shares and property has come from dividends and rent rather than capital gains. And if you are looking at term deposits well there are no capital gains and if you have bond or fixed interest funds substantial long term capital gains are probably unlikely with interest rates being where they are today.
In this example if an investor can reduce their fees by 1% their net income (ignoring any tax) will increase by almost 40%. In dollar terms they will be giving themselves a pay rise of about $5,000 each and every year. Just think what you could do with an extra $5,000. What is the compounding effect of having this quantum of increased net income over many years? Net income increases from $13,250 a year to $18,250. If this was a portfolio supporting an account based pension and the dollars being drawn from the super fund are more than $13,250 you are, in actual fact, drawing on capital to supplement the actual net ongoing income.
If you are in this position and feel that maybe you are not getting reasonable value for money what can you do to reduce fees? There are a number of alternatives that can be considered. Just remember that not all of these alternatives will be suitable for all investors. And these fees are not intrinsically evil. They will be justified some of the time. Anyway some of the alternatives to reduce fees are as follows:
Use a financial advice service that does not use this layering of fees unless absolutely necessary. If you do not need to use a platform there may be a potential saving of that fee. Consider a service that allows for unbundling of adviser fees that is separate fees for investment management advice and for financial strategy advice. Most adviser fees cover both in the one package however most investors do not need financial strategy advice each and every year. Where you do need to pay for a particular service is it reasonable for what you get?. Invest directly rather than in managed funds for most types of investments other than international investments. This will mean that you will not be paying MERs. Keep in mind that direct investment is not suitable for all investors and if you are going to invest directly you need to be disciplined or have an adviser who is disciplined. Identify what you can do for yourself and only pay for what you do not have either the skill, experience, time or inclination to do.
For an example of fee structures that allow you to consider these types of savings go to www.lifestylefstas.com.au. Now that probably sounds like a thinly veiled advert for my financial advice services. Ok ok I admit it. It is but if you can’t promote yourself in your own blog where can you promote yourself I ask. The philosophy of Lifestyle Financial is to give value for money by having reasonable fees and by having unbundled and flexible service alternatives so that you as the investor are empowered to reduce costs by identifying what you can and want to do for yourself and only pay for what you cannot or do not want to do. If you do not want to work out the total fees you are paying ask Lifestyle Financial to do a fee analysis for you.
So enough said on the Multiplici Tonsus. For those of you who are fluent in Latin (or have used an online Latin to English translator) you will know that this translates to the Multiple Haircut. The writer of this article is either fluent in Latin or has used an online translator and is not fessing up to anything.