Why Paying a Percentage of Your Assets to a Financial Advisor Is Like Paying Rent on Your Wealth
When you hire a financial advisor, you may encounter a fee structure based on a percentage of your assets under management (AUM). While this model is common, it’s worth examining the implications of such a fee structure. Paying a percentage of your assets to a financial advisor can feel strikingly similar to paying rent on your wealth. We’ve blogged about this in the past but we feel very strongly about this topic. You should be aware of not only how much you pay but how much it can significantly grow over time. Let’s explore why this analogy holds and why you might reconsider this arrangement.
The AUM Model: A Recurring Cost
In the AUM model, financial advisors typically charge around 1% of the assets they manage annually. For example, if you have $1 million in assets under management, you’d pay $10,000 each year. This fee continues indefinitely, growing as your wealth increases. Much like rent, it is a recurring expense that doesn’t build equity or ownership.
This setup can feel like paying rent because the fee isn’t tied to the advisor’s performance or effort. Whether your portfolio gains 20% or loses 10%, the advisor still collects their percentage. Just as a landlord collects rent regardless of whether the tenant has a good or bad month financially, you pay the advisor regardless of the market’s performance.
Also, if you believe that markets will increase over long periods of time, then your investments should grow as a result. This is even more true when you’re also contributing to your accounts each year. With the AUM model that fee as a dollar value will increase.
The Cost of Compounding
Compounding is often touted as the greatest force in investing, but it cuts both ways. While your investments grow over time, so does the fee paid to your advisor. Imagine you start with $1 million, achieve a 6% annual return, and pay a 1% AUM fee. After 30 years, you’d have paid your advisor more than $500,000 in fees—a significant portion of your wealth.
This compounding cost means the longer you keep an advisor under this model, the more you “rent” your wealth. The opportunity cost is substantial: those fees could have been reinvested, further growing your portfolio.
Alternatives to the AUM Model
Fortunately, there are alternatives to the AUM model that don’t resemble paying perpetual rent.
- Flat Fees: Some advisors charge a flat annual fee for their services, which can be more predictable and less tied to your portfolio’s size. This is akin to owning a home outright rather than renting—you pay for specific services rather than ongoing access. This is how we structure our fees. They are upfront and the fee is based on complexity of each client’s situation. This allows us to work with clients on an ongoing basis that helps us make smarter, proactive decisions.
- Hourly Rates or Project Fees: For specific financial planning needs, paying an advisor by the hour or for a particular project can be more cost-effective. The draw back is that clients may not provide an advisor their full financial picture because they are on ‘the clock.’ It can be difficult to unwind any decisions thathave already been executed.
- Robo-Advisors: Technology-driven platforms like Betterment or Wealthfront offer automated portfolio management for significantly lower fees, typically around 0.25%-0.50% of AUM. But this is only for the management of investments. There is no financial planning involved in this model. In many cases we see, the financial planning side is more important than the management of investments. Many examples are, how much to contribute, how to lower your tax liability, invest or pay down debt, will you have enough for retirement, etc.
Should You Pay Rent on Your Wealth?
Ultimately, the choice of fee structure depends on your needs and preferences. The AUM model may work well for those who value ongoing, hands-on portfolio management and financial planning. However, if you’re focused on maximizing long-term wealth, exploring other models, such as ours, could help you avoid the perpetual “rent” that AUM fees can feel like.
By rethinking the way you pay for financial advice, you might find a structure that aligns better with your financial goals, keeping more of your wealth working for you—not your advisor.
About Michael
Michael is a CFP® with over 15 years of experience working with families accumulating and preserving wealth. Do you need help planning for your financial future? Contact us today to set up a meeting to talk about your goals.