14 Jan How much is too much to pay for investment fees?

 Q. My investment advisor wants me to put the bulk of my IRAs in a managed account. He’d choose the investments going forward and I’d pay a 2.5 percent fee each year for management, plus whatever expenses are incurred for the mutual funds he picks. I’m not that smart with investing and I don’t have the time to spend on research, so it’s tempting, but it also sounds expensive. What should I do?

A. That sounds pretty expensive, so let’s take a closer look at what you’d be getting for your money.

First, your question shows you’re smarter than you give yourself credit for, said Peter McKenna, a certified financial planner with Highland Financial in Riverdale.

You realize what some investors don’t. There are two elements of cost an investor bears: the cost of the investments and the cost of the management. You’re also to call 2.5 percent for investment management as expensive, he said.

“Stand-alone investment management is becoming a commoditized service and pricing is coming down materially and quickly,” McKenna said. “Online services like Vanguard, Wealthfront and Betterment can provide low-cost, high-quality investment management at a fraction of the cost you were quoted.”

He said you can easily get all-in pricing from those providers below 1 percent, and those savings are directly for your benefit.

He said such services can provide good value for investors with smaller nest eggs and simple situations. But how do you determine if your situation is simple? There are many things that can make your situation more complicated.

“Juggling the demands to save for college and retirement simultaneously or considering how a change to your life insurance policy impacts your income and estate tax planning,” he said. “Do you have the expertise to deal with those complexities? Does your financial advisor?”

McKenna said in this new world where expenses for investment management are declining, there is an opportunity for individuals with more complicated situations to find a fee-only financial planner who can provide advice and guidance on all of these topics at reasonable cost.

McKenna recommends you find a certified financial planner who can do this, and more. Some will work on an hourly basis, or you can pay a retainer to have them available whenever you have questions.

“If you have enough to meet their minimum asset levels, all-in costs compare favorably to the 1.24 percent average actively managed mutual funds charges,” he said.

And McKenna offers full disclosure: He’s a fee-only certified financial planner.

Now let’s take a closer look at the finances of the 2.5 percent fee offer.

Historically, average annual returns for the stock market have been 10 percent and bonds have been 5 percent, said Alison Williams, a certified financial planner with Stonegate Wealth Management in Oakland.

She said an average retiree portfolio may be 60 percent stock and 40 percent bonds, which historically would yield an 8 percent return.

(60% x 10%) = 6% return
(40% x 5%) = 2% return
8% total return

In today’s environment, with bonds yielding a return of closer to 3 percent, the decreased return is 7.2 percent, Williams said.

(60% x 10%) = 6% return
(40% x 3%) = 1.2% return
7.2% total return

“Historically, inflation has been 3%; however, with bond returns so low, we estimate inflation to be 2.5 percent,” she said. “After taking this into account, your return is down to 4.7 percent.”

Then you have to add in mutual fund fees, which she said should be about 0.70 percent — if they’re reasonable.

“Once advisor fees are deducted, you’re down to 1.5 percent return above inflation while taking on 60 percent of the risk of the stock market,” Williams said. “All advisors charge a fee, but 2.5 percent is excessive.”

She said most fee-only advisors charge 1 percent or less, and she said better advisors provide value-added services — which may include opportunistic rebalancing, proper tax management, harvesting losses and proper asset placement, helping to choose how to best distribute income from your portfolio, and minimizing the potentially deleterious effects of reverse dollar-cost averaging — which reduce the impact of their fees.

“Two-and-a-half percent is way too high,” she said. “No advisor can provide a benefit great enough to offset that fee.”

Email your questions to .

This story was first posted in January 2015.