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More than a fifth of investors don’t think they’ll pay any fees for their investment accounts, an industry study has found. But most of them can be wrong – and the knowledge gap can cost them big money in the long run.
Meanwhile, 21% of people say they don’t pay a fee to invest in non-retirement accounts, according to Investors in the United States: The Changing Landscape study by the Financial Industry Regulatory Authority’s Investor Education Foundation.
That share in 2010 That’s up from 14% in 2018, the last time FINRA, the self-regulatory organization that oversees member brokerage firms and the exchange markets, conducted a national poll of investors.
In a recent poll, 17 percent more investors said they didn’t know how much they paid.
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However, the broader ecosystem of financial services companies does not operate for free. These firms—whether an investment fund or a financial advisor, for example—generally waive investment fees.
Those fees can be largely invisible to the average person. Organizations display their fees in fine print, but generally don’t ask customers to write a check or pay cash every month, as nonprofits do for subscriptions or utility bills.
Instead, they withdraw money from the client’s investment properties behind the scenes – the fees go unnoticed.
“It’s relatively conflict-free,” says Christine Benz, director of personal finance at Morningstar. “We are not conducting transactions to pay for those services.”
“And that makes you feel a lot less about the fees you’re paying — the amount and whether you’re paying the fees.”
Why small payments can add up to thousands over time.
Investment fees are often expressed as a percentage of investors’ assets, reduced annually.
According to Morningstar, investors paid an average of 0.40% in fees for mutual and exchange-traded funds in 2021. This payout is also known as the “expense ratio”.
This means that the average investor with $10,000 had $40 withdrawn from their account last year. That dollar fee will rise or fall each year based on the balance of the investment.
The percentage and dollar amount may seem innocuous, but even small payment differences can add up significantly over time due to the power of compounding.
According to Vanguard Group, “You don’t just lose the small amount of money you’re paying — you lose all the growth the money could have had over the years.”
It is relatively conflict-free. We are not conducting transactions to pay for those services.
Director of Personal Finance at Morningstar
The majority of investors who responded to FINRA’s survey — 96% — indicated that their primary motivation for investing was to make money over the long term.
The Securities and Exchange Commission has an example to show the long-term dollar impact of payments. The example assumes that an initial investment of $100,000 will earn 4% per year for 20 years. An investor paying 0.25% annualized versus 1% annually would have approximately $30,000 more after two decades: $208,000 and $179,000.
For someone with a $1 million portfolio, that dollar amount could represent a year’s worth of portfolio terminations through retirement, gifts or receipts.
Generally, a high-cost fund “must perform better than a low-cost fund to generate the same returns for you,” the SEC said.
Fees can affect decisions like 401(k) rollovers.
Fees can have a big financial impact on common decisions like moving money from a 401(k) plan to an individual retirement account.
Rollovers — which can happen after retirement or a job change, for example — play an “especially important” role in opening traditional, or pre-tax, IRAs, according to the investment company’s institution.
Seventy-six percent of new traditional IRAs were opened with rollover dollars in 2018, according to ICI, including managed funds, mutual funds, exchange-traded funds and closed-end funds.
About 37 million — or 28% — of US households own traditional IRAs, holding a combined $11.8 trillion by the end of 2021.
But IRA investments carry higher fees than those in 401(k) plans. As a result, investors will lose $45.5 billion in total savings in payments over 25 years, based on 2018 reversals, according to an analysis by The Pew Charitable Trusts, a nonpartisan research firm.
Fees have fallen from time to time
This annual fee structure is not necessary for all investors.
For example, some financial planners have switched from an ongoing subscription-style fee or a one-time fee for a consultation to a flat dollar fee.
And some payment models are different. Investors buying individual stocks or bonds can pay a one-time upfront commission instead of an annual fee. A number of mutual funds may not charge anything. In these cases, companies are trying to attract customers and sell other products that require payment, said Benz of the morning.
Here’s the good news for many investors: Even if you don’t pay attention to the fees, they can decline over time.
According to Morningstar, fees for the average mutual fund investor have fallen by half since 2001, from 0.40% to 0.87%. This is largely due to investors’ preference for low-cost funds, particularly index funds, Morningstar said.
Index funds are managed anonymously; Rather than deploying stock or bond strategies, they seek to replicate the performance of a broad market index S&P 500 index, a barometer of US stock performance. They are typically smaller than actively managed funds.
According to Morningstar, investors paid an average of 0.60% for active funds and 0.12% for index funds in 2021.
Benz recommends 0.50% as a “good payout rate.” Benz said it may be worth paying more each year for a special fund or a smaller fund.
A higher fee — say 1% — might also be reasonable for a financial advisor, depending on the services they provide, Benz said. For the 1% fee that is common among financial advisors, clients should expect to receive services beyond investment management, such as tax management and comprehensive financial planning.
“The good news is that most advisors are combining those services together,” she says.