Pay now or pay later
Oct 30, 2013 / 5:00 am
While investors rank fees as being less important than good service and regular contact, it is always part of the conversation when meeting with potential clients. The scope of this piece is to give you a general understanding of the different structures available, and the things you should consider when making a decision regarding the management of your funds.
There are two primary fee structures: transactional commissions and fee based.
Transactional commissions are charged each time you buy and sell a position or stock. Most brokerage firms used a tapered system; this is a scale where the commission percentage charged goes up or down based on three factors: the dollar value of the trade, the number of shares bought or sold and the price of each share. If you trade infrequently, this may be a less expensive approach, it also means that your interests and those of your advisor may not be the same; regardless whether you make money or not, the advisor and their firm are going to charge you a commission to make the transaction. Transactional commissions are not tax-deductible.
Fee based accounts have been an industry buzzword for the past ten years and continue to grow in popularity amongst investors. Under this platform, you are charged a fee based on the assets your advisor manages for you. They are usually stated as an annual percentage, and are charged quarterly or monthly. There are two advantages to fee based systems: you and your advisor’s interests are aligned (the greater the value of your assets under management, the greater the fees they can earn); the second: in non-registered investment accounts these fees are tax deductible against income.
Fee based accounts are used in both discretionary platforms (your advisor calls you before making a trade) and non-discretionary platforms (your advisor is qualified to make that decision on your behalf). Discretionary accounts require additional licensing and oversight, but allow your advisor to use discretion in the management of your portfolio.
A third structure, typically found in the mutual fund industry is the imbedded commission. At the top level, they are called deferred sales charges. You, as an investor, are not required to pay a commission on your purchase, but the advisor is paid at the time of purchase by the mutual fund company an upfront fee. If you remain invested in the fund for a specific length of time, you can sell without repercussion; if you sell before, you will be charged a redemption fee.
The next level is the management fee. These are fees that are charged to a mutual fund or closed-end fund by the manager for the administration and management of the fund. Also included in this category are ETFs (exchange traded funds) and no-load-mutual funds (nothing comes for free in this world). Sometimes it can be a little complicated trying to get to the bottom of the different fees, but the total fees are referred to as MERs or management expense ratios. These include management fees (which go to the portfolio manager), trailer fees (which go to the advisor and their firm), and brokerage and custodial charges (which are paid to a financial institution that provides those services). While you may not see them they are still there, and like transactional commissions, they are not tax deductible against income.
I believe everyone should get paid for the work they do: whether you’re working the drive through at McDonald’s, a qualified trade’s person, a lawyer or the starting center for the Colorado Avalanche. My point here isn’t to vilify fees; it’s to help you understand what they are and how they’re charged. When in doubt, turn to the prospectus, or your Investment Policy Statements (IPS); they should outline the fees you will be paying.
Regulators in the UK and Australia have increased the amount of disclosure firms, and their advisors are required to provide investors with; regulators in Canada are discussing implementation of similar rules. If you are going to pay for a service, you have a right to know all the charges you are subject to.
Lastly, fees are relative. An investment decision should be based first on the merits of the investment itself; what matters in the end is your net rate of return. It’s like shopping for sale items, you should never buy anything you aren’t willing to pay full price for, regardless of how cheap it is.
This is for information purposes only. It is recommended that individuals consult with their financial advisor before acting on any information contained in this article. The opinions stated are those of the author and not necessarily those of Scotia Capital Inc. or The Bank of Nova Scotia. ScotiaMcLeod is a division of Scotia Capital Inc., Member CIPF.
Read more Navigating the Markets articles
- Year-end tax planning for individuals Dec 4
- Protecting investments from higher rates Nov 27
- See your future Nov 20
- Generating income in uncertain times Nov 13
- Purple cows and stock operators Nov 6
- Pay now or pay later Oct 30
- The best laid schemes Oct 23
- This is your captain speaking Oct 16
(Click for RSS instructions.)