Flat-Fee Financial Advisors: It's About Transparency

Working with a flat fee advisor is not about price; it’s about transparency

Here Ye, Here Ye!  Is flat-fee all it's cracked up to be? People often think that the flat fee advisor movement is about undercutting the rest of the industry on price. While that can be part of it, it’s not the most powerful benefit; the transparency of the flat fee is. In this blog, I’ll explain the real value that working with a flat fee advisor can offer the consumer.

The Transparent Advisor Movement has taken hold

For those of you who are new to my writing, my name is Sara. I am a CFA® charterholder and the evangelist for the Transparent Advisor Movement. Our mission is to promote ideals of clarity, modesty, integrity, dignity, and client advocacy in all aspects of financial advice, with a special focus on Advice Only, Flat Fee, and Hourly service models.

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Flat fee vs. AUM: cost savings do matter but are not the whole enchilada

Choosing a flat-fee model for your investment portfolio is not all about cost savings!

When handing your investment money over to a financial advisor, it helps to understand the nuance of whether to pay AUM percentage or a flat-fee. Let's discuss why It's a total myth that flat-fee always makes sense in every investment portfolio.

Many may think when they see the words ‘ flat fee’, that is the only point that they should focus on! Some may even think it's more important than the actual investments in the portfolio, and the return it should generate! There’s talk that flat fee advisors are just there to deflate the cost of investing, so investors will levitate to it.

AUM vs. Flat Fee: hypothetical example

Here's some hypotheticals to gain clarity on this topic.

$5MM portfolio, 1% AUM advisor
Let's give an example or two of a flat-fee charge vs being charged by AUM percentage. Say you have a portfolio of $5mm, and you are charged 1% of AUM, i.e. $50,000 per year.  Are you getting ripped off? Well, It depends on how much ‘activity’ goes on in the portfolio. In this hypothetical investor's portfolio, the needs are not complex; the estate and investments are simple, and the family situation is basic, with no special needs situation. Say it's all held in ETFs, very little trading occurs, and you have no special legal issues.

In this case, maybe it's not worth the $50,000 paid to the investor, or 1% of AUM for a $5MM portfolio! Sometimes, an advisor doesn't have to actively "manage" the portfolio and dedicate a lot of time to it. Most likely in this case, a flat-fee may be a better choice than the $50,000 for the year.

$5MM portfolio, $500 a month flat fee advisor
A different example would be a flat-fee advisor who charges a monthly fee, for example $500 a month, for the same portfolio. So for $6000 a year, that's a savings of $44,000 a year (versus working with the advisor who would have charged $50,000)! Wow, that's a lot of savings over time. If the advisor can do the same thing, and the portfolio is simple, voila, go ahead and do it!

$500,000 portfolio, 1% AUM advisor vs. $500 a month flat fee advisor
Now let's flip the switch. Say we have a $500,000 portfolio, and you are charged one percent a year of AUM, which would be $5,000 a year. Let’s say a flat-fee advisor from the case above would charge $500 a month, or $6000 a year.

By the way, many flat-fee advisors won't actually take on a portfolio for that low a fee. Commonly, an advisor would charge $10-15 K or more a year on a flat-fee basis.

So with a small portfolio, say of $500,000, it does not make sense to use a flat-fee advisor! Working with an AUM advisor makes more sense in the case of a small portfolio, if you were solely judging on fees.

This hypothetical example shows you how flat-fee is not all about cost savings, all the time.

The decision should always be made on value not price

This applies to many service decisions. Is there enough value being rendered in the situation you hire someone for? Think of buying an expensive home, which you can get a lot of cash flow out of; or a property manager is doing a great job, and you have great tenants, so it makes sense to pay a high commission to a broker. Would it be better to buy a cheaper home with zero transaction costs?  What if the stress in managing it will eat away at your mental health? You would say, NO, it's not worth it!

So, we can take the same comparison of AUM vs. flat-fee for many different service-based decisions. What value is returned? How complex is the transaction(s)? What are the long term results I want, and am I really going to get what I want if I go with the lower cost provider?

A flat fee helps both the consumer and the advisor be more discerning

Here's what many people miss about flat-fee; it's about transparency, not actual cost-savings.

I’d argue that many advisors like the lack of clarity they get from offering AUM. Many clients don't understand this because an advisor may debit the fee automatically, and the client won't even realize what the hard-dollar fees are which are coming out of their portfolio in a year. It's important to know what the fee means for the client’s life and when you don’t state the fee in hard dollar terms, it’s easy to underestimate that. One percent sounds so small – until you calculate what that means on a $5,000,000 portfolio (it’s $50,000 a year).

Secondly, flat-fee, in any scenario, where you are assigning a value to a known quantity of something, i.,e. Flat fee per month, flat-fee per quarter, etc, etc, allows you to calibrate the services provided with the price of those services. Say I charge $10,000 a year flat-fee per year or an hourly rate of $250. That would mean I service the account for 40 hours per year. This will give the client a real life picture.

When you break it down like that, i.e, $250 per hour, 40 hours per year, and 52 weeks in the year, that would be something like 1.5 hrs a week your advisor works for your specific account. It really opens up the book on what exactly you are getting at what hourly price, and if it's valuable enough per hour, not per year.

The client will be able to ask themselves, "Do I need all these services at that rate?" Maybe I don't. At least with a flat fee you can see the picture. With an AUM advisor, you don’t know the amount you are going to pay each year because portfolio values fluctuate with the market. So you can’t say, well, that’ll be 40 hours at $250 an hour, because you don’t know what the annual fee is going to be! If your portfolio throttles up, and you wind up paying the advisor 1% of 5,500,000 or $55,000, that is a different rate for the 40 hours than you would pay if the market dove, your portfolio plummeted, and you wound up paying the advisor $45,000.  Would the advisor wind up putting in more work hours that year, just because the market went up? No, because the amount of work depends on other factors such as changes in your life position, etc.

What if your portfolio went down and you wound up only paying the AUM advisor $45,000 that year. But that year, you wound up buying 10 rental properties with complex cash flow and depreciation schedules. Now the advisor is working overtime for a lower rate. Does that make their services less valuable, just because the market went down? No, that’s illogical and confusing.

A flat fee allows both the consumer and advisor to make better decisions

We want to heighten our discernment as consumers and that is what being charged a flat fee does. In fact it heightens the discernment for the advisor as well, enabling them to design a more efficient practice where the hours put in for each client can be calibrated more accurately to the value of the services provided.

Both parties, investors and advisors, benefit from the fairness, logic, and clarity that can be shown under a flat fee advice model. Once again, to summarize the main point, flat-fee is about transparency, not as much about the cost savings.

Thanks for reading and if you are a consumer who wants to learn more about our advocacy mission to bring more fairness to consumers of financial advice, join my quarterly email newsletter. You can also read my consumer advocacy blogs.

If you are a financial advisor who wants to embrace the flat fee, advice only, or hourly models, please join our Transparent Advisor Movement and come to our next virtual meetup. I also offer marketing services for flat fee advisors.

Thanks for reading!

-Sara G

Up next

In The Accessibility of Flat Fee Financial Advisors Near You, I discuss that while traditional financial advisors often cater to high networth individuals, many flat fee financial advisors help to make quality financial advice more accessible. By using a fee structure that reflects the work being done and the experience of the advisor, the conflict of interest stemming from when advisors' income is tied to their clients' portfolio size can be eliminated.

By charging a fixed fee for their services, some flat fee financial advisors are able to work with individuals who would have been excluded from traditional financial planning due to lower account balances. This inclusivity ensures that people from all walks of life can access professional guidance to navigate their financial journeys, whether they're just starting to save, tackling debt, or planning for retirement.