Which is Better - Flat Fee or AUM?
I wanted to take a few minutes to do a quick compare/contrast of Flat Fee vs. AUM and which is better for investors. This is brief. And full disclosure as I operate a flat fee financial planning firm focused on physicians.
What is AUM?
AUM stands for Assets Under Management. This is the antiquated approach to paying for investment advice. The advisor charges you a percentage of your investments they are managing. For example, if your advisor charges 1% and manages $1,000,000 of your money then you pay them $10,000 a year. This AUM fee typically corresponds to how the stock market does and not the services you are receiving.
What is Flat Fee?
Flat Fee is where an advisor charges a single fee for the entire year. Again, I am sharing this based on my flat fee practice, which has been around for about a decade. This flat fee number is based on experience, knowledge and service model. It doesn’t vary with what the market does, only with the services actually received.
What About A Combo Model?
There are a lot of what I call “combo fee” models out there. This is where the advisor charges a flat fee for the creation of a financial plan and then an AUM fee to manage your investments. This concept became popular during Covid as AUM fees dropped when the market fell and advisors wanted to stabilize their incomes. Is this like paying a doctor a single fee to diagnose me and then charge a fee based on my net worth for the prescription? Just asking.
Isn’t it Better To Pay An Advisor If Investments Do Better?
“My advisor does better when I do better.” This is the usual response when someone is asked to justify an AUM fee. Last I knew, no one controls what the stock market does. Even Warren Buffett is at the mercy of the markets. We are all along for the ride. Some are simply enjoying a free ride. Final comment – revisit my explanation about the proliferation of combo fees. It almost sounds like those advisors will do better no matter how you do.
What Are Conflicts With AUM?
Here is the story of what set me on this Flat Fee path. I worked at another firm years ago. Another advisor’s client called in and I spoke with him as their advisor was on a month’s long vacation. The client mentioned the family was going to remove a couple hundred thousand from their investments to do some charitable donations on behalf of a recently deceased family member. Their advisor happened to call in and I mentioned this to him. His response was “I can’t lose those assets.” I knew instantly there had to be a better way to avoid conflicts with how clients pay their advisors.
When Does Flat Fee Make Sense For Clients
This could be a long list, but I will be brief. It makes sense if you want your fee to be based on things within your advisor’s control, such as the services they provide. Also, if you want clarity on how much you pay. It may make sense if you want to manage your own investments but still have a licensed professional review things and provide specific recommendations. Finally, if you want to be comfortable there are as few conflicts as possible when it comes to fees.
When Does AUM Make Sense?
There are a couple of times I can quickly think of. First, if it costs less to pay AUM fees than paying a flat fee AND all you want is investment services. Next, if you just like the old ways and want your advisor’s pay to go up and down when your portfolio does.
Which One Is Better – Flat Fees Or AUM?
There really isn’t a right or wrong. Plenty of people like the old school ways of paying a percentage. I know my select physician clients like the clarity of a Flat Fee and knowing it is set on the services they are receiving. There are very few professions out there that charge based on net worth. Maybe they figure financial services should not be that way.
Final Thoughts
Fortunately, you can choose how you want to pay your advisor. Here is a scenario. An 80/20 portfolio has gone up over 40% the last couple of years. You may be paying your AUM advisor 40% more every year. Are you getting 40% more in services? Again, just askin’.