advertisement
Today, ask this question about the financial services you receive: How much is that costing in dollars?
The answer can be unnerving.
A charge of 1% or 2% of assets seems reasonable. But the actual cost in dollars can be an incredible bargain -- or a monstrous overcharge. It depends on how much money you have invested.
Suppose you have an individual retirement account with $10,000 invested in mutual funds. Invested in a mutual fund with an annual expense ratio of 1%, the charge for providing management, accounting, custody and reporting services is all of $100 a year.
Even better, a $10,000 investment in the Vanguard Wellington Fund (VWELX), with an expense ratio of 0.3%, costs $30 a year, or $2.50 a month. That's less than a monthly latte at Starbucks.
The cost is a bargain either way because you couldn't possibly do the same thing on your own.
But as the amount invested increases, the dollar cost of management rises. Suppose you have $50,000 invested. Then you're paying $500 a year at 1% expenses or $1,000 a year at 2%. Accumulate still more -- say, $250,000 -- and the dollar figures rise to $2,500 and $5,000, respectively. At a cool million, the difference between 1% and 2% is $10,000 versus $20,000 (see the table below).
That's a whole lot of lattes.
So the further you go up the assets-under-management scale, the more you need to forget about the percentage charge. Instead, ask different questions. How much is that in dollars? What are you getting for those dollars?
| Amount invested | Fee at 1% | Fee at 2% |
|---|---|---|
$10,000 | $100 | $200 |
$50,000 | $500 | $1,000 |
$100,000 | $1,000 | $2,000 |
$250,000 | $2,500 | $5,000 |
$500,000 | $5,000 | $10,000 |
$1 million | $10,000 | $20,000 |
The dollar differences offer two distinct opportunities. One is the opportunity to learn and invest for yourself, saving those dollars. The other is to divide the services you buy into asset-management and personal-financial advice.
Do-it-yourself: Today's index funds make it possible to build a diversified portfolio at very low cost. With a combination of mutual funds and exchange-traded funds, you can build a portfolio for an average cost of about three-tenths of 1%. If you are approaching retirement with a portfolio of $250,000, you can save $1,750 a year over a 1% annual charge from a manager or $4,250 over a 2% annual charge.
More from MSN Money
With the money you save, if you pay yourself $50 an hour, you'll be able to devote 35 to 85 hours a year to investing your money. That's pretty good pay for most people. And it's probably a wild overstatement of the time required.
Unbundle your services: The second option is easier. Pay separately for asset-management and personal-finance advice on questions about taxes, when to take Social Security, home mortgages, etc.
- Video: The ABCs of mutual funds
If you're paying 2% of assets for an ill-defined service that really only manages your investments, the difference between 2% and 1% on a $500,000 portfolio is a whopping $5,000.
That $5,000 will buy 50 hours of advice at $100 an hour, or 25 hours of advice at $200 an hour. Very few people need 25 hours of high-priced advice every year.
Questions about personal finance and investments may be e-mailed to scott@scottburns.com. Questions of general interest may be answered in future columns. More columns by Scott Burns can be found here and here.
Published Nov. 7, 2007
Rate this Article
High
