Fees are one of the Unavoidable Trifecta of Investment Costs (UTIC), taxes and inflation being the other 2. Fees are unavoidable because you really can’t even save your money, let alone grow it, without the services fees yield. Without banks, for example, you would have to store your paper money in a physical location in your house, which suddenly becomes vulnerable to fire, theft, and other bad things.
Types of fees to expect:
Bank fees / credit card fees – It is really hard to function in our economy without a bank account. In addition to the physical protection and government insurance that blanket your money, banks provide loans to people who would otherwise not be able to launch their business idea, or buy their first house. Banks have many annoying fees (ATM fees, having a savings account with little money in it), but provide a lot of services that make buying things easier and safer. Certainly a necessary cost.
Stock trade fees – As reviewed in my post about actually buying stocks, you will need a web broker that will execute your order. These typically cost from limited-time-free to $10 per trade. That means if you want to invest a bit of your money every month into the S&P 500, you might have to pay as much as $120 a year in web broker fees buying new shares.
Fund management fees – Every fund has a management fee that is charged to investors like us to pay for the management of the fund. This fee can include everything, include marketing and legal costs for the company that runs the fund. Generally, if the fund is human managed, you can expect fees of up to 1% – 2%.
1% – 2% may not sound like a lot, but it adds up to a lot over time. To illustrate, I’ve put together a spreadsheet in Google Docs that has a table with a breakdown in money invested, investment growth, and fees. You can’t edit it from your web browser, but if you go to the top right and click File -> Download as, you can download the spreadsheet as your own .xlsx to play around with.
The spreadsheet can be found here, in it you’ll clearly see how investing $200,000 over 20 years will result in a total take-home (before taxes) of $409,000 after $53,000 in a typical fund’s management fees are applied. If you play around with the spreadsheet, you’ll find that the more money you have invested, the more scary your fees will be.
Index funds, like Vanguards S&P 500, also have fees, but because index funds are run by a fairly straight forward computer program, humans generally aren’t involved. That makes index funds comparatively inexpensive, Vanguards S&P 500 has a Management Expense Ratio of 0.13%.
Not everyone has a financial adviser, most don’t. But those who do will need to pay for them. Lots of large financial institutions will typically pay their financial advisers commission. Your financial adviser will probably take a fraction of that 1-2% fund management fee, or they might take a cut of any mortgage or other financial service they are providing you.
I personally don’t like this payment model, it is one of the reasons why I decided to manage my finances myself. The problem is that obfuscating how your financial adviser is paid will hide the fact that they are paid (and thus, motivated) more for selling you more profitable services, like insurance. And obviously, a financial adviser working and ABC Bank will only be able to help you with funds and services that ABC Bank provides, meaning you’re only getting the best products and services from ABC Bank, not the best products and services available.