Before you invest your money, it is important to be aware of the fees attached to your particular type of investments. Any respectable, professional advisor should be able to explain every fee in great detail. The problem is that when we invest in our retirement accounts such as a 401(k) or IRA, we often don’t think about the fees associated with each mutual fund, ETF, stock, or bond. Before you do anything with your money, the following six fees are worth asking about:
1. Expense ratio. It takes money to create a mutual fund. For this reason, there are operating expenses involved. These are known as an expense ratio. Calculating an expense ratio is not as difficult as you may believe. A fund with a ratio of 1 percent, for example, translates into roughly $10 paid in expenses for every $1k invested. Typically, you should look for mutual funds and ETF’s with an expense ratio of less than 1 percent. The reason why so many people like index funds is because they are typically not actively managed, therefore, their expense ratios are very low and more of your money gets invested instead of getting eaten up by fees.
2. Management fees. When you hire a professional advisor you are probably going to be charged a fee based on the total amount of your assets. It goes without saying that you need to know about this fee before you invest your money. As the total amount of your portfolio grows, so will the amount that you pay in management fees. With a one percent fee in place, a $500k portfolio is equal to a fee of approximately $5k per year. This may not sound like a lot, but it can be if you don’t see it coming.
3. Transaction fee. Are you going to be charged a fee every time you buy or sell a stock or mutual fund? These fees range from a couple dollars to $50 or more. If you are the type of person who is always interested in buying and selling, you need to know exactly what this is going to cost you. These fees may change the way you invest. It might be wise to invest in more lump sum increments rather than smaller increments on a weekly or monthly basis if the transaction fees are high. Online discount brokers have revolutionized the transaction fee by offering very low transaction fees to those looking to automate their retirement investments.
4. Annual account fee. Mutual fund and brokerage accounts often times charge an annual fee. This is quite similar to an annual fee for a credit card. In most cases, these fees start at $25 and stretch to around $100. Again, this is not a huge amount of money, but it is something you want to be aware of before you begin to invest.
5. Front end load. This is one of those fees that many investors are unaware of. If your advisor does not explain this to you, you may be unpleasantly surprised in the near future. The way that a front end load works is simple. If a mutual fund has a front end load of three percent, a share that you purchase for $10 today will only be worth $9.70 tomorrow. The fee is taken right off the top on the “front end,” meaning when you first buy the investment.
6. Back end load. This is often times known as a surrender charge. This fee is charged when you sell your fund. Fortunately, these fees often times decrease as you hold your fund longer and longer. For instance, you may pay a back end load of four percent if you sell after one year, three percent after two, and so on.
To avoid surprises, speak with your advisor before investing any of your money. Ask them about the six fees above, as well as any others that may affect you now and in the future. There is nothing worse than finding out about fees after you have invested your hard-earned money.
Any other fees that have surprised you that I missed? Definitely feel free to share below to help everyone out!
(photo credit: learningthemarket)