How much should you charge?

Advisor: Your recent column on making the transition to a fee-based practice (June 2012) couldn’t have come at a better time. I had planned to make the switch at the beginning of the year, but have been procrastinating. You hit the nail on the head for me when you said it was fear of client reaction that causes many advisors to hesitate to introduce the subject.

There is another issue that I am grappling with, however, and that is how much to charge and how to structure my fees. I have talked to other advisors, and there doesn’t seem to be any one method that works for everyone. I think I favour the percentage-of-assets approach because it puts me in the game with the client: if their portfolio increases in value, my compensation goes up, and vice versa. I know that also means I could end up working harder during major downturns, such as in 2008-09, for less money. But, philosophically, it makes me feel better and I think clients will respect me more if my fortunes are tied to theirs.

Can you comment on how and what to charge?

Coach says: Every once in a while, we hit on a topic that strikes a chord with a lot of people, and shifting to a fee-based practice is one of those. I have received more feedback on that column than any other in the past year. What this confirms for me is my belief that there is a lot more talk than action surrounding this important business decision. So, I am happy to offer my thoughts on how to set fees in the hope that it enables more financial advisors to move forward with their plans.

– HOW MUCH TO CHARGE

There are many factors and variables that should influence what you charge clients for the products and services you intend to provide. Considering them together should help you get closer to a fee structure that treats both you and your clients fairly.

1. Your hourly rate of compensation. Even if you plan to base your fees on something other than an hourly rate, you must be aware of the value of your time. Most advisors underestimate the amount and monetary value of the time they spend working on behalf of clients.

Calculate your hourly rate by taking your total annual compensation (net of dealer share) and dividing it by the number of hours you work. Don’t be concerned about how those hours are spent. Accept that you wear many hats in the day-to-day operation of your practice and some activities have higher perceived value than others.

For example: $250,000 annual income ÷ (46 weeks worked @ 50 hours per week) = $108.70 per hour. If you anticipate that you will dedicate an average of eight hours annually (two hours per quarter) to each client, you require a minimum fee of ($109 x 8) = $872 to break even. Include some additional amount for “profit” over and above the cost of your time. For example, a 20% profit margin would increase the hourly rate to about $130 – or a cost of slightly more than $1,000 annually for eight hours of your time.

2. Your staff costs. In similar fashion to the above, estimate the average cost of your staff’s involvement with each client. In many practices, team members actually spend more time than the advisor does on tasks such as preparing for client meetings, compiling reports and doing research – albeit at a lower hourly cost. For example: [$60,000 salary ÷ (50 weeks @ 40 hours per week) = $30 per hour] x 10 hours per client = $300.

3. Your overhead. While it may be a coarse calculation, assign some portion of your overhead costs to each client. For example, suppose your operating expenses are $50,000 per year, aside from your own and staff compensation – and marketing, which should not be charged to clients. If you have 250 clients, consider that each client contributes $50,000 ÷ 250 = $200 to overhead expenses, which should be recovered through your fees.

4. Your products and services. Some of the products and services you provide require more work than others. For example, life insurance contracts take less time to service than actively traded investment accounts.

If you offer full-scale financial, tax or estate planning and regular review, this must be accounted for in your fee schedule. This activity is somewhat related to the amount of time spent by the advisor, but also can manifest itself in other costs for research, reporting, compliance and so on.

5. Your service commitment. Again, somewhat related to advisor time, higher service intensity warrants higher fees. Your highest-value clients might enjoy immediate access to you and 24-hour service-request turnaround, while lower-value clients are entitled to a staff service advisor and “best efforts” service turnaround. The commitment to higher service justifies higher fees.

6. Your target market. A practice focused on middle-income clients would not charge the same fees as one with mostly high net-worth (HNW) clients. HNW clients, however, often are accustomed to receiving discounts based on the overall size of their accounts. For example, an asset-based fee schedule might look something like that in the table (above, right).

7. Adding it all up. In the simple example we have been using, the advisor requires an average fee of $1,000 for his or her time, plus $300 for staff costs and $200 for overhead expenses, for a total of $1,500 per year.

The next step, then, is to decide on the methodology for charging that will result in a minimum average fee of $1,500 annually (plus any incremental fee for product complexity, service intensity, etc.). This largely will be a matter of personal preference.

Depending on how you structure things, you may have to accept that some clients with larger accounts could end up subsidizing those with smaller accounts.

Above all, however, I would ask you to keep in mind something I have often said in this column and in presentations – every client relationship should be a profitable one, unless you decide to do pro bono work (which is encouraged) or you intentionally elect to offer your services to some clients at a loss (which is your choice). Notice the emphasis on the word “intentionally.”

 

CLIENT ASSETS / FEE

Less than $100,000 / 1.5%

$100,000 to $250,000 / 1.25%

$250,000 to $500,000 / 1.1%

$500,000 to $750,000 / 1%

$750,000 to $1 million / 0.9%

$1 million to $3 million / 0.75%

More than $3 million / negotiable

SOURCE: GEORGE HARTMAN

INVESTMENT EXECUTIVE CHART

George Hartman is president of Market Logics Inc. and managing director, advisory services, at Accretive Advisor. Send questions, comments and opinions on any aspect of practice management to george@marketlogics.ca.

© 2012 Investment Executive. All rights reserved.