Now about my obscene commissions…
August 2, 2016 by Stephen Kelley
I recently read a column about annuities on Forbes.com that is fairly typical of the trashing most media types and “fee-only” advisers like to dish. As is frequently the case, it was filled with lots of hyperbole and character attacks on annuities and the insurance companies and agents who sell them.
I believe this to be a terrible disservice. Not to me and other agents, but to people who might otherwise consider a retirement strategy that may keep their money safe and guarantee lifetime income.
In his bio, the author wrote the following:
“I write about investments, retirement and related financial topics. I am the founder and principal of a NAPFA fee-only registered investment adviser with more than $600 million of assets under management.”
He went on to trash annuities, writing, among other things, the following: “Because the business is highly profitable, and the product difficult to sell, insurance companies pay obscenely high commissions.”
Honestly, I am so bored by this topic, which has been repeatedly debunked. However it’s in the news again with the new Department of Labor ruling, which seeks to make everyone “fee-only.”
To set the record straight, I felt the need to respond. With the intent of being as educated as possible, I went to the NAPFA.org site and searched on “What is fee-only.” There were several models listed, including hourly, retainer and, lo and behold, assets-under-management fees.
So the post’s author (let’s just call him “Mr. Noble” to keep it easy), could charge a wrap fee on his $600 million assets under management, or an hourly rate, and either are sanctioned by NAPFA. Do the math. A 1 percent wrap fee would net him $6 million a year. In order to receive that much on an hourly basis, he’d have to charge $2,884 per hour. If he charged a more reasonable $200 an hour, he’d be limited to about $400,000 a year. Which do you think he does?
Tell me, please, how could two such diverse and totally contradictory models be sanctioned by the same organization in the same category as “fee only”?
Now Mr. Noble is going to charge between 1 percent and 2 percent on a $10,000 investment every year, for as long as you own the investment, on the full value of the investment, out of YOUR pocket. Mr. Noble is going to tell you that it puts his interests in line with yours, because the better he does with your investments, the more he makes.
Question: How is charging you a fee, when you lose money, aligned with your best interest? Maybe if the wrap fee was tied to gains, I could buy it. But that fee is going to be charged whether you make money or not.
Further, I have always questioned the notion that something tied to volume of sales should be called a fee and not a commission. In my mind, fees are charged for services rendered, not volume sold. In the example above, the $200-per-hour fee truly is one. But the 1 percent of assets held? That sounds much more like a commission to me.
So I started thinking about commissions and fees. The only thing I could think of, within this context, is a fee is paid by the client on an ongoing basis. A commission is typically paid by the seller, once when a sale is made, based on the amount or quantity of the thing being sold.
Here’s an example. You hire a Realtor to sell your house. He does a lot of work, shows it to a lot of people, and when it’s sold, he gets a fee. Right? And because the same amount of work goes into selling a $1 million home as goes into selling a $250,000 home, he gets the same amount for each. Right? Because it’s a fee.
Oh, wait. It’s not a fee. It’s a commission. It’s a percentage of what’s sold, paid by the seller. Once, when the item is sold.
However a wrap fee is a percentage of what’s sold, paid by the buyer, year after year after year. What’s the difference? YOU pay it FOREVER, making it a fee, not a commission. Framed this way, would you prefer a fee-based product that you have to pay or a commission-based product where the insurance company pays?
According to many sources, the average mutual-fund fee is anywhere from 1 percent to as much as 5 percent. The average wrap fee is 1 percent. Don’t take my word for it, see http://www.forbes.com/2011/04/04/real-cost-mutual-fund-taxes-fees-retirement-bernicke.html or just Google “mutual-fund fees.” It’s an eye-opener.
So let’s just assume you put $10,000 in an investment and keep it over 40 years, incorporating both accumulation and distributions periods and earning an average of 7 percent which is what Wall Street likes to claim. Let’s also assume total fees of 2.5 percent, certainly a reasonable assumption.
After 10 years without fees, the fund balance would be $19,671, after 20 years, $38,696, after 30 years, $76,122 and after 40 years, $149,744. With fees, those numbers are $15,529, $24,117, $37,453, and $58,163, respectively.
That means the cost of the fees to the client is $4,142 after just 10 years. At 20 years it’s $14,579. At 30 years, fees have taken $38,669. By year 40, $91,580 has been removed from your account, leaving just $58,163.
What is the obscenely high commission on an average annuity for this investing lifetime? It’s about $600-$700, or 1.2 percent of the so much more ethical wrap “fee.”
So I ask you, what incentive does Mr. Noble have to promote annuities? Right. None whatsoever.
As mentioned earlier, the Department of Labor fiduciary rule primarily targeted the commission-based products, maintaining that someone who earns $600 to $700 is more susceptible to corruption and conflicts of interest than someone making $58,163. On what planet?
“Free Money Guy” Stephen Kelley can be heard, along with co-host Mark Perkins, on the Free Money Radio Hour at 9 a.m. on Tuesdays and Wednesdays on 1590 WSMN; 7 a.m. on Saturdays on 610 WGIR; and at noon on Sundays on 980 WCAP. In addition, Steve is heard weekly on the nationally syndicated “America Tonight” with Kate Delaney, and is author of several books, his latest being “Tell Me When You’re Going to Die and I’ll Show You How Well You Can Afford to Live.” His financial planning practice, Safety First Financial Planners is at 33 Main St., Nashua. He can be reached at 603-881-8811.
Read more: http://www.lowellsun.com/latestnews/ci_30162319/now-about-my-obscene-commissions#ixzz4G70H9v3y
