Many investments come with fees that are not clearly advertised or discussed between broker and client. These fees are “hidden,” and you don’t know how much you’re shelling out until you start to examine your statements. That’s when you discover that your annual gains are much lower than you expected because hidden costs dwindled your returns.
The following five hidden fees are among the most common and you’ll likely encounter them as you invest. With an understanding of these fees, you can work to avoid them and keep more of your investment returns.
Hidden Investment Fee #1: Loads
When it comes to the hidden fees in mutual funds, loads are a big culprit. These fees come in two basic varieties – front-end loads and back-end loads.
A front-end load is a cost incurred at the time of purchase – similar to a commission on the sale. This type of fee is deducted from the investment amount, which reduces your purchase. For example, if you gave your broker a check for $10,000 and those funds were invested in a mutual fund with a 5.75% front-end load, your initial investment would be reduced by that front-end load. Instead of purchasing $10,000 worth of shares, you would only purchase $9,425.
As the name implies, a back-end load comes at the end of your investment, or when you sell your shares. This type of load often has a time element you’ll need to consider. Typically, the amount you owe decreases if you wait longer to sell the fund — serving as an incentive to hold onto your shares.
For example, you might encounter a fund with a 6% back-end load for shares sold in the first year, 5% during the second year, and so on. In this scenario, you would pay nothing if you held the shares for seven years or longer.
Many of the mutual funds that charge a load – either front-end or back-end – are actively managed – meaning that a portfolio manager chooses the underlying investments according to the fund’s purpose. Loads are a way to compensate the management firm for their efforts. However, there is significant evidence that actively managed mutual funds do not outperform their benchmarks after adjusting for management fees. In fact, only a quarter of actively managed funds outperformed similar passive funds over a 10-year period.
In many cases, you can avoid loads by purchasing an investment that is not actively managed, such as an index mutual fund, low-cost ETF, or individual stock. These investments could help you reach your investment goals without the added costs.
Hidden Investment Fee #2: 12B-1 fees
Many mutual funds charge 12b-1 fees, which go toward marketing and promoting the fund. By some estimates, these fees cost investors $12 billion each year.
About 70% of mutual funds charge 12b-1 fees which typically account for a 0.25 – 0.75% annual expense. These fees are usually built into the fund’s expense ratio, so you may not see a specific charge on your statement detailing the expense.
To determine if your investments are subject to a 12b-1 fee, you can review the fund’s prospectus – a document that details the fund’s objective, holdings, and expenses. Like with mutual fund sales loads, 12b-1 fees can often be avoided by choosing investments that are lower-cost, like no-load mutual funds, ETFs, and individual stocks.
Hidden Investment Fee #3: Management fees
A management fee is one that compensates the manager of a mutual fund for activities like selecting the securities in the fund, managing the portfolio, and building a profitable investment vehicle. These fees can be charged in addition to a load or instead of one.
Like with 12b-1 fees, management fees are typically built into a fund’s expense ratio and can vary drastically between funds. These fees are usually between 0.5 percent and 2 percent. It may seem like a reasonable assumption that funds with higher management fees generate better results, but this is often not the case. Just like higher salaries do not always equate to better employees, higher management fees don’t necessarily equate to better investment outcomes.
Since investment managers must be compensated for their services, management fees are often unavoidable when investing in actively managed mutual funds. Like the other mutual fund fees on this list, you can avoid high management costs by investing in lower-cost products like ETFs, passively managed mutual funds, and individual stocks.
Hidden Investment Fee #4: Trade commissions
A trade commission is the transaction fee that a broker charges when you buy or sell securities. Typically, these fees range from $5 to $35 per trade. While that might seem like a small amount, these fees can add up quickly.
With most brokers, trade commissions are largely unavoidable. However, being aware of these fees can help you plan for the total cost of your investing strategy.
Hidden Investment Fee #5: Account fees
When you think of account fees, the phrase “nickel-and-diming” comes to mind. That’s because some firms charge these fees for everything from receiving paper statements to allowing your account to go inactive. Some brokers even charge an annual fee just for having an account.
Be sure to understand your investment goals, as well as your broker’s fee structure, so you can avoid unnecessary costs. If you don’t plan to trade frequently, choose a broker who doesn’t charge for inactivity. Steer clear of brokers who charge annual fees and opt for emailed statements over paper to reduce these hidden investment fees.
Avoid Hidden Investment Fees with DreamWork Financial Group
They say you’ve got to spend money to make money, and that’s as true in the investment world as it is anywhere else. However, you don’t have to let brokers and investment firms blindside you with hidden investment fees.
At DreamWork Financial Group, we believe in transparency. That’s why all our fees are clearly stated on our website and communicated to all our clients. We build our portfolios with low-cost ETFs and individual stocks so that our clients never need to worry about sales loads, 12b-1 fees, or high management fees.
Our unique wealth management plan – Investing Gameplan™ – includes a transparent fee structure where you pay only a flat fee for management of your portfolio. This means we only make more money when you make more money. With this unique investment management program, you can avoid hidden fees and keep more of your returns.
To learn more about Investing Gameplan™ and get started, contact us today.