Hourly-Fee means disclosing the fee per hour of effort and the number of hours of effort for each client

  • This is the most transparent financial planning fee structure in the world
  • This is how a doctor or a lawyer charges their clients
  • This is almost the opposite of fees that are a percentage of the client's assets under management (fees that are a percentage of the client's assets under management are usually extremely high fees)
  • Hourly-Fee is defined here

Hourly-Fees are more transparent than Fixed-Fees

  • This is only a comparison between Hourly-Fee (which is the gold-standard of transparency) vs. Fixed-Fee (which is the silver-standard of transparency). Both Hourly-Fee and Fixed-Fee are far more transparent and cost effective than fees that are 1% of AUM per annum and Commissions to Mutual Fund Distributors (both of which are harmful to a 100% of clients)
  • Fixed-Fee financial planners do not disclose their hourly-fee nor the number of hours of effort that they put in for each client
  • This allows a majority of (but not all) Fixed-Fee financial planners to focus on minimizing the number of hours of effort per client. They do this by providing almost the same financial plan to all clients without factoring in all the important aspects of each client's particular situation. I call this the Robo++ approach (which is described on the 'Approach' page')
    • To clarify, a minority of Fixed-Fee Financial Planners do not follow the Robo++ Process and instead follow the Customized Process (which is described on the 'Approach' page') . I expect that most such financial planners will eventually change to the Hourly-Fee structure
  • The Robo++ Process is beneficial for Lower-Middle-Class clients since it is better to get advice from a Fixed-Fee RIA using the Robo++ Process rather than from a 1% of AUM per annum RIA or a MF Distributor
  • The Robo++ Process is 'penny-wise pound-foolish' i.e. harmful for Upper-Middle-Class clients since the client may save a few thousands in fees but lose crores or at least lakhs of Rupees due to superficial financial planning and investment advice. The difference between these two approaches is described in more detail on the 'Approach' page'
    • To clarify, as mentioned earlier, even for Upper-Middle-Class clients, the Robo++ Process is less harmful than fees that are 1% of AUM per annum
  • This article in Mint explains in more detail why a majority of Fixed-Fee Financial Planners are forced to focus on minimizing the number of hours of effort per client: 'And ask Fixed-Fee RIAs to disclose the number of hours of effort'

Hourly-Fees are far more cost effecitve than Percentage of AUM fees

  • Paying 1% of AUM per annum for financial planning and investment advice means gifting 26% of your net worth to your RIA over 30 years
    • Fees of 1% of AUM per annum are typically 10 to 20 times the average annual fee that a client would pay to an Hourly-Fee RIA!
    • This article in Mint explains this point in more detail: Minimize Investment Costs to Maximize Returns
  • Quoting from an article that I wrote in Mint - 'Avoid Percentage of AUA / AUM fees':
    • "The percentage of AUA fee structure harms clients in four ways. First, 1% p.a. is equal to the client paying 26% of the investment to the RIA over 30 years. Such an RIA is directly making the client poor rather than preventing the client from becoming poor. Second, such RIAs often push clients to move money from outside the scope of the AUA to within the scope of the AUA even if it harms the client. For example, they push clients to not purchase a primary residence; or to sell all real estate; or to stop pre-paying a home loan; or to stop using fixed deposits and voluntary provident fund. Third, to hold on to clients who are willing to pay such absurdly high fees, such RIAs build a very complex portfolio that the client cannot manage by themselves. Such complex products (e.g. active mutual funds, sector funds, factor funds) also have higher expense ratios which waste the client’s money. Fourth, such RIAs cannot primarily recommend passive index funds that have expense ratios of 0.2% p.a. because it will make it obvious that the RIAs fees are absurdly high. Hence clients should avoid the percentage of AUA fee structure."
    • That article builds on a previous article in Mint, in which I explain 'How to go about selecting an Hourly-Fee, else then Fixed-Fee RIA'
    • This Podcast Video explains that paying 1% of AUM per annum to an RIA is equivalent to gifting two apartments to your RIA over 30 years
  • Jason Zweig, who wrote the chapterwise commentary in Benjamin Graham's book 'The Intelligent Investor' explained this in his weekly investment column in The Wall Street Journal and this is in the context of the United States:
    • "...asset-based fees [i.e. percentage of AUM fees] raise conflicts of their own, since your adviser’s income is directly proportional to the amount of your money that he manages. Rolling over your 401(k) into an IRA when you leave a job or retire may be a good idea, but it also can raise tax complexities. In some cases, you might be better off leaving your 401(k) in your former employer’s plan. Because your adviser won’t earn any fees on those assets, he might urge a rollover instead..."
    • "Advisers who charge for their services through an investment-management fee while appearing to give financial planning away [for free] have trained the public to believe investing is arcane and expensive, while financial planning is mundane and unimportant. The opposite is closer to the truth: Investment management is a commodity whose market price has dropped close to zero, whereas the advice and judgment of a good financial planner can do wonders for your net worth"
    • "Think of any field worthy of being called a profession, and its practitioners tend to charge clients on a fee-for-service basis. They base their billing on what they did for you, not on how much money you have. Your lawyer won’t take 1% of your estate for drafting all your legal documents; he bills by the hour or a flat one-time fee. Your doctor doesn’t take 1% of your net worth even for curing you of a potentially fatal disease; she charges you for the procedure. Financial advisers, too, should charge for advice directly—instead of indirectly under the cover of investment-management fees"

Hourly-Fees are far more cost effective than hidden annual Commissions of a Mutual Fund Distributor

  • Some examples of Mutual Fund Distributors (MFDs) are Citibank, IIFL, Barclays, ICICI Bank, ICICI Securities, Anand Rathi Wealth, FundsIndia (a few of them may additionally have an RIA licence which they may or may not be using)
  • MFDs typically earn a commission of 1% per annum i.e. 1% of your investment is automatically deducted each year (without your knowledge) and paid to the MFD
  • As mentioned earlier, paying 1% of AUM per annum for investment advice means gifting 26% of your net worth to your MFD over 30 years
    • Commission of 1% of AUM per annum is typically 10 times the fee that a client would directly pay to an Hourly-Fee RIA
  • The law requires SEBI Registered Investment Advisers (RIAs) to put the client's interest above the interest of the RIA. But the law does not require AMFI-Registered Mutual Fund Distributors to put the client's interest above the interest of the MFD. So the MFD is free to recommend products which have the highest fees what also pay the highest commission to the MFD i.e. products that harm the client. For example, most MFDs recommend Equity MFs over Debt MFs because Equity MFs have higher fees and pay higher commissions to the MFD
    • AMFI (Association of Mutual Funds in India) is primarily the lobbying organization for all MFs put together e.g. one of their primary roles is to try to persuade SEBI that there should be higher fees for MFs i.e. that MFs should be allowed to extract more money from you each year
    • So 'AMFI-Registered Mutual Fund Distributor' is just a glorified term for 'Salesmen for MFs'
  • Mutual Funds products that contain the term 'Direct Plan' do not pay any commission and hence such MFs deduct a lower annual fee from the client's investment. Any other Mutual Fund product that either mentions 'Regular Plan' or does not mention any such clarification, pay a commission and hence deduct a higher annual fee from the client's investment (The only exception is Exchange Traded Funds / ETFs are MFs which are automatically 'Direct Plan')
  • SEBI regulations are clear that MFDs are only salesmen that have a conflict of interest and MFDs do not meet SEBI's bare minimum competence for RIAs which is a minimum of 5 years of relevant experience; a relevant Post-Graduation in Business / Finance (e.g. an MBA) and the ability to pass SEBI's RIA exams every 3 years
  • Hence, SEBI RIA regulations clearly state that MFDs should not offer Financial Planning services e.g. it is illegal for an MFD to tell you how much you have to save for retirement. However several MFDs violate SEBI regulations and offer Financial Planning services. 
    • One way in which MFDs do this is by pointing out that they are Certified Financial Planners (CFPs). SEBI regulations are very clear that a CFP that has a conflict of interest by virtue of being an MFD should not offer Financial Planning services 
  • Similarly, SEBI RIA regulations state that MFDs should offer only 'incidental investment advice' i.e. offer only the bare minimum advice required to explain the products that they are selling. However several MFDs violate SEBI regulations and try to offer 'investment advice'
  • Hourly-Fees are also more cost effective than Commissions of a ULIP Distributor (since Commissions of a ULIP Distributor are higher than the Commission of a MFD)

Terminology

  • Fee-Only means zero commission. This includes fees that are 1% of AUM per annum, Fixed-Fees and Hourly-Fees
    • Since the terms 'Hourly-Fee' and 'Fixed-Fee' are relatively unknown in India, many Fixed-Fee Financial Planners describe themselves using the generic term 'Fee-Only' and that causes a lot of confusion
  • Advice-Only means that fees are not a percentage of AUM. Advice-Only includes Fixed-Fees and Hourly-Fees. This is a US term that is less common in India. There are only 8 Hourly-Fee Financial Planner in India (including myself) and around 16 Fixed-Fee Financial-Planners in India i.e. there are a total of 24 Fixed-Fee plus Hourly-Fee Financial Planners in India
  • Fee-Based is a deliberately deceptive term that means Fees plus Commissions
  • US vs India: The terms described above are from the US where RIA regulations existed before they were introduced in India in 2013. SEBI regulations in India have slightly different terminology since SEBI RIA regulations about fees are (a) primarily focused on protecting relatively lower net worth clients who have a net worth of less than Rs 50 lakhs and (b) far less concerned about protecting relatively higher net worth clients with a net worth of more than Rs 50 lakhs.
    • Naturally all my clients fall within the category that SEBI is treating as relatively higher net worth clients that SEBI is far less concerned about protecting. And my focus is on what is the right fee structure for such (potential) clients

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