You could be forgiven for not knowing you had a choice.  Based on Cerulli research (The Cerulli Edge – U.S. Advisor Edition, 1Q 2024), 95.2% of Registered Investment Advisors (RIAs) in the U.S. charge asset-based fees in some form, which can make finding an advisor employing a different pricing model difficult.  The most popular form of asset-based pricing is the x% of a portfolio, otherwise known as “assets under management” (AUM).  

The AUM pricing model has long been the standard for RIAs, and to be fair, it presented a material improvement over the conflict-of-interest-laden commission-based compensation broker-dealers worked under (and somehow still get away with).

While many people can be served well by advisors working under an AUM pricing model, there is one group where the AUM pricing model presents a particularly troublesome fit:  Those approaching or already in retirement. 

Here is a behind-the-scenes look at why retirees should think twice when presented with an AUM pricing model by a financial advisor. We will also touch on an alternative option that many retirees aren’t aware of when searching for a retirement specialist: flat-fee pricing.

1. AUM Firms Do Not Particularly Like Serving Retirees

A retiree is a poor fit for the AUM pricing model, as they exhibit traits opposite of what an AUM firm would consider to be of an ideal client.  The ideal client for a firm employing an AUM pricing model is one who:

• is steadily growing their portfolio through regular contributions
• can take relatively greater risks to grow their portfolio
• needs little service outside of an occasional investment review

This ideal client allows an AUM firm to bill increasing amounts as the client’s portfolio grows without having to provide more time or service in return.  

2. Retirees Stress an AUM Firm’s Business Model

A near retiree (or retiree) presents an AUM firm with several challenges.  First, a near retiree suddenly needs additional help beyond the investment management that has traditionally been provided.  They now need retirement planning help and may need other additional services like tax planning, estate planning, and insurance planning.  

Since an AUM firm does not make more money for these additional services, they tend to underinvest in the type of capabilities, expertise, and personnel needed to support a near retiree’s new needs.  Some AUM firms simply won’t offer any of the needed additional services at all.

3. Retirees Can Become “Segmentation” Casualties

In addition to being a poor fit for the AUM model, a retiree runs the risk of becoming a segmentation casualty.  A retiree is in the savings decumulation phase of life, meaning they take monthly distributions from retirement accounts to fund their retirement living expenses and retirement goals.  

While this is precisely what a retiree is supposed to do (maximize their quality of life given the resources they’ve accumulated), an AUM firm sees this client as one of declining value to the firm.  As retirees continue to make retirement distributions, their portfolio value can fall, leading to declining revenue for the AUM firm.  

Because clients pay an AUM firm based on the size of their portfolio, the revenue the firm receives is different from each client.  These differences lead to a practice known as “Client Segmentation.”  An AUM firm has the incentive to make sure its “best” clients (those paying the most) are receiving their best service in terms of time, attention, and personnel.  As a client declines in importance to the firm (i.e., the amount of revenue they pay the firm goes down), they risk being transferred to a “b-team” or more junior advisor trying to cut their teeth.  

Years of familiarity and relationship built with a current advisor can be thrown out the door right when that continuity of relationship is most important.  A retiree should be able to rely on an advisor to carry on helping the less financially astute spouse if something happens to the more financially astute spouse.  A financial advisor is also among the first to be able to spot signs of potential cognitive decline in financial decision-making.  These important benefits of a relationship can be lost if transitioned to a new advisor with the firm later in life.

 

 

4. Retirees Are Subject to Conflict of Interest

AUM firms commonly cite the phrase "We do better when you do better." While this is true when you are in the accumulation phase of life, it falls flat as you retire.  The reality is advisors of an AUM firm have a strong incentive to gather and keep as much of a client's investment assets as possible to maximize the amount managed (and thus their fee).  

For a retiree, this leads to a potential conflict of interest when seeking advice on:

• When to retire/ideal age for retirement (working longer means a bigger portfolio for longer)
• Social Security claiming (claiming early means less is needed from the investment portfolio)
• Purchasing an annuity for an income floor (this could mean a large sum leaving the investment portfolio)
• Paying off a mortgage (this could mean a large sum leaving the investment portfolio)
• Discretionary (or goal) spending (may discourage taking that big family vacation, buying that second home, etc, to keep the money in the portfolio)
• Charitable giving and gifting (may discourage to keep money in the portfolio) 
• Portfolio asset allocation and investment selection (a “riskier” portfolio allocation or investment choice could lead to greater portfolio value)

Our intent is not to “fear-monger.”  Any RIA advisor is held to a Fiduciary duty, but everyone may not always apply that duty evenly in light of incentive.  In our experience, people tend to do what they are incentivized (or paid) to do.  For AUM advisors, that means accumulating and keeping portfolio assets.

5. X% of a Big Number is a Big Number

Near Retirees are in peak accumulation years and tend to accumulate relatively large portfolios, often exceeding $3 million.  A $3 million portfolio being charged the traditional 1% AUM management fee translates into a $30,000 fee, which could represent a material portion of this person’s retirement living expenses.

While differences do exist between the service needs of different clients, they are seldom related to the size of one’s portfolios.  In fact, we often spend more time with clients of less means because their risks (and risk management needs) are more significant than those with greater means.  
 

Paying an advisor a 2x, 5x, or 10x multiple of another client receiving the same relative service just isn’t fair or necessary.

 

The Optimal Alternative for Retirees? A Flat-Fee Financial Advisor 

While unique and harder to find, a flat-fee pricing model is the perfect fit for near-retirees and retirees.  Planning for retirement is complex and requires an advisor to look at all assets, tools, and tactics available to make the most of a retiree's situation.  A flat-fee financial advisor has no financial incentive to do anything other than considering everything and recommending only what is best for the client, looking beyond simply the investment portfolio being managed.  

A firm that charges a flat fee should presumably be charging enough to invest in the capabilities, expertise, and personnel needed to serve its target client adequately.  Every client is always of equal importance to the firm and should receive the same level of ongoing service from the same advisor.

Because of their large portfolio balances, retirees will often find a flat-fee pricing model to be more economical than paying based on the size of their portfolio.  This means more resources that can be directed to the only thing that should matter: maximizing the quality of life you can live during your retirement.  

We charge a single, transparent, flat fee for ongoing retirement planning, tax planning, and investment management.  We specialize in only working with near-retirees and retirees.  If you’ve been looking for a flat-fee financial advisor and would like to consider working with us, please feel free to reach out and schedule a call with us.