Uncovering hidden financial charges in your investment

Posted on: 05 August 2010 by Mark O'haire

Financial advisers often don’t explain the total cost of your investment to you. Try to find out what the true-costs are and to investigate using Peter McGahan’s advice below.

For those of you who have asked a financial adviser to invest your capital for you, it may well be worth a chat to see what the true costs are and to investigate the points below.

When asked about how stressful the responsibility can be for investing advice for the public, I balance the thought with how stressful my life would be should I not be qualified to make the decisions I do.

It is only with a healthy cynicism that I have been able to break through worlds of emperors' new clothes and industry self fulfilling charges.

Here is an example which although it may appear complicated is worth reading.

We are all busy so the thought of spending time doing our own legal, accountancy and financial services work would be catastrophic. And so we trust our financial adviser to make financial decisions for us.

At your bank unfortunately you will simply be given a managed fund (more on those another time as I have my bit between my teeth on another subject).

Keen to beat this underperformance an adviser will look to get the best funds in the market place and choose a vehicle (a product) within which to manage your money.

Up front, financial advisers should explain the total cost of your investment to you, but for varying reasons they either don't or cannot.

For those of you who have asked a financial adviser to invest your capital for you, it may well be worth a chat to see what the true costs are and to investigate the points below.

The concern lies with a new breed of investments called distributor influenced funds (DIFS), or indeed any form of investment where the financial adviser farms out the investment to another firm.  A distributor influenced fund is typically where a financial adviser sets up their own fund but has someone else managing the money for them because they don't have the expertise.

And this is how the layers of cost might work: You give the financial adviser your capital. Depending on their skill they will take most of these charges out; or introduce them. Many financial advisers who class themselves as specialists or experts fall foul of the latter so don't let apathy set in.

You will potentially have a product charge such as an investment bond. You will then have the costs of the fund (unit trust or Oeic), within which is an adviser charge and an annual management charge. All of the aforementioned charges should be made obvious to you at outset as well as a second layer of charges(called undisclosed) that is often not laid out.

The first layer of charges can be as much as 3.17% per year and I saw this evident in a fund put to me by readers. This is because everyone is being paid and few have the expertise.

3.17% is the total expense ratio for the year - equivalent to what you might expect from the best building society return. And before you think you have got off 'heavily' it's about to get much worse.

The fund, like many, doesn't include transaction charges in calculating the total expense ratio of 3.17% above. These are classed as undisclosed charges. They are complicated to assess but the FSA's Kevin James does this well on page 25 of his pretty damning report 'Price of Retail investing in the UK'.

In this report he actuarially calculates the round trip costs of buying and selling. It equates to 1.8%. And so if an entire portfolio is turned over within a fund in a year, the total extra undisclosed charge for the year would be 1.8% on top of the 3.17% already quoted.

And no I haven't stopped yet. The turnover (how much of the fund is bought and sold during the year) of this fund is 134.2%, taking the undisclosed charges to 2.42% per year and the total cost of running the fund to 5.5% per year. If this was held inside an investment bond you would have an extra layer of product charges on top of that.

Before you say it, you get what you pay for. True, but this fund underperforms its category and benchmark considerably.

And you wonder why your investments stay level forever.

By Peter McGahan

Need Expert Advice?

Peter McGahanPeter McGahan is an Independent Financial Adviser and Managing Director of Worldwide Financial Planning. Worldwide has won 16 Financial Times awards in the last four years. Peter has also been named the top media IFA of the year by Unbiased.co.uk in 2009.

Peter comments regularly in major journals such as the Mail on Sunday, Irish News and Sunday Times and is a weekly columnist for FT Adviser. He has also appeared on Working Lunch and the Today programme. In addition he is an expert on international tax matters for a range of international publications.

Worldwide Financial Planning Ltd are authorised and regulated by the Financial Services Authority. 'The FSA does not regulate Credit Cards, Will Writing and some forms of mortgage and Inheritance Tax Planning.'

Information given is for general guidance only, and specific advice should be taken before acting on any suggestions made. The above represents the personal opinions of Peter McGahan. All information is based on understanding of current tax practices, which are subject to change. The value of shares and investments can go down as well as up.

If you have a financial query you would like Worldwide Financial Planning to respond to, call 0845 230 9876 or email info@wwfp.net.


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