How much are your 401(k) and IRA worth to a bank?

[Matt]

IRA's are goldmines to banks and brokerage houses. This is why you see transfer/rollover bonuses on offer from almost every high street outlet.

A common number I see is (up to) $600, it is typically tiered and starts lower, and while less publicized there are higher bonuses available for larger accounts, some of the ones I have seen recently:

$600 TD Ameritrade (for accounts $250K or higher) - 12 month hold
$600 Etrade (for accounts $250K or higher) - unclear on hold period
$600 MerrillEdge (for accounts $200K or higher) - 90 day hold
$600 ShareBuilder (for accounts $125K or higher) - unclear on hold period

For those of you who want to 'game' this, the accounts come with a minimum holding period, which varies by account, when I checked these links it didn't discuss a clawback on the bonus for Etrade or ShareBuilder, Merrill stated holding the funds there for 90 days, and TD a full year. If you pull out before this then you will forfeit the bonus (check with all of these guys before you do in case this info isn't accurate, or it simply changed)

It is not uncommon to find transfer bonus offers of $2500 for accounts of $1M or more. Also, I have discussed in the past that is possible to have brokers match this in order to retain your business.

NB - You may transfer IRAs an unlimited number of times per year, but you may rollover only once per year per IRS regulations - be careful not to mix up the two! They are very similar things.

If you have a large account and are not receiving some sort of annual bonus you are potentially leaving something on the table here. The Secret To Negotiating Brokerage Account Bonuses is worth a quick read.

Brokerage vs IRA bonuses

I have discovered that many banks offer bonuses like this even if not well advertised, however, you will see much more offering them for IRA's instead of Brokerage accounts.

The logic seems quite simple - IRA's have a restricted withdrawal schedule. This is particularly attractive to retain Assets under Management by the Brokerage in younger clients. For example, if you have a person who is 25 years old with a $100K IRA they are much more likely to see that IRA grow in value by both capital additions and asset appreciation.

That same person who held a regular brokerage account might instead pull funds out for a home purchase, or other lifestyle needs - the lack of Qualified withdrawal rules makes a regular Brokerage/Investment account more transient as it can be accessed with ease.

Where is the payoff for the Bank/Broker?

These institutions are excited by account sizes of $100K or more, and you can expect to be called up by the brokerage and 'advised' into a sound asset allocation. This will likely be in the form of Funds. If you transfer in $250K in exchange for $600 you can bet all that on Red in Vegas that your Client Management Representative is not going to suggest a low cost ETF strategy for you, instead they will seek to provide a 'full service, wealth management strategy'.

Fee BASED Planning offered

Fee BASED is not Fee ONLY. Fee BASED is a word invented by the Brokerage houses like this to confuse you as a customer. This will be the biggest mistake of your investment career. Fee based means that they will charge you an Assets Under Management Fee as an advisor, and then they will go on to offer you products that may or may not offer them a commission too (they aren't going to focus on commission free when they could earn a commission, just FYI..)

As a Fee Based Advisory you will see fees ranging from perhaps 0.85% -2% per year for advisory services. That would be valued at: $2125-$5000 per year in exchange for the $600 they hooked you in with.

Additionally, they will offer funds that have loads which could cost 1% or more on the front or back end. That is another $2500.

Other fees, such as Fund Management Fees could cost between 0.5%-1.5% and 12b fees (marketing so they can sell the fund to other suckers) of up to another 1% or so - lets call that 2% total - and another $5,000 per year.

So worst case, you transfer into a Merrill type place, they send you $600, invite you in for 'Wealth Management' either via the phone, or in their offices, or perhaps over a nice steak dinner. Once you think you are now a 1%er and that your guy is doing you right, you get an annual bill of about $10,000.

You won't be able to see the $10,000. It will be buried in fees that are swiped away from the eye before they hit your return.

What's that worth to a bank?

We are talking $10,000 on $250K in year 1. If you were 35 years old when you did this, and they retained you as a client for life, you would not be able to withdraw (barring some rules) from the IRA until at least 59.5yrs. A 'good' advisor would encourage you to max out your annual contributions, currently at $5,500.

Let's set asset appreciation from all stocks at 4% (your fees mean you make half of the 8% I would normally assign to this calculation)

• Time = 30 years until you hit 65 and regular retirement age
• Annual Payment, $5,500 (increases to $6500 for final 10 years due to catch up) - i'm going to ignore annual increases here to simplify.
• Starting Value $250,000
• APR 4%

Value of account at age 65= circa $1.1M

So, should they pull you in for $600 (this is Lead Generation) then use their client relationship management skills to retain your business your account value would be worth $1.1M.

Production (Churning)
In addition to the Assets Under Management fee that you may, or may not be charged these advisors are compensated via 'production'. This means taking you out of one fund and into another. The savvy reader here would say that my numbers above were unfair because Load fees would not apply each year.

However, Advisors that do not hit Production figures for any 3 month period are typically fired. And in order to do that they will 'churn' your account. You will receive a call suggesting that you 'reallocate' it might even appear to have a lower annual fee, or maybe just great 'Alpha'... whatever the story is, you are going to get hit for another fee in the process.

Surviving the bloodbath
There is a simple solution - you can invest with Vanguard or other low cost funds - Fidelity Spartan Funds have great options too. You can do this within any of the brokerages that offer you the $600, but be ready for the onslaught... if you are transferring in attractive account sizes it is simply to feed the lead generation for your 'client relationship managers' and they will do their best to make a nice profit from you.

You can expect a phone call, you might get an offer to attend a meeting, or lunch, or an exclusive event...it is nice to be courted, but remember what this is really worth. In order to understand the value of this to the bank, if you were to instead use a low cost index strategy and yielded an average of 8%, that $250K wouldn't be worth $1.1M, it would be worth 3x that....

 

[BenT]

Matt,
Excellent post! Quick follow up bullet points to clarify some items... Assets Under Management (AUM) fee at Merrill Lynch is the only fee one pays. So if there are 12b fees from a mutual funds, those are actually refunded. Also, any transactions that take place in a managed account are not charged any fees (load or transaction). And one last point, there are no ancillary fees when it comes to banking services, so no minimum balances required in other checking/savings accounts, no ATM fees, no check ordering fees, no overnighting replacement card fees or anything else. If there is an issue, you have one number to call: your team. No need to walk into a branch.

 

[Matt]

Matt,
Excellent post! Quick follow up bullet points to clarify some items... Assets Under Management (AUM) fee at Merrill Lynch is the only fee one pays. So if there are 12b fees from a mutual funds, those are actually refunded. Also, any transactions that take place in a managed account are not charged any fees (load or transaction). And one last point, there are no ancillary fees when it comes to banking services, so no minimum balances required in other checking/savings accounts, no ATM fees, no check ordering fees, no overnighting replacement card fees or anything else. If there is an issue, you have one number to call: your team. No need to walk into a branch.

Thanks for the info Ben!

What are the AUM fees, out of interest?

And what fees are refunded- just 12b or load and management fees too?

 

[BenT]

AUM fees vary based on assets managed and it's tiered so that more AUM = less %. To determine which tier one is in, you add up all assets and liabilities, and then my understanding is that the % fee is charged against the assets only. Confusing right? But it's beneficial to the consumer should you have a line of credit or mortgage with them. The fee is withdrawn monthly. You can have the fee for all accounts (taxable & non-taxable) withdrawn from your taxable (brokerage) account so that way you can benefit from the tax deduction (you can't take a tax deduction for a fee deducted from a non-taxable (i.e. IRA) account). If the fee that they charge at the beginning of the month is too much or too little, an adjustment is made at the end of the month.

The 12b-1 fees are refunded (but are just processed as a 'mutual fund adjustment' and credit to your account). There are no load fees because the mutual funds they invest in are 'investment class' so you're invested in share classes that aren't available to the public otherwise.

As for the AUM fees, the %'s go from like 1.75% max to maybe as low as 0.75% ? I would have to check on that, sorry I don't have it readily accessible.

 

[Matt]

Ben,

It shouldn't be confusing. Unless by design.

The investment class funds that have no load are prop funds? If so what expenses are attached to those? What management fee is being charged on top of the AUM?

Since fees tier downward- are the management fees for the smallest accounts 1.75%?

Thanks for the info.

Matt

 

[BenT]

Ben,

It shouldn't be confusing. Unless by design.

The investment class funds that have no load are prop funds? If so what expenses are attached to those? What management fee is being charged on top of the AUM?

Since fees tier downward- are the management fees for the smallest accounts 1.75%?

Thanks for the info.

Matt

They are no load, but they are "Institutional" share classes. Sorry - earlier I said investment class. There are various expense ratios attached, and yes, those are on top of the AUM fee (but you don't see the expense ratios charged).

Some examples of expense ratios for the mutual funds in my account are: 0.81%, 0.74%, 0.51%, 0.90%, 0.74%

Yes, smallest amounts have the highest % fee

 

[Matt]

They are no load, but they are "Institutional" share classes. Sorry - earlier I said investment class. There are various expense ratios attached, and yes, those are on top of the AUM fee (but you don't see the expense ratios charged).

Some examples of expense ratios for the mutual funds in my account are: 0.81%, 0.74%, 0.51%, 0.90%, 0.74%

Yes, smallest amounts have the highest % fee

OK - let's run some numbers then - the average of those 5 funds = 0.74% - now lets add on 1.75%, and for the sake of rounding say we have an annual expense of 2.5% for investing with Merrill.

• $100K invested would pay out $2500 in fees, or if you started with $250K then we are talking $6250 in year 1.

Let's compare that to say 0.15% (VTI starts at 0.05% so I'm rounding up here) for a Vanguard mix:

• $100K invested would pay out $150 in fees... $250K would pay out $375

Over the course of 30 years, assuming an 8% return, and with just $5500 added per year that is worth:

Merrill: $100K would grow to $470,816
Vanguard: $100K would grow to $961,965

Merrill: $250K would grow to $1,177,040
Vanguard: $250K would grow to $2,404,887

Note, in these calculations I am not tiering down from 1.75%, which would of course increase the returns of Merrill... but I don't see much need to either, since it is clear that even best case we are looking at something above 1.5% total for Merrill, which is 10x the fee of Vanguard.

Why would anyone be with Merrill in these situations?

 

[InstinctX]

FYI -- Merrill is part of the BoA family ... I loathe BoA

 

[ElainePDX]

Not to be contrarian, but sometimes it can be helpful to deal with a brokerage account. When my parents died, I was put in charge of the money that was inherited by my nieces and nephews who were under 21, because my sister was not alive and my parents wanted to be sure that the money they left to their grandchildren really made it to the kids. They expected my brother in law to remarry and wanted the funds kept completely separate. It was not a lot of money - nothing near the numbers in Matt's example above - but it was not insignificant.

While I may be a travel hacker and MSer, I am not comfortable in the role of investor. My BIL lived abroad. The youngest child was only 13. I simply did not want to figure out how to invest their money, and I wanted to protect myself from any challenges that I had not been a responsible fiduciary. I now realize I could have perhaps found a fee-only financial planner, but this was back in 2000, and I was not really aware of such people. So I opened accounts at a brokerage.

The brokerage was indeed extremely helpful over the years. We (my husband and I) kept the investments in funds where there were either no fees or very small ones. When 9/11 rules claimed down, we were still able to add names to joint accounts, since they allowed me to hand carry paperwork to get the needed signatures, done when I was going abroad. This bent the rules a bit, but because they had met the kids when they were visiting, they allowed it. (I had made sure to march the kids in to say hi when they were in the states; the accounts I opened in 2000 had not required their presence or signatures.)

That way, we were able to not only add spouses to existing accounts for the older siblings, and also to convert the accounts from minor accounts with me, to accounts in the name of the now 21+ kids when they came of age. There were also a host of other freebies, from free checking to annual reviews of our financial health and retirement planning. When the brokerage made the mistake of losing a hard-to-replace check that had been issued abroad for the sale of an apartment my parents had owned - it did finally turn up - we were able to negotiate very, very low fees ongoing, because they worried we'd pull the accounts.

And, most important to me, I felt protected in the event that one of the kids came of age and decided to accuse me of mismanagement. I had a reputable brokerage and a broker to guide me, and while of course all the decisions were mine, it seemed better to me than to just pick a fund on my own at Schwab or Fidelity. The fund might not necessarily do better, but I felt there was less chance I'd be accused of having made bad choices.

Were I to suddenly find myself in the same situation today, I would probably hire a fee only planner. But in the year 2000, when I had children at home, a household to run, a part-time job, an estate to settle (which included two properties to empty and sell), and now the fiduciary responsibility for the inherited assets of 3 minor relatives, I felt that any brokerage fees we might pay would bring me some value and some peace of mind. And they did.

 

[Matt]

Not to be contrarian, but sometimes it can be helpful to deal with a brokerage account. When my parents died, I was put in charge of the money that was inherited by my nieces and nephews who were under 21, because my sister was not alive and my parents wanted to be sure that the money they left to their grandchildren really made it to the kids. They expected my brother in law to remarry and wanted the funds kept completely separate. It was not a lot of money - nothing near the numbers in Matt's example above - but it was not insignificant.

While I may be a travel hacker and MSer, I am not comfortable in the role of investor. My BIL lived abroad. The youngest child was only 13. I simply did not want to figure out how to invest their money, and I wanted to protect myself from any challenges that I had not been a responsible fiduciary. I now realize I could have perhaps found a fee-only financial planner, but this was back in 2000, and I was not really aware of such people. So I opened accounts at a brokerage.

The brokerage was indeed extremely helpful over the years. We (my husband and I) kept the investments in funds where there were either no fees or very small ones. When 9/11 rules claimed down, we were still able to add names to joint accounts, since they allowed me to hand carry paperwork to get the needed signatures, done when I was going abroad. This bent the rules a bit, but because they had met the kids when they were visiting, they allowed it. (I had made sure to march the kids in to say hi when they were in the states; the accounts I opened in 2000 had not required their presence or signatures.)

That way, we were able to not only add spouses to existing accounts for the older siblings, and also to convert the accounts from minor accounts with me, to accounts in the name of the now 21+ kids when they came of age. There were also a host of other freebies, from free checking to annual reviews of our financial health and retirement planning. When the brokerage made the mistake of losing a hard-to-replace check that had been issued abroad for the sale of an apartment my parents had owned - it did finally turn up - we were able to negotiate very, very low fees ongoing, because they worried we'd pull the accounts.

And, most important to me, I felt protected in the event that one of the kids came of age and decided to accuse me of mismanagement. I had a reputable brokerage and a broker to guide me, and while of course all the decisions were mine, it seemed better to me than to just pick a fund on my own at Schwab or Fidelity. The fund might not necessarily do better, but I felt there was less chance I'd be accused of having made bad choices.

Were I to suddenly find myself in the same situation today, I would probably hire a fee only planner. But in the year 2000, when I had children at home, a household to run, a part-time job, an estate to settle (which included two properties to empty and sell), and now the fiduciary responsibility for the inherited assets of 3 minor relatives, I felt that any brokerage fees we might pay would bring me some value and some peace of mind. And they did.

I love contrarian - I'd just like to ask why they need to charge you a % of AUM to edit account titling? You could hold assets with the companies I mentioned in this post and have access to the custodial support for overall account management, without needing to pay them for AUM, that should be two very different departments (front office and back office). This is particularly true for firms like TD, Etrade and Sharebuilder - for Merrill I am not sure if you could self direct your investments and avoid both loaded funds and AUMs or not.

Now, as for your second point about 'how to invest' I do agree it has value to have an advisor, but if you pick one that is focused on making commissions from you then you aren't going to do so well. A Fee only planner would be great for people like yourself back then, as they would charge an AUM fee, but they would work in a fiduciary capacity with it, so you would be looking at total fee of probably under 1% VS 2.5%. What's more, you would get holistic advice from that, not just investment advice - so you would have savings on taxes, retirement planning, trusts, etc, so a lot more bang from a lot less buck.

Of course, you are correct in that if you have just too much going on it is fine to pay more - that is no different from my decision to take on a real estate broker recently rather than FSBO - if there is too much on your plate offloading it for a fee is fine, but the long term impact of this is huge, so it must be something that is revisited as soon as possible to help protect long term wealth.

 

[Paul]

OK, how do you put together an 8% return and extrapolate that for 30 years in an era of a vastly indebted society, and where proportion of retirees vs able bodied contributing SS workers declines precipitously? Seems beyond dubious. As the Baby Boom generation sells assets and downsizes, both equities and real estate will see downward pressure (more sellers than buyers) and returns will follow. If people follow the hackneyed advice of dumping more into bonds as they get older, it will be even worse. What you'll see is multiple compression as lower asset valuations will be needed to attract ever-fewer investors who are willing to invest in equities. As such, methinks most will be lucky to get half what you suggest.

As for your critiques of the wealth management industry, you're right on the money.

 

[BenT]

Hey Matt,
Some great discussion here. I love it. I agree that having your accounts managed is not for everyone. For me, I took the following view: I work hard at my job (as 'banker' no less ), and I don't want to have to be distracted by having to work hard to get my investments to perform well. So for me, it makes sense to higher someone to help me manage my money. And as you just mentioned, it isn't all about the investment choices that are made for me. With the AUM fee, I get access to semi-annual or quarterly financial reviews with my advisor, special mortgage products, advice & counsel on tax planning and more. So for me, it helps to have someone to talk to considering that within the next 18 months, I will be paying for a wedding, a new (used) car, and a downpayment on a house. If I were to try to figure out how to do that all on my own, that would be daunting for someone my age. Somewhere down the line, I do hope to have trusts & the like, so having access to a team that can make that happen is reassuring.

And in regards to the performance, please correct me if I'm wrong, but doesn't less volatility year to year improve returns over the long term? That's something that my portfolio aims to do. It aims to reduce volatility, which does mean when the market goes up, my portfolio might not go up as high, but it also doesn't crash as hard should the market crash. It's interesting to see in my portfolio reviews my investment mix as it would have performed over the past 15 years versus the stock market (S&P) and other benchmarks.

Great discussion as this is topic that many struggle with. Also, have you looked at the managed accounts by Fidelity or Vanguard as comparison?

 

[Matt]

Yep - I love to argue such stuff and respect your position.. my personal approach to these matters is to strive to become an expert at everything. I don't have an issue with any of the sales pitch points of your broker, such as offering access to structured finance, asset based lending, or wealth management in general.

My issue is that the people that provide the service often know very little. I know this is a generalization, and I firmly believe that there are great people working at Merrill's and the Morgan Stanleys of the world. But I also know from my own personal experience of working alongside these people on projects that the vast majority don't know what they are talking about. The Financial Reviews you receive are auto generated forms, that are frequently not understood by the people on the teams. And what's more - you are paying more than double the market rate of a more qualified planner and advisor - which makes no sense!

As for performance, I do believe that index investing can be beat, there are many variations on the old CAPM system for this, but I do not think you can beat it easily when you factor in paying over the odds for the service. Rather than compare your performance with the S&P I'd rather compare it with models from something like a Betterment or other Robo Advisor, because that really is all that these guys are.

The T&E support and tax planning does exist, but again, high cost, low skill is the trend. And it is something you can do better with a different approach. You don't need an advisor or planner to get a trust - you would use them to 'advise' on a trust, but when many don't know what a trust is why use them for this service?

The argument for wirehouse firms is that they do have resources- so you could get a guy on your 'team' or another team who is an expert, but then you open the bigger problem, fiduciary responsibility. Going back to my previous point, you can get good, hardworking folk at a wirehouse, but you get a lot more that are only interested in making money from you.

If you want to go managed on your money, I wouldn't compare it to Vanguard or Fidelity, I would compare it to a NAPFA registered advisor, that would be interesting.

 

[Matt]

OK, how do you put together an 8% return and extrapolate that for 30 years in an era of a vastly indebted society, and where proportion of retirees vs able bodied contributing SS workers declines precipitously? Seems beyond dubious. As the Baby Boom generation sells assets and downsizes, both equities and real estate will see downward pressure (more sellers than buyers) and returns will follow. If people follow the hackneyed advice of dumping more into bonds as they get older, it will be even worse. What you'll see is multiple compression as lower asset valuations will be needed to attract ever-fewer investors who are willing to invest in equities. As such, methinks most will be lucky to get half what you suggest.

As for your critiques of the wealth management industry, you're right on the money.

I'm not going to say anything against people who would rather shoot lower for returns- it's definitely a safer way to plan and there is no harm in that, providing you are comfortable with duration.

I personally give 8% when others give 10% for equities. 4% for me is approaching fixed income levels- which isn't a bad thing...

 

[Paul]

Hey Matt,
Some great discussion here. I love it. I agree that having your accounts managed is not for everyone. For me, I took the following view: I work hard at my job (as 'banker' no less ), and I don't want to have to be distracted by having to work hard to get my investments to perform well. So for me, it makes sense to higher someone to help me manage my money. And as you just mentioned, it isn't all about the investment choices that are made for me. With the AUM fee, I get access to semi-annual or quarterly financial reviews with my advisor, special mortgage products, advice & counsel on tax planning and more. So for me, it helps to have someone to talk to considering that within the next 18 months, I will be paying for a wedding, a new (used) car, and a downpayment on a house. If I were to try to figure out how to do that all on my own, that would be daunting for someone my age. Somewhere down the line, I do hope to have trusts & the like, so having access to a team that can make that happen is reassuring.

And in regards to the performance, please correct me if I'm wrong, but doesn't less volatility year to year improve returns over the long term? That's something that my portfolio aims to do. It aims to reduce volatility, which does mean when the market goes up, my portfolio might not go up as high, but it also doesn't crash as hard should the market crash. It's interesting to see in my portfolio reviews my investment mix as it would have performed over the past 15 years versus the stock market (S&P) and other benchmarks.

Great discussion as this is topic that many struggle with. Also, have you looked at the managed accounts by Fidelity or Vanguard as comparison?

Yikes. Forget the wedding and elope. Put that cash in the bank. Odds are you're gonna be divorced anyway.

Why would volatility necessarily reduce returns? Volatility is your best friend. Buy high/sell low works best under highly volatile conditions. That's why the last decade has been a boon for hedgies and those paying attention. If you're afraid of volatility, equities aren't for you.

I'm not going to say anything against people who would rather shoot lower for returns- it's definitely a safer way to plan and there is no harm in that, providing you are comfortable with duration.

I personally give 8% when others give 10% for equities. 4% for me is approaching fixed income levels- which isn't a bad thing...

What others say and what the likely reality is, are two vastly different things. The old saying "past performance is no guarantee of future performance" applies in spades. Demographics are strongly against historical stock market returns going forward. Go look at Japan and Italy (among many other developed countries) - both places where birthrate has slowed and there's an ever-increasing proportion of elderly. Japan is set to lose half it's population in the next century. Think about the implications for real estate (huge swathes of unneeded homes/apartments/office buildings) and lost business activity. Would you buy property knowing there is going to be a massive glut of property in coming decades? Are you going to invest in businesses that will suffer huge losses of customers? What will that do to stock market returns? I think it's pretty safe to say it won't be a positive - and will be in stark contrast to the significant economic growth of the 20th Century that drove high stock market returns.

The US is "better" because of lots of immigration (and newly arrived immigrants tend to have larger families). The US has a replacement rate of 2 (breakeven), but if the Tea Party is successful, immigration is going to slow significantly, just as Baby Boomers retire en masse and the US replacement rate will fall quickly as well. Italy is 1.4 (with all due deference to the religious nuts wearing dresses in the Vatican). Japan is 1.5. Almost all western countries will see population declines in the next 50 years. Any thinking person who suggests that future investors will enjoy similar historical returns as the 20th Century is simply delusional and dangerous to one's financial well being.

Of course, nobody likes to hear bad news and there are plenty who'll offer all sorts of rationalizations why the obvious won't happen. As such, assuming 8% (let alone 10%) seems irresponsible. Add in the sure-to-happen cut in Social Security and there will be huge numbers of people ill-prepared for retirement.

 

[BenT]

Yikes. Forget the wedding and elope. Put that cash in the bank. Odds are you're gonna be divorced anyway.

Thanks for the well wishes. Hope you have a great Monday too.

 

[Matt]

Thanks for the well wishes. Hope you have a great Monday too.

Ben, meet Paul... he is a diamond in the rough