Apercentage point may not seem worth worrying about. But, over time, fees on Isa funds can take a really large bite out of your investment gains.
So, if you have to choose between two equity investment funds – one that charges 1.5 per cent in annual management fees and the other 0.5 per cent – go for the cheapest. That 1 per cent difference in charges can make all the difference to the end result.
Assume that both funds achieve a typical annual return of 7 per cent. If you put £7,200 into the fund with 1.5 per cent annual charges, your money will have grown to £21,008 in 20 years' time. With the fund charging 0.5 per cent, it would grow to £25,370.
When you buy an investment fund to put in your Isa, you usually pay an initial charge, typically 5 per cent of the investment. This 'hello present' to your manager instantly reduces a £7,200 Isa to £6,840. You've paid £360 of your hard-earned cash just for the privilege of entering a fund.
This is already a significant amount, but its charges don't stop here. Every year that your investment stays in the fund you will typically pay a management fee of around 1.5 per cent of your portfolio's value. This may seem harmless, but as we saw in the above example, the 1.5 per cent annual management fee will take larger and larger amounts of money out of your pot over time.
If you have decided on a fund that you want for this year's Isa, it may seem logical to buy it direct from the issuing fund manager. After all, for most things in life, you get things cheaper by going straight to the supplier and cutting out the middleman. Strangely, though, it doesn't work like this in the investment world. It usually works out cheaper to buy through a middleman!
About 3 per cent of the standard 5 per cent initial charge on an actively managed UK fund is earmarked for intermediaries, such as independent financial advisers (IFAs), who sell the products to their clients. The intermediary also takes a slice – usually 0.5 per cent of the typical 1.5 per cent annual management charge. Many independent financial advisers use this 'trail commission' to pay for ongoing advice on your portfolio. Over time, the power of compounding can mean that you pay a significant sum for that advice. There's nothing wrong with this, provided you get high-quality advice in return.
If you invest in a fund directly, you still have to pay the 5 per cent upfront charge, plus the 1.5 per cent annual charge, even though you are not receiving any advice in return. The fund manager simply pockets any unclaimed commission. No wonder, then, that so many fund managers have hefty marketing budgets for direct sales.
That said, there are two types of Isa fund where buying directly can make sense:
■ Index tracker funds. These charge little upfront and during the Isa season of February and March, you may be able to find a provider that is offering a discount
■ Investment-trust Isas charge little or no front-end fee (some carry no annual fees either).
How to reduce fees
For people investing directly in funds, without an adviser, there are lots of ways to reduce these fees. The traditional way is to buy from discount brokers, who are also known as 'execution-only' brokers. These firms do not offer advice, but simply buy and sell funds under your instruction.
By buying unit trusts and investment trusts in bulk, discount brokers can negotiate good discounts with many fund-management houses. They offer big discounts on the fund managers' initial charges, often reducing them from 5 per cent to 1 per cent or less.
They make their money through the 0.5 per cent 'trail' commission paid on the fund each year. Some of them rebate part of this to you, too. For example, Hargreaves Lansdown says that in a portfolio worth £50,000, it saves you £125 a year via a loyalty bonus of 0.25 per cent a year. The savings you can make through a discount broker are usually converted into extra units in your fund. However, if you'd prefer a cash refund, you can ask the broker if this is possible.
Until a few years ago, buying a fund through a discount broker meant that your chosen fund manager also provided the Isa tax wrapper. However, many discount brokers now operate 'fund supermarkets', which has dramatically changed the whole process of buying and managing Isa funds.
Fund supermarkets
Fund supermarkets make life simpler for investors as the Isa tax wrapper is held and administered by the supermarket, rather than by the individual fund manager. This enables you to spread your annual £7,200 Isa allowance between different funds from different fund managers. Fund supermarkets also make it much easier to switch between funds, because there is no need to move the tax wrapper itself.
This means that there is much less paperwork for the investor. If you have several different Isas, unit trusts or shares, then the chances are you receive valuations at different points throughout the year. With a fund supermarket you just get one regular statement. You may also receive an annual tax schedule from the fund supermarket.
An important addition to the supermarket arena is re-registration, which allows you to move your existing holdings with different management groups to your supermarket. You can do so without having to sell and repurchase your holding.
Another benefit is that you can view your portfolio online 24 hours a day, seven days a week. Some fund supermarkets also provide lots of background research material and investment commentary on funds. They may also offer fund portfolio reviews and fund recommendations.
Do check the range of funds available. A big downside of some fund supermarkets is that they don't offer investment trusts, only open-ended funds such as unit trusts. One exception is Hargreaves Lansdown which sells investment trusts, shares, gilts and corporate bonds as well as unit trusts and open-ended investment companies. Certain fund supermarkets, for example Cofunds, are only available through independent financial advisers.
Fund supermarkets include:
Alliance Trust Savings: Alliance Trust has negotiated fully discounted initial charges on most funds available in the fund supermarket. For example, complete relief on a standard initial charge of 5 per cent would save you £360 if you invested the full amount of your annual £7,200 Isa subscription in funds.
It also pays back to you all the commission it receives from the fund management groups whose funds you invest in and hold on its platform. However, there are some notable gaps on Alliance's list of available funds. There are no Invesco Perpetual funds, for example. So, if you want Neil Woodford's popular Invesco Income and High Income funds then you'll have to go to another supermarket.
(www.alliancetrust.co.uk/alliancetrustsavings/fundsupermarket.htm)
Fidelity Funds Network: This is the oldest fund supermarket in the UK. It offers over 1,100 funds from more than 60 leading investment companies. It sells over 300 Isa funds which have no initial charge and the rest have a low initial charge, although annual management charges still apply. Its free re-registration service allows you to move your investments to Fidelity, free of initial charge, without leaving the market. In the unlikely event that a charge is levied by your existing provider, Fidelity will reimburse you.
(www.fidelity.co.uk/fundsnetwork/)
Hargreaves Lansdown: Offers over 2,000 funds from the major groups as well as from boutique investment houses. Providers include Artemis, Fidelity, JP Morgan, Jupiter, Invesco Perpetual, New Star, PSigma and Schroders. You can save up to 5.5 per cent on initial charges and earn loyalty bonuses of up to 0.5 per cent a year on the funds you hold. You can also transfer funds in to benefit from the loyalty bonuses. Another major advantage is the constantly updated fund research, prices and reviews.
Bestinvest: Offers over 1410 funds from over 110 fund managers. It discounts initial charges on funds, so that you won't pay a penny on entering many funds. It assesses funds using a star ratings system and has put together ready-made fund portfolios to suit different investor profiles. There is plenty of fund research on the site.
Cavendish Online: This is a discount broker that gives initial commission on Isas back to you 'wherever possible' but charges £20 to process an Isa application. It also returns all renewal commission to you, charging £10 a year for the service. It links to Fidelity's fund supermarket. If you have your Funds Network portfolio registered direct with Fidelity you can change the agency to Cavendish Online to enter into its renewal commission service. The fee for this is £20 per account.
Chelsea Financial Services: Links to Cofunds. It offers discounts on initial commissions and plenty of background research on funds, plus fund recommendations.
Financial Discounts Direct: This is a discount broker that partners with Cofunds and Financial Express for fund data.
(www.financial-discounts.co.uk).
Allenbridge: Also partners with Cofunds and Fidelity Funds Network. It offers discounts on tax-efficient venture capital trusts as well as discounts on Isas.
Supermarkets: the facts ■ Fund supermarkets were pioneered in America and were introduced to the UK investor in 2000 with the launch of Egg and Fidelity's Funds Network. Rival launches swiftly followed, including Interactive Investor International, Skandia and Virgin money. The choice has since become almost overwhelming. ■ Fund supermarkets work on the same principle as your local Tesco or Asda. They offer you a wide variety of funds from different producers from one single website. There is usually no cost for using the supermarket, although you may be charged a fee for any additional personalised financial services. ■ Because of their buying power, fund supermarkets are able to negotiate big discounts initial fees on investment funds from their suppliers, the fund managers. This saving is then passed on to their customers. |
