24 – Advantages and disadvantages of project fees

Advantages

In many ways, the fixed or flat nature of project fees allows advisers to access many of the advantages of both time based and asset based fees.

Clients for whom little work is required will not generate large fees under time-based billing.  This is the case regardless of how many assets they have or the size of their insurance needs. A client may simultaneously have large assets and little need for the adviser’s time. Charging a project fee may allow the adviser to be better remunerated without using an FUM-based fee – something that might be difficult if the asset base does not lend itself to an FUM-based fee (for example, if the assets are largely property or cash-based). In terms of life insurance, a client may have a complex presentation but a relatively low premium (and subsequent commission). A project-based fee, perhaps combined with a rebate of any commissions received, can work well here. 

Another advantage is that the adviser can exercise greater discretion regarding their fee before doing any work. The adviser decides how much they require in order to do their work, and the client can agree or disagree with that. This is probably the most ‘market-like’ of the three main forms of pricing: buyer and seller simply agree on a price. The seller (the adviser) can seek to have as high a fee as possible. He or she is limited, of course, by the maximum price that the buyer is willing to pay. On the other side, the buyer (the client) can seek as low a fee as possible. He or she is limited by not being able to ‘go below’ the minimum price that the adviser is prepared to work for. 

Fixed fees are not affected by fluctuations in asset levels. So, if asset levels fall, the fee need not. Assets can fall due to investment conditions (share markets generally tend to have around three negative years in ten), or the client can decide to redeploy assets elsewhere. Either way, an adviser using an asset-based fee model will generate fewer fees; the adviser using the fixed fee model can retain their revenue base.

Both the client and the adviser know what the fee is going to be. Where the fee is ongoing, such as a set fee per month, this allows the business to plan its future revenue streams. This can be help the practice maximum any sale price: ongoing future revenue is the name of the game when it comes to maximising the sale price.  

Disadvantages of project fees

Fixed fees can be of advantage in falling assets markets. On the flip side, of course, unlike FUM-based fees, fixed fees will not increase automatically in rising markets. On average, equities markets tend to rise in six or seven out of every ten years. This makes equity investments more likely to rise than fall over the medium to long term. FUM-based fees rise automatically with them.

This disadvantage can, of course, be mitigated by regularly reviewing the fixed fee for a client. For example, the fixed fee period might be set at 12 months. After 12 months, everything is reviewed and the adviser and client can renegotiate. 

Project fees, given they are regularly negotiated with and communicated directly to clients, can focus the client’s mind on the cost of their advice. This can create difficulties, especially if the client’s financial situation has not improved or their objectives have been met.

Project fees may also allow competitors to more easily undercut your fee. This is also a risk with FUM-based fees, and advisers using time-based fees can often use some sleight of hand – for example, comparing the hourly rate they charge to the annual fee you charge. “What would you prefer to pay: $4,000 a year or $250 an hour?” 

The way to get around these disadvantages, of course, is to give your clients a really good experience. People who believe they are getting good value for money will be happy to pay. If they are not happy to pay, then they were only a temporary client, anyway.

The Dover Group