A:

Very simply, a trailing commission is money you pay an advisor each year that you own an investment. The purpose of the fee is to provide incentive for the advisor to review their customer's holdings and to provide advice. But when it comes down to it, it is essentially a reward for keeping you loyal to a particular fund.

So, is it fair for an advisor to get a fee simply for keeping you, the investor, loyal? Well, let's look at the situation another way:

Purchasing a Car vs. Purchasing an Investment
Suppose you bought a car, you not only paid a lot for that car, but you also have to lay out money every year for maintenance, insurance and a host of other fees. Now suppose each and every year you owned that car the salesman who originally sold you the vehicle got a cut of the annual fees that you were required to pay. Would it make you mad? After all, why should the salesman get a cut of the action given that he didn't do anything once the car left the lot? And if he didn't get it, would the fees go down for you? Well, that's how a lot of investors feel about trailing commissions.

Incidentally, fees vary depending upon the investment. However, it is not uncommon for the costs to range between 0.25% to 0.50% of the total investment per annum. That is huge! And remember that as the asset grows in value over time, it means that the advisor that initially sold the investment to you is making even more and more money.

How can you tell if you are paying a trailing commission to your advisor?

One way is to ask the advisor. If they are ethical, they'll probably answer the question in a straight-forward manner. But if you'd rather do your own homework and find out on your own, consider reading the investment prospectus. And specifically take a gander at the footnotes under the heading(s) "Management Fees'.

Trailing Commissions not always a Bad Thing
They can be bad, but that depends on how you would like to look at it. On the one hand as suggested above, it seems offensive that an advisor might receive an income in perpetuity based upon a one-time initial investment. However, paying the advisor every year keeps them loyal to you. If the advisor is being paid for how well your stock does, he or she will also be actively reviewing your account, and making constructive suggestions - making the extra fee well worth it.

To learn more about fees, see Paying Your Investment Advisor - Fees Or Commissions?

RELATED FAQS
  1. My advisor wants to sell stocks that are performing well and invest in other stocks. ...

     This happens often.  ... Read Answer >>
  2. What fees can I expect from a financial adviser?

  3. How can I prevent commissions and fees from eating up my trading profits?

    First off, understand that there is no universal system regarding trading commissions charged by brokerage firms. Some charge ... Read Answer >>
  4. Is a financial advisor allowed to pay a referral fee?

    Understand how financial advisors can legally pay a referral fee to someone for soliciting business, and learn the regulations ... Read Answer >>
  5. Do financial advisors get paid by mutual funds?

  6. How do I chose between an independent CFP and a bank & trust CFA portfolio manager?

    I need to choose between an independent, reputable, and vetted CFP who is trustworthy and a bank and trust CFA to manage ... Read Answer >>
Related Articles
  1. Personal Finance

    How to Interview Your Financial Advisor

    When it comes to choosing a financial advisor, investors have to do homework. That means interviewing multiple advisors and asking the tough questions.
  2. Investing

    6 Key Questions to Ask Your Financial Advisor in 2016

    While hiring a financial advisor is a good idea for your investments, it can be hard to know who to trust. These 6 questions will help you choose.
  3. Savings

    Will Technology Displace Human Financial Management?

    Technology is creating more tools that help individuals avoid the common financial management and money management firms.
  4. Savings

    Can You Afford a Financial Advisor?

    Don't think you can afford a financial advisor? Think again. Here's why you should reconsider hiring an advisor.
  5. Fundamental Analysis

    4 Signs It's Time to Fire Your Financial Advisor

    Financial advisors provide valuable advice, but if your advisor communicates poorly, then it may be time to fire them.
  6. Retirement

    How to Hire a Retirement Advisor

    Making a retirement plan is a demanding task. Finding the right person (or people) to do it takes care.
  7. Personal Finance

    Are Financial Advisor Fees Too High?

    Fees charged by financial advisors run the gamut. Are you getting a fair deal or paying too much?
  8. Budgeting

    Find The Right Financial Advisor

    Learn how to weed out those who are just out to make a quick buck.
  9. Personal Wealth & Private Banking

    What People Hate About Financial Advisors

    Advisors need to make a living too, but doing so by cutting corners at a client's expense isn't right. Here are the top complaints against advisors.
  10. Investing Basics

    Do You Need More Than One Financial Advisor?

    Using more than one financial advisor for money management has its pros and cons.
RELATED TERMS
  1. Investment Advisor

    As defined by the Investment Advisors Act of 1940, any person ...
  2. Advisor Fee

    The fee that is paid to a financial advisor for recommending ...
  3. Financial Adviser

    A professional who helps individuals manage their finances by ...
  4. Personal Financial Advisor

    Professionals who help individuals manage their finances by providing ...
  5. Wrap Fee

    A comprehensive charge levied by an investment manager or investment ...
  6. Exchange Fees

    A type of investment fee that some mutual funds charge to shareholders ...
Hot Definitions
  1. MACD Technical Indicator

    Moving Average Convergence Divergence (or MACD) is a trend-following momentum indicator that shows the relationship between ...
  2. Over-The-Counter - OTC

    Over-The-Counter (or OTC) is a security traded in some context other than on a formal exchange such as the NYSE, TSX, AMEX, ...
  3. Quarter - Q1, Q2, Q3, Q4

    A three-month period on a financial calendar that acts as a basis for the reporting of earnings and the paying of dividends.
  4. Weighted Average Cost Of Capital - WACC

    Weighted average cost of capital (WACC) is a calculation of a firm's cost of capital in which each category of capital is ...
  5. Basis Point (BPS)

    A unit that is equal to 1/100th of 1%, and is used to denote the change in a financial instrument. The basis point is commonly ...
  6. Sharing Economy

    An economic model in which individuals are able to borrow or rent assets owned by someone else.
Trading Center