The cost of investing: 8 fees and charges investors should know

Many investors will be investing in funds – either intentionally with a self-managed ISA or SIPP or through their appointed workplace pension scheme. However, it’s not always clear what fees are involved.

It’s essential to understand how fees and charges work when you're investing. Although most fees are small compared to the overall size of an investment portfolio, they can eat into your returns, so being informed can help you make better investment decisions and potentially preserve more of your gains.

Essentially, if you’re able to minimise fees, you can keep more of your investment returns to yourself!

Below is a breakdown of where investment fees come from, the eight main fees investors in the UK are likely to come across, and some examples of how these work in practice.

Who charges investment fees?

There are a few different entities which may charge you to invest - your investment platform, your fund provider, and your fund manager. Let's quickly recap on what these are and where they fit into your investing journey.

Let's imagine you're looking to invest in a fund. You do some research and decide to open a tax-efficient ISA with Hargreaves Lansdown, a well-known investment platform (other platforms are available - check them out here).

You create an ISA account on their website, which allows you to buy and sell various investment products, including funds, shares, and even bonds.

You like the idea of investing in a fund managed by BlackRock, one of the largest fund providers in the world. BlackRock offers a range of investment products and employs a team of expert fund managers who oversee the performance of these funds.

You use your Hargreaves Lansdown ISA to invest in a BlackRock fund.

These definitions are not mutually exclusive, however. For example, if you set up an ISA with AJ Bell and then used this account to invest in an AJ Bell fund, AJ Bell would be your investment platform, your fund provider and your fund manager.

Out of these entities, you're most likely to encounter fees charged by your fund manager - for the cost of managing your chosen investment - and your investment platform - for the service of setting up and handling your account. Let's dig a little deeper into what specific fees you may come across for each.

Fund manager fees

These are the fees that come directly from your fund manager - i.e. the specific team that runs the product you're investing in.

1. Ongoing Charges Figure (OCF)

The OCF represents the annual cost of managing the fund. It includes management fees, administrative expenses, and most other operational costs. This fee is deducted from the fund’s value, meaning you won’t see a direct charge, but will notice its effect on your returns.

Active funds, which are managed by professionals trying to outperform the market, usually have higher OCFs (1%-2.5%) because of their research and trading costs. On the other hand, passive funds - such as index funds or most ETFs - often have lower OCFs (0.1%-0.75%), as they simply track a market index without requiring frequent intervention.

2. Performance Fees

Performance fees are charged by some actively managed funds if the fund exceeds a predetermined benchmark or exceeds a specific rate of return. In other words, this fee is a reward for the fund manager’s success in outperforming the market.

While performance fees may help to incentivise fund managers to achieve the greatest possible returns, you could argue that they can also inevitably encourage managers to take excessive risks to maximise short-term gains and earn higher fees as a result. Therefore, for beginner or less confident investors, it’s typically a good idea to focus on funds with low or no performance fees – especially if their track record doesn’t justify the added expense.

3. Transaction Fees

Some costs, such as trading expenses incurred by the fund manager when buying and selling assets within the fund, are less visible. These transaction fees are usually included in the OCF, but they can vary significantly depending on the fund’s trading strategy.

Funds with lower turnover tend to have lower hidden costs. Passive funds like ETFs often have minimal trading activity, making them a cost-efficient option for long-term investors who don’t mind sitting and watching their returns compound over time.

4. Initial Charge (Entry Fee)

The initial charge or entry fee is a one-off fee you may have to pay when you first invest in a fund. This fee, typically expressed as a percentage of your investment, is meant to cover the fund provider’s* costs for handling your money.

*Your fund provider is the firm that offers the fund you're investing in. Your fund manager is the specific team within the provider that operates your chosen fund.

Initial charges used to be more commonplace, but they have become less prevalent in recent years due to the rise of low-cost investment platforms. Most platforms now waive this fee for many funds, making it easier than ever for you to get started without losing a chunk of your capital upfront.

Investment platform fees

These are the fees that come from the platform you're investing with - i.e. the company that runs the ISA/SIPP/etc account you use to invest.

1. Platform Fees (Account Fee)

Platform fees, or account fees, are among the most common charges investors come across. These are the fees you pay to a platform for providing access to funds, managing your account, and offering tools like research and portfolio tracking– basically, it’s the charge for using their service. This fee can be based on a percentage of your portfolio value or charged as a flat fee.

Popular investment platforms like Hargreaves Lansdown, interactive investor, and Vanguard have different pricing structures. For smaller portfolios, percentage-based fees may be more economical. Conversely, flat-fee platforms often become cost-effective as your portfolio grows. Comparing platforms carefully is crucial to minimise these costs.

2. Dealing Fees

Dealing fees are another common one. These are charges you incur when you buy, sell, or switch funds. Some platforms offer commission-free trades, especially if you set up regular monthly contributions, but others may charge per transaction.

Keen investors trading regularly or making monthly contributions should consider platforms with no dealing fees for regular investments.

3. Platform Currency Conversion Fees

Platform currency conversion fees may apply when investing in funds denominated in foreign currencies, such as US dollar or euro funds. These fees are charged by platforms for converting your GBP into the required currency and vice versa when you sell.

Currency fees can add up over time, especially for regular investors in international funds. They tend to range from 0.15-1.25%, depending on the platform. Additionally, exchange rate fluctuations can impact your returns, so be mindful of both the fees and risks associated with foreign investments.

4. Exit Fees

Exit fees are, unsurprisingly, imposed when you sell your investments or transfer them to another provider. While many modern platforms have eliminated exit fees altogether, some legacy providers may still charge them.

Always review the Ts & Cs of a platform before investing. If you anticipate needing to access your funds or transfer them to another provider, choosing a provider with no exit fees could save you money (and a headache!).

How fees impact your investment returns

Even seemingly small fees can significantly reduce your long-term returns due to compounding.

Minimising investment fees leaves more of your money in the market and working for you - highlighting the importance of choosing low-cost funds and platforms to preserve your wealth.

The main charges for UK investors to watch out for include initial charges, OCFs, performance fees, platform fees, transaction costs and exit fees – and of course any hidden fees which could be chipping away at your returns.

To minimise fees, consider:

• Opting for low-cost funds or investments, such as index funds or ETFs

• Using platforms with competitive charges that suit your portfolio size

• Review the Key Investor Information Document (KIID) for each fund you invest in to understand the fees involved (you can usually find this by Googling the name of your fund)

By staying informed, you can make cost-effective decisions, preserve your returns, and build wealth more efficiently over the long term!