There Ain't No Such Thing As A Free Lunch: Understanding Financial Consulting Costs

The Landscape of Financial Consulting in Germany

At the time of writing this, there are a total of 41,050 financial consultants and brokers registered in Germany. Of these, only 331 are independent consultants (34h Honorar-Finanzanlagenberater). You read that right—331. That’s around 0.8%. By the way, I'm one of the 323 :)

The other 99.2% are brokers (34f Finanzanlagenvermittler).

Why Does It Matter?

Understanding the difference between brokers and independent consultants is crucial. Brokers do not charge you directly for their advice. Instead, they earn commissions from insurance companies and investment firms for the products they sell.

Don’t get me wrong; I’m not saying all brokers are dishonest. However, to make a living, they rely on these commissions. This means that insurance companies must charge extra fees to cover those commissions. Ultimately, you end up paying for it.

Money flow in financial brokering

As always, If you’re not paying for it, you’re the product.

The Hidden Costs of Private Pension Plans

Let’s consider an example. Imagine you are starting a private pension plan with monthly deposits of 500€, running for 30 years before you retire.

First, there’s a one-time cost, typically between 2.5% and 5% of the total planned deposits throughout the saving phase. To be conservative, let's go with 2.5%. In our case, that means: 30 years, 12 monthly deposits of 500€ = 180,000€ x 2.5% = 4,500€.

Yes, it costs you 4,500€ just to sign the contract. Again, If you’re not paying for it, you’re the product.

Ongoing Costs to Consider

Then, there are ongoing costs, which might include some or all of the following:

• A percentage of every deposit. This can be up to 10%. In this case, when you deposit 100€, only 90€ are invested into your private pension plan. However, in some cases, this type of cost is waived.

• A percentage of the total accumulated amount. These so-called "management fees" are charged regardless of whether further deposits are made, and usually also in the payout phase, i.e., after you've retired.

• Fixed annual costs in the range of a low double-digit amount (30-60€).

• Fund or ETF costs—these always have to be taken into account and are charged by the funds of ETFs, typically up to 0.1-0.5%.

  
  

Comparing Costs Across Providers

To make things more complicated, the specific costs vary significantly from one provider to another. They are set individually based on your circumstances (duration, monthly deposits, additional coverage, etc.), so there isn't a single "best" solution.

To compare this product to other alternatives, we need to look at the total of all the above-mentioned costs throughout the contract duration. As mentioned, they vary significantly from client to client.

Let’s take an example of a plan I recently came across, which was one of the best I’ve seen so far. The total costs were 1.11% per year throughout the plan's lifetime.

In simple terms, this means your net return will be 1.11% lower than whatever the actual return of your investment will be.

If we conservatively assume a market return of 7%, your net return will be only 5.89%. This might not seem like a big difference, but when looking at the entire 30-year period, the difference is huge.

The Impact of Costs on Your Savings

With this private pension plan, at the end of the 30-year savings phase, you’ll have 479,979€.

Now, if you simply opted for low-cost ETFs, costing you 0.2% per year, under the same conditions and with the same monthly deposits, you’d have 566,711€.

That’s almost a 90,000€ difference, and this is the real cost of such a plan.

Understanding the Complexity of Contracts

This is the real cost of this so-called "free" consulting.

One more thing to consider, beyond the numbers themselves: every such plan comes with dozens of pages of terms and conditions. These documents are filled with limitations, conditions, and clauses like "in case of" and "might be that...".

These contracts are not easy to understand, and it’s not by chance; they are designed that way. Investing always comes with a risk, but are you willing to add another layer of risk in the form of contractual complexities that you only discover 30 years later?

Additional Factors to Consider

All of this is really just the basics. When looking to fully compare the alternatives, there are a couple of additional factors that must be considered:

• What happens after you retire? What are your options in each case?

• What happens if you leave Germany?

• What about certain tax benefits in each case?

• What happens with the accumulated capital after you pass away?

  
  

Conclusion

In conclusion, understanding the costs associated with financial consulting and private pension plans is vital. The phrase "If you’re not paying for it, you’re the product" rings true in this context.

Here's part 2, where we will delve deeper into these topics and explore the various options available to you.