Wrap Fee

What Is a Wrap Fee?

The term wrap fee refers to a comprehensive charge levied by an investment manager or investment advisor to a client for providing a bundle of services. These services may include investment advice, investment research, and brokerage services. Wrap fees allow an investment professional to charge one straightforward fee rather than imposing multiple charges on their clients. By doing so, they are able to simplify the process for both themselves and their customers. Wrap fees apply to all-inclusive accounts called wrap accounts.

Understanding Wrap Fees

A wrap account is a comprehensive investment option that bundles different securities and funds together into a single portfolio. It includes retirement and non-retirement assets and is managed by an investment manager or investment advisor. Wrap accounts are ideal for investors who want the flexibility of choosing their investments while allowing a professional to manage their portfolio. These accounts help simplify the investment process, which is why they come with one, comprehensive fee called a wrap fee.

Paying a wrap fee can be a great option for investors who intend to use their broker's full line of services because it pays for all the direct services the customer receives. The wrap fee includes charges like commissions, trading fees, advising fees, and other investment expenses. The fee also covers the administrative costs incurred by investment firms, which tend to be a full-service brokerage or affiliated or unaffiliated broker-dealer firms.

Wrap fees are set up to be a percentage of the assets under management (AUM). This amount ranges from 1% to 3%. Because of the high cost, investors should decide how cost-effective a wrap account is for their financial situation. Investors with simple needs or for those who can't afford a wrap account may find it cheaper to pay an investment professional for individual services in an unbundled arrangement.

Special Considerations

Wrap fee programs can have a variety of names, such as asset allocation programs, investment management programs, asset management programs, separately managed accounts, and mini-accounts. Whatever the name, this type of account can be subject to additional disclosure under Rule 204-3(f) of the Investment Advisers Act of 1940. This rule defines a wrap fee as a “program under which any client is charged a specified fee or fees not based directly on transactions in a client’s account for investment advisory services (which may include portfolio management or advice concerning the selection of other advisers) and execution of client transactions.”

In December 2017, the Securities and Exchange Commission (SEC) released an investor bulletin that provides basic information about wrap fee programs and some questions to consider asking an investment advisor before choosing to open an account in a wrap fee program.  

Advantages and Disadvantages of Wrap Fees

Wrap fees provide some sense of predictability in that they're charged at regular intervals, either quarterly or annually. And because wrap fees are comprehensive, brokers don't have to make excessive trades in order to earn a commission. It helps keep unscrupulous brokers at bay who constantly make changes to their clients' portfolios just to make a buck.

Investors who can't afford wrap fees and those who prefer a passive buy and hold strategy may be better off with individual investments.

Having said that, wrap accounts aren't for everyone. That's because the associated fees can be fairly expensive and can quickly erode returns. As mentioned above, wrap accounts may charge anywhere between 1% to 3% of the total assets under management — a pretty hefty price tag, especially for investors with a small nest egg. People who can't afford wrap fees and those who prefer a passive buy and hold strategy may be better off with individual investments. Furthermore, investors with wrap accounts may be on the hook for additional fees, such as a mutual fund with an expense ratio.