The advantage of tiering your advisory fees 

Theres nothing like a bear market to illuminate the superiority of a multifaceted pricing structure for advisory firms.  

When markets are rising, advisers love the AUM fee model. Revenues rise without having to provide any additional services, or even market to add new clients, while the workload typically remains manageable because the bulk of clients are happy with their statements.

But its clearly a different picture when markets begin to decline, as revenues fall while the needs of clients exponentially increase.

For most advisers, its extremely difficult to adjust costs during a down market because a vast majority of a firms expenses are related to labor. Reducing a firms head count when client demands are skyrocketing isnt a winning business strategy.

Those advisers who have either a tiered fee schedule or an annual retainer, or both, hold up dramatically better during rough markets.

Consider the following: Adviser A charges a client with $2 million in assets under management a flat fee of 75 basis points per annum, or $15,000 per year.

Adviser B also earns $15,000 each year for her client with $2 million in assets, but she structures it a bit differently from Adviser A. Rather than a flat fee, her fees are based on a grid schedule that charges 1.5% for the first $250,000 managed, 1% on the next $250,000 she manages, and .60% on the final $1.5 million.

The total fee for Adviser Bs client of is $15,250, which is nearly the same revenue that Adviser A is earning for a similar $2 million client.

But what happens to the fees when the market tanks and the assets under management fall by 20%?

Adviser A sees his fees decline to $12,000, or 20% below his original fee, while Adviser B sees her fees decline to $12,850, or 16% below her original fees.

As you can see, the adviser with the tiered fee schedule takes less of a revenue hit when the markets fall.

Now, multiply the above 4% differential in revenue by, say, 100 different clients with $2 million in AUM, and Adviser B is earning $85,000 more in revenue than Adviser A.

[More: Asset-based advisory fees stuck between inflation and a hard place]

Advisers who have more than one revenue source fare even better during bear markets. Consider the above example with an adviser who charges an annual retainer that is not tied to AUM, or an adviser who charges a combination of both an annual retainer and an AUM fee?

Admittedly, now that were in the middle of a storm, its certainly not the best time to institute a new fee schedule with existing clients. After all, its obviously very difficult to ask a client for more money while their assets are down in value. However, looking forward, this is an excellent time to reevaluate how to bill new clients that you bring on in the future.

[More: Is your custodian or IBD holding you back?]

Scott Hanson is co-founder of Allworth Financial, formerly Hanson McClain Advisors, a fee-based RIA with $15 billion in AUM.