What Are Fiduciary Fees and How Do They Work?

A fiduciary is an individual or organization legally bound to act on behalf of another person and prioritize their client’s interests. For these services, a fiduciary is paid a fee to compensate them for their expertise, time, and legal duties. The structure and amount of these fees vary depending on the fiduciary’s role and the complexity of the tasks performed.

Common Fiduciary Roles and Associated Fees

A trustee is responsible for managing assets held within a trust for its beneficiaries. Compensation is calculated as a percentage of the assets under management (AUM), often on a sliding scale. For instance, a trustee might charge 1.0% on the first million dollars and a lower percentage on amounts above that. The fee is paid directly from the trust’s assets.

An executor or administrator of an estate settles a deceased person’s affairs, which includes inventorying assets, paying debts, and distributing property to heirs. Compensation for an executor is either set by state law through a specific fee schedule, known as statutory fees, or is based on the estate’s complexity and size.

An agent acting under a power of attorney makes financial or healthcare decisions for another person, the principal. While a family member serving as an agent may not take a fee, a professional agent like an attorney is compensated for their services. This is often at an hourly rate.

Fiduciary financial advisors are compensated through fees rather than commissions to align their interests with their client’s. The most common method is a fee based on a percentage of the assets they manage. This structure means the advisor’s compensation grows as the client’s portfolio does.

Methods for Calculating Fiduciary Compensation

The percentage-based fee is a common method for trustees and financial advisors. This fee is calculated by applying a set percentage to the total value of the assets under management (AUM). The specific value used for this calculation might be based on the asset value at the beginning of the year, the end of the year, or an average value. For example, a 1% annual fee on a portfolio valued at $1 million would result in a $10,000 fee.

Professional fiduciaries, such as attorneys or accountants, often charge hourly rates for their services. This method is common for agents under a power of attorney or for specific, complex tasks within an estate or trust administration. The fiduciary tracks their time, and the hourly rate itself can depend on the professional’s expertise, geographic location, and the nature of the work.

A flat fee may be used for well-defined tasks where the scope of work is clear from the outset. For example, an executor might engage an attorney for a flat fee to handle a specific part of the estate settlement process, such as preparing and filing the initial estate inventory. This approach provides certainty for both the estate and the professional regarding the cost of the service.

Statutory fees are set by law in certain jurisdictions for compensating executors or administrators of estates. These laws establish a formula for calculating the fee, which is a tiered system of percentages applied to the value of the estate. For example, a statute might allow for a 4% fee on the first $100,000 of the estate’s value, 3% on the next $300,000, and 2% on amounts above that.

The Standard of Reasonableness for Fees

Regardless of the calculation method, a legal principle dictates that all fiduciary fees must be “reasonable.” This standard acts as a safeguard for beneficiaries and principals, ensuring that the compensation paid is fair and justifiable. Courts and beneficiaries evaluate the reasonableness of a fee by considering a variety of factors related to the context and quality of the services provided.

Some of the factors considered when determining if a fee is reasonable include:

• The complexity of the issues handled. An estate with complicated business assets, international property, or legal disputes justifies a higher fee than a simple estate.
• The skill and experience of the fiduciary. A seasoned professional with specialized knowledge is expected to provide a higher level of service.
• The amount of time and labor required to fulfill the duties, including the intensity and difficulty of the work performed.
• The overall size of the trust or estate, as a larger pool of assets corresponds to a greater level of responsibility and potential liability.
• Customary fees for similar fiduciary services within the same geographic area, which establishes a benchmark for market rates.
• The results obtained by the fiduciary. Successfully navigating challenges and enhancing the value of the assets can support the fee’s reasonableness.

Tax Treatment of Fiduciary Fees

The tax implications of fiduciary fees are an important consideration for both the entity paying the fee and the individual receiving it. For estates and non-grantor trusts, fiduciary fees are generally deductible on the entity’s income tax return. This deduction reduces the estate’s or trust’s taxable income.

This deduction for fiduciary fees directly impacts the beneficiaries. By lowering the entity’s taxable income, the deduction can also reduce what is known as distributable net income (DNI). Since beneficiaries are taxed on the income they receive from the trust or estate, a lower DNI can result in a smaller tax liability for them.

The tax treatment is different for individuals who pay fiduciary fees directly, for instance, for investment advice. The Tax Cuts and Jobs Act of 2017 (TCJA) suspended miscellaneous itemized deductions for tax years 2018 through 2025. This means most individuals can no longer deduct these types of fees on their personal tax returns during this period.

For the fiduciary who receives the fee, the compensation is always considered taxable income. Whether this income is also subject to self-employment taxes depends on the fiduciary’s circumstances. Professional fiduciaries, who offer their services as a trade or business, will pay self-employment taxes on their fees. In contrast, a person serving as a fiduciary in an isolated case, such as a family member acting as an executor, is not considered to be in a trade or business and the fee is not subject to self-employment tax.