Follow recurring charges through a transparent compounding example.
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Recurring deductions
Plain English
A deduction changes the next starting balance
A fee reduces the money remaining in an investment. When returns compound, that deduction also changes the amount exposed to later growth or losses. Understanding the timing of a charge helps explain why two fee schedules can produce different results even when a comparison assumes the same gross return.
Gross means before the costs identified in the calculation. Net means after them. These labels are incomplete unless the included costs are named: a figure net of a management fee might still exclude dealing costs, taxes or a platform charge. A percentage fee also needs a base, such as a year-end balance or an average daily balance.
The Investor.gov fee bulletin distinguishes ongoing charges from transaction costs and explains how costs affect the amount left to compound. Real products use different charging conventions. The simplified annual convention below makes the sequence explicit so the arithmetic can be followed without assuming it describes every product.
Worked Example
Growth first, then the annual charge
Start two hypothetical accounts with £1,000 each. Assume each earns exactly 5% gross every year for ten years. One charges 0.25% annually and the other 1%. Deduct the fee once at the end of each year, after that year’s growth, from the full resulting balance. Assume no other costs, taxes, contributions or withdrawals.
In year one, both balances grow to £1,050 before fees. The 0.25% charge is £2.625, leaving £1,047.375. The 1% charge is £10.50, leaving £1,039.50. Retain full precision in the model between years; amounts shown in the table are rounded to pennies only for display.
Repeat the same operation ten times. Multiplying by 1.05 and then by one minus the fee rate gives the annual net growth factor. The lower-fee balance reaches £1,588.63; the higher-fee balance reaches £1,473.14. Their difference is £115.48 when calculated before rounding the displayed balances.
Formula
Ending balance equals one thousand times the quantity one point zero five times one minus f, raised to ten
Annual fee as a decimal: 0.0025 or 0.01.
The fee is charged after each year’s assumed 5% gross growth.
Year 1, after 0.25% fee
£1,047.38
Year 1, after 1% fee
£1,039.50
Year 10, after 0.25% fees
£1,588.63
Year 10, after 1% fees
£1,473.14
Difference after ten years
£115.48
Reading the result
The difference includes later compounding
The final gap is not simply the sum of an identical annual cash charge. Fees are calculated on changing balances. Money removed earlier also participates in no subsequent growth in this model. The result combines the deductions themselves with their effect on the balances used in later years.
Under this convention, the annual net changes are 4.7375% and 3.95%. Subtracting 0.25 or 1 percentage point from 5% would give slightly different figures because it would ignore that the charge follows growth. That distinction is small here, but stating the convention prevents a neat-looking formula from answering a different question.
Limits and assumptions
A cost comparison answers one question
A constant positive return is a deliberate simplification, not a description of how markets behave. Real balances fluctuate, charges may accrue daily, and some costs are fixed amounts rather than percentages. Entry charges, exit charges, trading spreads and taxes can change the comparison. The same headline annual percentage need not imply the same total cost.
Lower fees alone do not establish whether an investment is suitable. Different products can provide different exposures, risks, services or access conditions. A fair comparison explains both what is being held constant and what differs. Here all features except the annual fee are identical by assumption; the example does not rank real products or recommend an account.
The model also separates the timing of fees from the timing of reported performance. If an account statement already reports a return after the same fee, deducting it again would double-count the charge. Before combining figures from different documents, establish what each return includes and which balance each stated fee uses.
Common Mistake
Counting the fee only once
A ten-year comparison can go wrong by subtracting ten times the fee percentage from a final gross balance. That misses when each deduction occurred and the balance on which it was charged. Writing a single year’s sequence first, then repeating it, keeps the model transparent. It also makes excluded costs easier to identify before interpreting the result.
Self-check
Check your understanding
Why is the first 0.25% fee £2.625?
It applies to £1,050 after the assumed growth, not to the opening £1,000.
Is £115.48 simply the total difference in fees paid?
No. It also includes the effect of earlier deductions on later compounding under the assumed returns.
Does the lower-fee result identify a suitable investment?
No. The comparison holds all other features constant and says nothing about suitability, differing risks or services.
Continue learning
Connect the ideas
Follow the related articles below to explore the assumptions behind this example.
Disclaimer
Educational Use Only
This article is for informational and educational purposes only. It does not provide personalised investment advice.
