How Robo-Advisors Work and What They Charge

Robo-advisors promised to make professional-style investing available to anyone with a phone and a few dollars. Answer some questions, link a bank account, and an algorithm builds and manages a diversified portfolio for you. No meetings, no stock picking, and usually lower fees than a traditional advisor.

But “lower fees” can mean very different things depending on how a service charges and how much you invest. A flat monthly fee that looks tiny can be expensive on a small balance. A “no advisory fee” service can still have costs that show up elsewhere. This guide explains how robo-advisors work behind the scenes, the fee models you’ll see, and how to calculate what you’ll actually pay.

This is educational information, not a recommendation to use any particular service or investment.

What a robo-advisor is

A robo-advisor is an automated investment service that uses software to recommend and manage a portfolio. Most in the US are registered investment advisers with the SEC, which means they owe clients a fiduciary duty and must file disclosure documents you can read.

There’s no single legal definition of what a robo-advisor does. FINRA has noted that the term covers a range of tools, from client profiling and portfolio selection to rebalancing and tax-loss harvesting. Some services are fully automated. Others are “hybrid,” combining automated management with access to human financial planners for a higher fee.

Well-known examples include standalone services such as Betterment and Wealthfront, and automated offerings from large brokerages such as Schwab, Fidelity and Vanguard. Mentioning them here isn’t an endorsement; features and pricing change, so check each firm’s current disclosures.

How robo-advisors work, step by step

1. The questionnaire

You answer questions about your age, income, goals, time horizon and how you’d react to market drops. The SEC has encouraged investors to consider what information a robo-adviser uses to form its recommendations, because a short questionnaire may not capture your full financial picture. FINRA has also warned that automated tools may not assess all of your circumstances, such as your tax situation.

2. Portfolio construction

Based on your answers, the algorithm assigns you a target mix of assets, typically low-cost exchange-traded funds (ETFs) covering US stocks, international stocks and bonds. More aggressive profiles hold more stocks; more conservative ones hold more bonds or cash. Many services use variations of modern portfolio theory, which aims to balance expected return against risk through diversification.

3. Automatic rebalancing

Over time, market moves pull your portfolio away from its targets. If stocks rise sharply, you might end up with more stock exposure than you signed up for. Robo-advisors rebalance automatically, either on a schedule or when an allocation drifts past a set threshold. FINRA notes that rebalancing can involve buying and selling, which can create taxable capital gains in taxable accounts, so good services try to minimize the tax impact, often by directing new deposits and dividends toward underweight assets first.

4. Tax-loss harvesting (in some services)

In taxable accounts, some robo-advisors sell investments that have dropped in value to realize a loss, then buy a similar but not “substantially identical” fund. The loss can offset capital gains and, within IRS limits, some ordinary income. The IRS wash sale rule disallows the loss if you buy a substantially identical security within 30 days before or after the sale, and that rule looks across your accounts, including ones held elsewhere. FINRA has noted that harvesting in one account without considering a household’s other accounts can produce losses that aren’t usable.

5. Ongoing management

You can usually set recurring deposits, change goals and see projections in the app. Many services also offer goal-based “buckets,” cash management accounts and retirement account options such as IRAs.

Key takeaway: A robo-advisor automates 3 jobs: choosing a diversified mix, keeping it on target through rebalancing and, in some cases, harvesting tax losses. What you pay for those jobs depends on the fee model and the funds inside your portfolio.

The 3 common robo-advisor fee models

Robo-advisor pricing usually falls into one of these models. Many services also mix them by account size or service tier.

Asset-based fees

The traditional model. You pay a percentage of the assets under management (AUM) each year. Robo-advisors’ asset-based fees are typically a fraction of what many traditional human advisors charge, but fees vary by firm and tier, so check each firm’s current pricing.

Subscription fees

The SEC has published an investor bulletin on subscription-based advisory fees, describing set, recurring fees, often monthly. Its examples include charges like $3, $5 or $10 per month. The key point is that a flat fee is a bigger share of a small account. A $5 monthly fee is $60 per year, which is 2% of a $3,000 balance but only 0.12% of a $50,000 balance.

No advisory fee

Some robo-advisors charge no management fee at all. In those cases, read the disclosures to see how the firm earns revenue. For example, Schwab says it doesn’t charge an advisory fee for Schwab Intelligent Portfolios in part because of revenue Schwab Bank earns on the portfolio’s cash allocation, and that affiliates earn fees from managing Schwab ETFs held in the portfolios. Holding more cash can mean lower long-term returns than a fully invested portfolio, depending on markets. That isn’t necessarily bad, but it’s a cost to understand.

The costs you don’t see on the pricing page

The advisory fee is only part of your cost. The SEC’s robo-adviser bulletin warns that even if the advice itself is low-cost, using high-cost investment products can still make your overall costs high.

Look for:

• Fund expense ratios: Every ETF or mutual fund charges an annual operating expense, taken out of the fund’s returns. Robo portfolios usually use low-cost index funds, but ratios vary.
• Cash drag: Some portfolios hold a portion in cash, which may earn less than stocks or bonds over time.
• Account fees: Transfer-out, account closing or paper statement fees.
• Premium features: Planning sessions, advanced tax features or specialized portfolios may cost extra.
• Taxes: Rebalancing in taxable accounts can create capital gains.

How to calculate your total cost

Add the advisory fee and the weighted average fund expense ratio. Here’s an illustration with hypothetical numbers on a $50,000 portfolio:

These are examples, not quotes from any firm. FINRA points out that small fee differences compound into large sums over decades, because fees reduce the balance that would otherwise keep growing. That’s why total cost matters more than the headline number.

Where to find the real fees

Every SEC-registered adviser must provide 2 key documents, and they’re free to read:

1. Form CRS (client relationship summary): A short plain-English summary of services, fees, conflicts of interest and disciplinary history.
2. Form ADV Part 2A (the brochure): The detailed version. The SEC points investors to Items 4 and 5 for services and fees.

You can find both on the SEC’s Investment Adviser Public Disclosure site or on Investor.gov. You can also check whether the adviser or its representatives have any disciplinary history through FINRA BrokerCheck.

Where to start: questions to ask before you sign up

1. What’s the advisory fee, and does it change with my balance or plan?
2. What are the expense ratios of the funds I’ll hold?
3. Does the portfolio hold cash, and how much? How is the firm paid on it?
4. How often does it rebalance, and how does it handle taxes?
5. Is tax-loss harvesting available, and how does it account for my other accounts?
6. Can I get advice from a human planner, and what does that cost?
7. What fees apply if I leave or transfer out?
8. What do Form CRS and Form ADV say about conflicts of interest?

If you’d rather pick your own investments, our guide on how to open a brokerage account online walks you through the setup. For context on how AI and automation are changing financial services more broadly, see AI in banking and finance and embedded finance and real-time payments. And be wary of anyone online pitching “AI trading bots” with guaranteed returns, a common hook in pig butchering scams.

The bottom line

Robo-advisors automate diversification, rebalancing and sometimes tax-loss harvesting, typically for less than a traditional advisor. The right comparison isn’t the advertised fee alone but the total cost: the advisory fee plus fund expenses, cash allocations and any extra charges, measured against your balance. Read the Form CRS before you invest, and make sure the service’s approach fits your goals.

This is general information, not financial or investment advice. We are not licensed financial advisors.

Sources

• SEC Investor.gov: Investor Bulletin: Robo-Advisers — what to consider, fees and costs, Form ADV
• SEC Investor.gov: Subscription-based Advisory Fees: Investor Bulletin — flat fee examples, Form CRS and Form ADV Items 4 and 5
• FINRA: Report on Digital Investment Advice — no standard definition, rebalancing tax effects, tax-loss harvesting limits
• FINRA: Investor Alert: Automated Investment Tools — limits of automated tools and fee review
• Schwab: About Schwab Intelligent Portfolios (FAQs) — example of a no-advisory-fee model and cash allocation revenue
• IRS Publication 550, Investment Income and Expenses — wash sale rule