A huge shift is underway, with the client in mind.
A wave of change is transforming the financial services profession. The shift has been gradual, but noticeable. Increasingly, financial professionals are choosing to be compensated, partly or wholly, through fees rather than through commissions.
This is a real change from the old status quo. In the days before the Internet and gourmet coffee on every corner, compensation usually resulted from product sales. A client opened up an investment, and the broker who “sold” that investment received a commission as an outcome.
The more informed an investor was, the more he or she tended to be cynical about this arrangement. It was all too easy for a client to regard the registered representative on the other side of the table as a salesperson, rather than a consultant or an advisor.
The presence of commissions also raised the potential for conflicts of interest. While ethical standards demanded that the representative suggest or present investments suitable for the client, certain suitable investments could mean a larger commission for the representative than others.
Before going further, it must be noted that this is not as simple as “fees good, commissions bad.” In some cases, an investor may be better served when a financial professional is compensated largely through commissions, or a mix of fees and commissions. In terms of services rendered, that kind of arrangement may be more cost-effective for the client.
On the whole, though, the profession is moving toward a fee-based business model. In this compensation structure, a representative is paid mostly in fees that equal a small percentage of client assets under management. In addition, he or she may charge hourly or per-project fees.
A new retirement account rule is encouraging the shift. The Department of Labor is implementing a fiduciary standard for financial professionals who consult IRA owners or participants in workplace retirement plans. Beginning in 2017 (2018, for IRAs), financial professionals and their firms will be asked to commit to that standard (with certain exceptions).1
Many fee-only and fee-based financial practitioners already abide by a fiduciary standard. Registered Investment Advisors (RIAs) and others who work under this standard have an ethical and legal obligation to put the client’s interests ahead of their own.2
For decades, many registered representatives have made thoughtful and conscientious investment recommendations under the suitability standard, by which any suggested investment must be suitable for a client’s needs and objectives. It is no longer an argument of which standard is better, however; the Department of Labor will soon require fiduciary care for all retirement accounts.
Many more financial professionals could soon be fee-based. A small percentage are actually fee-only now, meaning that they earn 100% of their income in fees. The DoL rule change is helping to push the industry in this direction, as well as a priority on client relationships.
Decades ago, an inherent problem plagued the traditional, commission-driven brokerage compensation model: the broker did not profit unless the client bought something. That reality affected the client relationship. Even now, traces of this longstanding structural problem linger.
In a fee-based or fee-only relationship, the emphasis is on financial guidance and investment management rather than product sales. Investment management fees are typically based on account values, and both the client and the financial practitioner want the account to grow. Their interests are closely aligned; they can see each other as partners in the effort to build and sustain the client’s invested assets under management.
This business is relationship-oriented; it must be for mutual success. Increasingly, financial services industry professionals are operating fee-based or fee-only practices with the goal of enhancing existing client relationships and forging new ones.
This material was prepared by MarketingPro, Inc., and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note – investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.
1 – money.usnews.com/money/blogs/planning-to-retire/articles/2016-04-08/the-new-retirement-account-fiduciary-standard [4/8/16]
2 – forbes.com/sites/peterlazaroff/2016/04/06/the-difference-between-fiduciary-and-suitability-standards/print/ [4/6/16]