Will it be fees, commissions, fees plus commissions or something else altogether? The Wall Street Journal applauds the number of options now available for advisors to get paid, but the paper takes a hard look at each one, and evaluates the pros and cons for the investing public.
In an effort to ensure you’re prepared if the topic is raised in your next client meeting, we run through what it has to say.
“The advantages are easy to see,” the paper reports. “Advisers have a strong incentive to boost client returns, because their fees increase as the assets grow–and fall if the assets decline.”
But the Journal takes issue with what it calls “perhaps the most serious caveat,” which is “the many conflicts of interest.” It claims advisors may be “tempted to take undue risks to grow their clients’ accounts and thereby boost their own fees. They might also be tempted to discourage moves that benefit the client, but take assets out of the account. For instance, an advisor might be tempted to advise a client not to buy life insurance because that would mean less money to manage.”
Fee Plus Commission
The paper describes the perpetual fee-based versus fee-only debate in the following way:
“Fee advisors don’t take commissions on products they sell, so they won’t be swayed to recommend a product because it will pay them more. But many advisors combine some type of fee with commissions. This model has come under criticism and the scrutiny of regulators. Critics say it generally adds more costs and conflicts of interest–often without the client realizing it.”
They also wade into the fiduciary issue, noting that “while acting as a registered investment advisor, the advisor is a fiduciary, required to act in the client’s best interest. But the advisor isn’t a fiduciary when working as a broker … advisors juggle the two roles by giving only general planning advice as fiduciaries.”
Whether investors understand all this is the real question, the Journal says, adding that commissions aren’t always obvious. Brokers aren’t required to disclose the amount of their commission at the point of sale, though it is included in a confirmation letter sent to the client.
Explaining the attempt to bring financial planning to more Americans by making it more affordable, the Journal says a flat fee works well for investors with limited assets and/or limited needs. A payment of a low monthly fee is usually how it works.
“This might be an attractive option for investors who don’t need ongoing advice, as well as young clients who haven’t accumulated a lot of assets. But investors should consider what they’re getting for the price.” it said.
The paper quotes NAPFA chair Susan Johns in warning that “clients should be sure they’re clear at the onset about what’s included. They’re not paying for comprehensive financial planning. And while they may be entitled to seek advice via telephone or email, they should understand that if such queries become excessive, the adviser may want to add more charges.”
Net Worth and Income
Similar to asset-based pricing, this relatively new model has investors paying a portion of their net worth or income, a chunk of their assets every year or a combination of the two. The Journal claims it “opens the door to people who don’t have a lot of investable assets but might have a high income or assets that aren’t liquid, like a home or a 401(k) plan.”
“The setup also helps people who wouldn’t ordinarily qualify for asset-only payment plans. In theory, these models remove the conflicts in asset-based pricing,” the Journal says. “Because an advisor is charging a percentage of entire net worth, there’s no incentive to advise clients against moves that make sense but deplete assets under management.”
Hourly fees are exactly what they sound like: Clients pay their advisors a set fee for every hour they work, which the Journal says is easy to understand and ensures that investors pay only for the advice they need.
“But it can be hard to get this deal. Hourly fees are still quite rare among advisers, though asset-based advisers occasionally offer them to children of clients. Some experts warn that advisers may try to keep the meter running, or start it by raising opportunities that aren’t appropriate,” the paper says.