After almost a year of often-public discussions, the CFP Board recently delivered its decision to financial planner Rick Kahler that, because he owns a (commission-based) real estate brokerage firm to which his financial planning clients are sometimes referred, he will no longer be permitted to label himself as “fee-only.”
Instead, he must describe his compensation as “commission and fee,” in light of the commission-based related party. In response, Kahler has declared that he will likely drop his CFP certification (after being the first advisor in South Dakota to earn the CFP certification over 30 years ago). He may even file a lawsuit with the CFP Board over the issue, after failing to find any other remedy to the situation in more than 10 months of talks with CFP Board staffers.
Update: On July 29th, the day after publication of the original version of this article, the CFP Board and Rick Kahler issued the following joint statement:
“CFP Board and Rick Kahler, CFP® continue to have ongoing conversations in which CFP Board is providing Mr. Kahler with guidance about how to properly identify his compensation. Until CFP Board provides the guidance Mr. Kahler has requested, CFP Board will not take any disciplinary action related to identification of his compensation.”
What Your Peers Are Reading
In point of fact, though, the CFP Board’s “related party” rules were arguably designed to catch situations precisely like Kahler’s. The whole point of the rule is that a planning firm cannot make itself “fee-only” by simply splitting its commission-based work into a separate business still owned by the CFP certificant. To allow such behavior would render compensation disclosure meaningless, as all advisors could be both “fee-only” and “commission-only” by just hanging two shingles! As a result, it appears that this time the CFP Board may have really gotten its ruling right.
However, the reality that the CFP Board has yet to come to an amicable resolution with Kahler about how to unwind the situation highlights what is still the CFP Board’s fundamentally flawed interpretation of its own compensation disclosure rules. Kahler offered to cease providing referrals to the real estate firm, or even to outright bar any of his financial planning clients from doing business with the real estate firm, yet the CFP Board still insists that the mere fact that he owns the private-held firm “taints” his fee-only status. Even if Kahler can prove that 100% of his clients pay only 100% fees from this day forward, forever, Kahler is still required by the Board to “disclose” client commissions that wouldn’t actually exist or face potential sanction.
Instead, the CFP Board insists that the only solution is for Kahler to divest himself of his non-majority stake in a family firm he has owned for over 40 years, for what would surely be a significant personal financial loss to Kahler in trying to sell an illiquid closely held business.
But should the CFP Board really be allowed to dictate to fee-only CFP certificants what are and are not “permissible” investments to own for personal investment purposes apart from their financial planning clients? Ultimately, Kahler’s dilemma about how to come back into compliance with the fee-only rules—and his inability to do so without divesting himself of a family business that he is willing to legitimately run separately from his financial planning clients—emphasizes the continued absurdity of how the CFP Board is interpreting its own three-bucket doctrine for determining compensation to disclose.
Understanding the Kahler Situation
Rick Kahler is a long-standing CFP certificant who first got his CFP marks in 1983 (and was the first in South Dakota). Over his career, he has been involved in both a family real estate business (since 1972) and his advisory practice (founded in 1981), though in recent years his efforts have been focused primarily in his advisory firm, Kahler Financial Group.
While Kahler is not involved in selling real estate or the day-to-day management of the real estate brokerage business, he does still own a 50% stake in the family firm with his brother, and the business is an entity that is compensated by commissions (as is common for real estate brokerage). Since his advisory firm does not directly accept any real estate, insurance or securities-related commissions, Kahler refers to his business as “fee only”, and has also been an active member of NAPFA (which affirmed his “fee-only” status under their approval process).
However, last year the CFP Board ruling on Alan Goldfarb came out, followed shortly thereafter by the announcement of the lawsuit with the Camardas (and that Goldfarb was just the tip of the compensation iceberg). The CFP Board publicly stated and embraced its “new” view (which had never been ruled upon in this manner before) that the mere ownership of a commission-paying entity is sufficient to require a CFP certificant to state that he/she is compensated with “commissions and fees” (and not as “fee-only”) regardless of whether any clients even do business with the entity. After the CFP Board sent a notice to CFP certificants “clarifying” these rules last year, Kahler realized that his ownership of the real estate business could run afoul of the CFP Board’s position, both due to his ownership interest, and the fact that clients of the advisory firm actually are sometimes referred to the family-owned real estate business. Kahler says that his policy when asked for a real estate broker referral is to give the client the names of three firms in the area, one of which is his family-owned firm.
Given the potential issue, Kahler voluntarily approached the CFP Board with his concern that he might be out of compliance with the “new” policy. And for much of the past year, Kahler has been engaged with the CFP Board regarding his compensation disclosure. That is, whether he can declare himself to be “fee-only,” and if not (due to his ownership and relationship to the family real estate business) what he can do to remedy the situation and maintain his status as fee-only. It’s important to recognize that the “forced” sale of a non-majority interest in a family-owned business could have significant financial ramifications on its value as a personal asset.
After approximately 10 months of conversations, during which Kahler has also been vocal in the industry media regarding his situation and the problem that it presents, the CFP Board recently announced its final decision to Kahler that his ownership and compensation arrangement do in factconstitute a commission-and-fee structure, and that Kahler must cease marketing his business as “fee only” or risk being sanctioned by the CFP Board for a misleading compensation disclosure.
In addition to this conclusion, Kahler indicates that his alternative proposals, including transferring his ownership interest of his family real estate business to his spouse or a blind trust, or agreeing to cease making any referral to any real estate brokerage firm when asked (including his own or any other), or even agreeing to bar any clients of his advisory firm from doing business with the real estate entity at all (so they truly operate “independently” of each other), were rebuffed by the CFP Board as not resolving the issue regarding his claims of being “fee-only”.
In light of the outcome, Kahler has now announced that he is considering whether he will renounce his CFP certification (so that he can continue to market himself as “fee-only” without risk of a public sanction from the CFP Board), and that he may sue the CFP Board regarding the matter and how the organization has handled the situation.
The Issues at Stake
To me, the Kahler situation ultimately comes down to two important but separate issues:
1) Should Kahler have been allowed to define himself as “fee only?”
2) If he cannot define himself as “fee only,” what should Kahler do to “rectify” the situation so he can call himself fee-only if he wishes to appropriately characterize his financial planning services that way?
Regarding the first matter, I have to admit that the CFP Board’s conclusion seems entirely appropriate, not merely because Kahler owned a real estate business, but because – by his own admission, and the disclosure on his own Form ADV – there were referrals of clients from the advisory firm to the family real estate business to which commissions were paid and Kahler received economic benefit (though Kahler indicates the amounts had been “negligible” in recent years).
In other words, Kahler was in a position to refer an advisory client to a (related) business that would generate a commission that financially benefitted him as a material owner of both firms. Whether the real estate business shared the commission directly, paid out as a dividend or merely accrued it as profit on its books, the fact remains that a business Kahler owned was being enriched by commissions being paid by clients of Kahler’s advisory firm.
The whole point of these related-party rules was to ensure that situations like this are recognized as being commission-and-fee, and that advisors cannot turn a commission-and-fee business into a “fee-only” firm simply by creating a separate-but-related-and-co-owned entity to gather all the commission income that flows back to the same person.
Of course, the most common such situation is a separate business that collects insurancecommissions – as was the issue in Camarda – and not real estate commissions, but it’s difficult to see why they would be treated differently. Real estate is still a financially related business, other forms of real estate commissions (e.g., from the sale of REITs) are clearly commissions, and the real estate business was viewed as being material enough of a relationship that it was disclosed on the Form ADV in the first place.
If the related party was related enough (and the commissions it generates were material enough) to be disclosed on the ADV, the “commission and fee” compensation should have been the required disclosure for Kahler as a CFP certificant, too. That’s what the CFP Board correctly concluded in its decision.
No Way Out From Related Party Ownership
On the other hand, the more problematic issue was that Kahler’s proposals to resolve the issue, including transferring ownership (albeit to other “related” parties), and especially the offer to just completely bar clients from doing business with both entities, was not sufficient to rectify the issue.
As long as Kahler was going to continue referring clients to the real estate business, and he—or a party/entity clearly related to him—was going to continue to be enriched by the commission compensation the client paid, the compensation disclosure should still have been “commission and fee.”
However, if Kahler was willing to create a total prohibition that would limit clients of the advisory firm from doing business with the real estate business—rendering the two businesses independent and unrelated with respect to clients—then why would the CFP Board still require Kahler to declare his advisory firm to be “commission and fee?”
At that point, it would no longer be possible for that client to pay a commission, directly or indirectly, to Kahler or his businesses, in any way, shape, or form. Kahler would be required to disclose commissions that literally wouldn’t exist.
Granted, Kahler would still own the real estate business conducting real estate transactions with other people where commissions occur (and generate dividends back to Kahler as the owner), but that’s also true of any advisor who owns a financial interest in a private business, or a public one like the companies in the S&P 500. Advisors aren’t required to report to their clients the commissions paid by unrelated non-clients to unrelated businesses just because it’s a public or private stock that happens to be in their personal portfolio. So if Kahler was willing to create the same relationship with his own family real estate business, why was that still not acceptable… beyond the CFP Board’s ongoing arbitrary and problematic view that the mere ownership of commission-based businesses, even if unrelated to any actual client work, can still “taint” the fee-only status of an advisory firm that is otherwise fee-only in the business it conducts with clients.
Apparently, being able to prove that 100% of financial planning clients paid only 100% in fees, ever, to anyone, is still not a legitimate defense to a claim that the advisor is “fee-only” under the CFP Board’s rules!
Is it really appropriate for the CFP Board to have the right to dictate the private ownership of a CFP certificant’s stock portfolio and investments in companies unrelated to their actual financial planning clients? In Kahler’s situation, the CFP Board’s response was that the only way Kahler could possibly remain “fee-only,” regardless of whether his financial planning clients were barred from the real estate firm, was to actually fully divest his stock ownership!
Ongoing Problems With The CFP Board’s Three Buckets
As noted earlier, while I believe the immediate conclusion of the CFP Board regarding Kahler’s situation was right—clients of the advisory firmwere being referred to a related entity for financial transactions that resulted in commissions providing a financial benefit for the CFP certificant—the CFP Board’s inability to come to an amicable resolution with Kahler highlights the significant ongoing flaws that remain in how the CFP Board applies its fee-only definition, as well as the related definitions of the key terms that are used to apply the rules.
For instance, as the Kahler case highlights—and Kahler himself expresses in frustration after having requested clarification for months—there is still no clear definition of what constitutes “ownership” for the purpose of determining a related party. For instance, does spousal ownership count? What about the use of a [blind] trust?
There are cases to be made for allowing or disallowing either, but the CFP Board should have a clear, publicposition on this so CFP certificants understand the rules, and don’t find themselves in the position of being forced to divest ownership of illiquid assets on short notice.
Similarly, there is still no definition of “related party” in the first place, what constitutes a “related party”, and how significant of an ownership stake is required. Notably, the lack of definition on what constitutes a “related party” was a key factor in the Goldfarb case—where a mere 1% interest that paid a $2,000/year dividend was a fee-only “taint,” even though many advisors receive far more than this from the financial services stocks in their own investment portfolios.
Of course, Goldfarb’s stock was in a smaller, privately held company, and not a publicly traded stock on the S&P 500. But surely the CFP Board’s definition of “related party” is not going to hinge on whether a company has decided to do a public markets IPO, right?