Semantics are important. When referring to oneself as an independent advisor, do you mean you are an independent business owner, independent in your ability to select technology and platforms, independent in your ideas and recommendations to clients, or independent from direct supervision?
In recent years, both the financial services industry and advisory firms themselves have become more complex, giving rise to confusion and potential conflicts. With new claims of fraud or malfeasance against financial professionals of all stripes and innovations that are changing the way we do business, clients and regulators are demanding more transparency in business activity. Whenever a quid pro quo element enters a professional relationship, independence is eroded—by any definition.
Defining oneself as independent does not connote a higher standing or a better business model, yet it is often articulated in a self-righteous tone. It raises the question: “What do you mean by independent?” Clarity is important. Using vague or muddled language to convey information to consumers makes it difficult for them to tell the difference between a zebra and a horse.
Your Definition of Independence
Does your definition of independence hinge on business ownership and self-governance? If so, think about your growth cycle and span of control. If you have multiple partners, each of whom has a say in business governance and policy, might you have drifted away from the freedom to act according to your own ideas or instincts? Is it possible that you are losing independence as you grow and accumulate more shareholders?
Let’s delve a little deeper into the concept of independence. If you have sold your firm, are you able to conduct your business as you did when you were not owned by a passive investor? Are there consequences for not hitting your growth numbers, and does this influence your behavior? If you have become a division of a bank or an accounting firm, do you have the freedom to make decisions that make sense for your advisory business, but that conflict with the policies or interests of your parent?
If independence means the freedom to use whichever vendor you want whenever you want, how do you demonstrate that, and how do you communicate this value to your clients? For example, if you participate in a referral program with your custodian, do they require that you hold those assets with them and pay them a referral fee in perpetuity? Are you selecting the custodian based on the client’s best interests or yours? How do you communicate to your client what limitations (or increased fees) this program may impose on their assets over the life of the relationship? And if you decide the custodian is no longer delivering on its promise of good service or high value—or no longer seems a safe place to hold assets—may you move your clients without consequences to them or you?
If the custodian gives you favorable pricing in return for your use of their proprietary mutual funds, ETFs or cash sweep accounts (where they make substantially more in the relationship with you), are you giving your clients access to the whole of the market as a proper fiduciary advisor? Or are you acting as a salesperson for products? If the custodian gives you money for technology or some other business support at a ratio tied to the volume of business with you, are you free from conflict?
If you define independence as the freedom to make investment recommendations or act with discretion, how does this change when your broker-dealer limits you to the solutions in their proprietary managed account platform? If your firm requires that you use only the master limited partnerships sponsored by your own company, are you acting as a client advocate or product advocate? If you rigidly utilize ETFs or index funds without considering other investment vehicles, are you truly independent in your advice?
Finally, as the definition of independence can be somewhat fuzzy, how do regulators like the Securities and Exchange Commission enforce disclosures of conflicts of interest? These questions highlight some compelling reasons for advisors, custodians and broker-dealers to probe more deeply into the subject.
Analyze the relationships between your firm and its vendors, and determine the impact these relationships have on your firm’s independence. How does that influence trickle down to other decisions your firm makes?
Firms enter into agreements knowing that they will be giving up a portion of decision-making control for many reasons. These reasons include budgetary concerns, lack of resources, miseducation, unavailable internal resources and industry pressure. We need to work to remove these barriers and allow growing firms free access to technology, vendors and products that do not create conflicts.
Several forces are changing the definition of “independence” in our industry. The first is the push to have all people who deliver financial solutions act in a fiduciary capacity. The second is the Department of Labor’s intervention on behalf of all retirement accounts, including IRAs. The third is the advocacy by groups such as SIFMA, FSI and FINRA to adopt a harmonized fiduciary standard that protects their constituents but may not be consistent with how RIA firms currently interpret the guidelines. Additional factors blur the distinction between a broker and an advisor, including the rapid consolidation of the industry, the emergence of more corporate buyers and the expansion of the hybrid advisor movement.
Before these forces of change, financial services roles were clearer to consumers, regulators, the media and even other people in the profession. There was a time when a broker was different from an advisor, when “fee-based” and “fee-only” did not imply the same thing and when all advisory firms were owner-operated. Circumstances have changed and we need to rethink the language used to describe our services and our mission.
Why Does the Definition of Independence Matter?
The overuse of the catchphrase “independent” has served to confuse the masses. Your business model should set expectations for clients. A broker has a different obligation to a client than an advisor, for example. If my body aches, should I see a chiropractor or an orthopedist? If I seek tax advice, should I consult a CPA or an enrolled agent? The accurate definition of your firm ensures that clients understand what you do and how you do it.
What does “independent” mean to you? Take time to apply the concept to your business model, ownership, advice and product choice. This is not to imply that one model is superior to another, but that we must be clear in showing clients how we conduct our business. This transparency is critical to the integrity of our profession.