“Off The Wall” Blog
Unique, straight-forward, unfiltered opinion on topics of concern for individuals with newfound wealth.
Based on their names alone, fee-only vs fee-based advisors may sound similar yet the two incentive structures present a surprising number of contrasts. And while these differences are subtle, the impact on your bottom line may not be.
When it comes to managing multi-generational wealth, fees can quickly add up, and commissions earned by your own advisors may even work against you. You deserve to know whether or not your wealth manager is working in your best interest.
Wondering if you might be getting screwed? Let’s follow the money, and see where this rabbit hole really leads.
What is a fee-only advisor?
When it comes to choosing a financial advisor, complexity can quickly begin to feel chaotic, especially when a fee structure is entangled with outside sources. For this reason, a fee-only advisor may be the most comfortable choice for a number of individuals.
Fee-only advisors only receive fees from the clients they are working with and provide advice to, and cannot accept payments from other sources, no matter what products they’re offering. Instead, they charge a percentage of assets under management, an hourly rate, or a flat fee—and are barred from earning commissions on investment recommendations beyond that.
Keeping it ethical
If you’ve ever so much as dipped your toe into the world of financial planning, you’ve probably heard of the term “fiduciary.” The fiduciary standard is both a legal and ethical obligation, requiring an advisor to preserve faith and trust by making decisions strictly in terms of the client’s best interests.
Fee-only advisors fall squarely under the fiduciary jurisdiction, meaning that they can only accept compensation from their own clients (rather than earning a bonus through an affiliation with third-party products and providers). In other words, your fiduciary has been placed in a position of complete and utter trust by the SEC, and there are serious, real-world consequences for the betrayal of this trust, both legally and ethically.
What is a fee-based advisor?
Also known as “fee and commission” advisors, fee-based folks don’t just receive compensation from their clients. They may also earn a commission from the sale of third-party financial instruments, allowing them to boost their bottom lines by offering products and services that might not entirely align with the best interests of their clients.
In short, fee-based advisors have the freedom to create extra compensation by offering pricier financial fare, even if they know their customers could be better off with a more low-cost offering. Whether this means advising clients to over-allocate their portfolio towards instruments that generate a higher commission, or engaging in “churning” by making frequent trades to bump up their fee numbers, fee-based advisors introduce and create a potential for conflicts of interest. For this reason, fee-based advisors are ones to be wary of, as blind trust is what they strive for.
Keeping it “suitable”
So, how in the world are fee-based advisors allowed to sidestep these ethical boundaries? The distinction here is that, unlike fee-only advisors, broker/dealer firms (and their advisors or “registered representatives”) are not always held to a fiduciary standard. Instead, what most often applies is a regulatory term called the “Suitability Standard.”
The Suitability Standard has far looser requirements in comparison to fiduciary rules. That doesn’t necessarily make these products bad investments, as there is a broad range of financial instruments that can fall under this category. For example, annuities, life insurance, mutual funds with 12b-1 fees, and other non-traded investment products with commissions are all generally considered “suitable,” and can certainly be valuable additions to a client’s overall wealth plan. Still, many of these products can also come in varieties that do NOT generate commissions, which could still meet a client’s best interests and objectives, so using a fee-only advisor won’t necessarily exclude you from including these options if they are part of an overall investment strategy.
In other words, why pay a commission to a fee-based advisor for something which a fee-only advisor would include at no extra charge?
Let’s go for a ride
Really, this all comes down to incentive structures. Here’s an analogy to think about: imagine you’re spending the day at a couple of car dealerships, with the intentions of purchasing an SUV. You’re not quite sure what you’re looking for, but you have a good idea about how much space you need for your family, what kinds of bells and whistles you’d like to have, and the reliability you desire. There may be a number of SUVs that are “suitable” for you as a customer— an Audi Q7 may meet your needs just as much as a Cadillac Escalade. If the Cadillac Escalade costs more than the Audi Q7, however, the salesperson will likely receive a much fatter commission check. In this case, the salesperson will probably feel incentivized to push you towards the Cadillac Escalade option, commanding a bigger budget on your end (and putting more money in their own pocket). All of this, despite the fact that the Audi Q7 offers pretty much everything you need at a lower price.
At the end of the day, you’re looking for the car that’s right for YOU (aka, a wealth management and investment strategy that suits your big picture), and you need to trust that the advice you’re getting for it is coming from an impartial source (someone who isn’t incentivized one way or another).
What you REALLY need to know (aka the nitty-gritty)
Suitability, fiduciary, incentives, commissions—look, we can talk about the incentives, compensation structures, and responsibilities of fee-only vs fee-based advisors all day. But deep down, we all know there are a few questions you really want to be answered, and they don’t involve all this financial jargon.
It’s time to ask some pointed questions. Namely, how does it affect you? Which is better? What will help you reach your goals? These are straightforward questions, but to get those answers, we’ll need to take a close look at the drawbacks.
Challenges that come with fee-only advisors
While working with a fee-only advisor provides a certain set of assurances, there are still a few challenges that come with this partnership—particularly due to the fact that these advisors must maintain your best interests at all times. For example, fee-only advisors can’t receive commissions for products sold to a client so there may be some instances a client may have to take a few extra steps to make purchases on their own.
This dynamic usually plays out when it comes to vehicles like 529 college savings accounts. A client may have to open these accounts themselves “direct,” rather than working through their advisor. Of course, the advisor can still provide advice on how best to reach long-term goals, including a range of appropriate investments and savings allocations. They just can’t administratively set up any accounts that will hold commission-based products. Sure, this workaround may seem a bit inconvenient—but at the end of the day, you’ll ultimately benefit from lower expenses on direct-sold products, and your advisor can still hold your hand through every step of the process.
Here’s when fee-based advisors can really suck
When it comes to entrusting an advisor with your wealth, the last thing you’ll want to see is a bunch of smoke and mirrors. Unfortunately, it may not always be apparent when a fee-based advisor is working as a fiduciary or under the Suitability Standard. A client may have to search through legalese documents and an advisor’s Form ADV filing to get a sense of how they are compensated.
It’s designed by the fee-based and commission industry to be intentionally murky. Never forget, the large firms have a responsibility to their profit margins and shareholders…not necessarily their clients.
And that sucks.
Remember, fee-based advisors can wear multiple hats, allowing them to shift seamlessly between the two standards, with little transparency in between. Because they can receive product commissions, this means there may be conflicts of interest embedded in their recommendations. It shouldn’t be your job to examine the details of every investment (after all, isn’t this why you hire an advisor ?), but the products they sell and receive compensation from may be difficult to understand, unnecessary as a part of the overall plan, or just plain too expensive. In the end, you may find yourself micromanaging and second-guessing every investment.
And that sucks.
Finally, when everyone can call themselves a financial advisor, everyone does. But they are far from all the same. A common refrain touted by all advisors is, “I will always act in your best interest.” But if that’s true, why do they shun the fiduciary model of fee-only? Why do they voluntarily choose to remain in a fee-based structure and maintain the option to recommend “suitable” investments? It’s because they want to maintain the ability to sell commission-based products.
And that sucks.
So, why should people care?
Most people these days aren’t hiring ‘stock brokers’ or anyone else to tell them what they should buy and sell.
That’s the old way of doing business – in fact, it’s dead.
These days, people are looking to wealth advisors for advice.
People identify pain points in their life that are causing frustration or creating a hassle and set a goal to discover a solution. They value their time and realize that their ability to do what they want, when they want, and for as long as they want is a goal that requires a complex plan and a well-thought-out strategy. That solution generally involves engaging the advice and counsel of financial experts.
To put it bluntly, a wealth advisor should play an integral role in constructing that plan and strategy by providing all the available options and unbiased advice on why it’s worth considering one option over another. So, it’s critical to take time and be thorough in considering the differences when contemplating between fee-only vs. fee-based advisors.
If you’re having trouble deciding, first determine how important trust and objectivity are to the advice you are seeking and allow that to guide you. If trust, objectivity, and advice are key factors for you, Monument Wealth Management could be the perfect fit. As fee-only advisors, complete transparency, honesty, and unfiltered, straightforward opinions are the key principles you’ll find in the advice provided by our Team of financial mavericks.
As a fee-only firm, Monument is quickly becoming the refreshing alternative to the traditional and out-dated wealth management offerings that are rife with conflicts of interest, antiquated fee structures, overcomplicated jargon, and stale, canned opinions. The Monument Team guides clients towards achieving the ability to do what they want when they want, and for as long as they want and deftly removes the typical wealth management pain points caused by poor advisor communications, a lack of trust, and an unclear advisor value proposition.
If you’re tired of the same old blah blah blah coming out of today’s wealth management industry, come learn about how our team of financial mavericks provides refreshing advice through our unfiltered and straight-forward opinions.
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