There are three broad fee structures that financial advisors can use to charge clients for their services. They are:
-Hybrid of the above two
Does it really make a difference which of these methods are used by your financial advisor? Let’s start by acknowledging that, just as in life, there are potential conflicts of interest that can arise when the best interests of a client, and the best payout for the advisor, may not align. Potential conflicts of interest can arise no matter which fee structure your advisor uses.
The difference is that the potential for a conflict of interest is greater for an advisor who is paid by commissions. Each time a product is suggested to you, there is always that nagging question of whether it’s truly the best solution for you, the client, or whether the commission is motivating your advisor. Contrast that with an advisor who charges a flat fee. One common way that a fee-only advisor charges is to bill a percentage on the assets he/she is managing for you (commonly around 1%, depending on the account size and other factors).
In the case of a fee-only advisor, it is in the advisor’s best interest to do what is best for the client over the long term, so that the client remains happy and continues to do business with that advisor. While the same might be said of an advisor who is paid on commission, there is a greater risk that their judgment could be clouded, in the short term, by the lure of earning a commission for selling you a particular product.
A Registered Investment Advisor, by definition, is a fee-only advisor registered either with the Securities and Exchange Commission (SEC), or at the state level. Once registered, that advisor has a legal obligation to act as a fiduciary. The word fiduciary means, “of or relating to confidence or trust,” and a person acting as a fiduciary must do just that. In fact, a Registered Investment Advisor, acting as a fiduciary, has a legal obligation to put the best interests of their clients ahead of their own interests.
Of course, there are honest and dishonest people in all walks of life. Just because someone is paid on commission does not automatically mean that they are putting their own interests ahead of those of their clients. Ultimately, your own gut instincts are probably the best guide. Nonetheless, in the absence of other information, knowing that your advisor has no financial incentive to sell you a particular product should be reassuring.
For all of us, our integrity and reputation are all we really have at the most basic level. We chose to establish our business as a Registered Investment Advisor because we have a strong preference for the fee-only model. We don’t want our clients to ever have to wonder whether the reasons behind any recommendations we make are in their best interest. We believe that doing what is best for our clients, always, is the best way to ensure our own success.