HOW DO FINANCIAL ADVISORS GET PAID?
This should be simple enough…you go to them for advice, you pay your fees and commission and believe they have your best interest in mind when they invest your money. You go happily on your way. Sadly, it’s not that straightforward. How Financial Advisors get paid can be confusing, we are here to break it down.
There are three different types of advisors you could choose to work with, and it’s important to know that each type gets paid differently.
HERE ARE THE OPTIONS:
- They could be a broker
- They could be a hybrid or dually register advisor
- Or, they could be a register investment advisor
LET’S TAKE A LOOK AT WHAT THIS ALL MEANS.
First, if an advisor is a broker, which most advisors are, they receive a commission for the products that they sell and the investments they recommend. The commission can be upfront (they get paid when you buy), it can be on the back end (they get paid if you sell), or it can be trailing (they get paid a portion annually). The problem is that with most of them you “should” read the prospectus (the gigantic legal document you get when you buy or get sold a product and throw away when it arrives in the mail) to find out what you are really paying.
Moreover, there is an even bigger problem with brokers which has to do with what is in your best interest. They only follow the “suitability” standard, which says the product or recommendation only needs to be “suitable” for the client. Who even knows what that means? It is ambiguous. The standard is easier to achieve and the bar is set way, way low.
In other words, they could recommend a Mutual Fund that is ten times more expensive to own than a comparable Exchange Trade Fund, and that is acceptable because its “suitable” for the investor. This obviously raises questions as to why a broker would prefer one investment over the other, quick side note…more often than not Mutual Funds have higher commissions or fees to the broker. To us, this is a huge conflict of interest and why Bonfire Financial is not a broker.
Dually registered or a hybrid advisor:
Next, let’s look at advisors that are dually registered or a hybrid advisor. There are some nuances between to a hybrid/dual registered advisor, but for the purposes of this discussion let’s focus on the fact the that they are registered investment advisors AND licensed through FINRA (the Financial Industry Regulatory Authority, Inc. which is a private corporation that acts as a self-regulatory organization). While that sounds good on the surface there are issues with this format. As a registered investment advisor, they act as fiduciaries and do what is in the best interest of the clients. Great news, but they are also registered with FINRA to sell products as a broker. What? Yes, they can sell investment products and collect a commission.
These advisors can wear two hats with the same client. They can have accounts which they are acting as fiduciaries on and then have another account with the same client in which they act as brokers and only follow the suitably standard. How can someone be a fiduciary to a client but not on all their accounts or money? I am still scratching my head on this one. In my opinion a client would never really know if the recommendations were in their best interest or not! This was a pass for Bonfire; we are not dually registered and will never be.
Registered Investment Advisor:
Finally, there is the Registered Investment Advisor (RIA). These advisors have a legal obligation to act as fiduciaries. Meaning that they have to act in your best interest at all time. They must explain upfront how they are compensated and must disclose any conflicts of interest. While this may seem like a no-brainer there are very few advisors that are acting full time in this capacity, less than 13,000 total in the US, surprising, right? Why aren’t there more? I let you read into that one.
I have always strived to be upfront and honest with people and my clients. At a young age, I started my career at a big wire house and thought I was fiduciary for my clients and that I could act in their best interest. However, the more I learned, the more I realized the cards were against me and decisions made at the top made it difficult to truly act in the manner. I was a vegan in butcher shop, a sheep in wolves clothing.
So, I made a switch and I started Bonfire Financial, a Registered Investment Advisor. Now my core values are in line with the company I am with and I can be a true fiduciary all the time.
If you have any other questions on how Financial Advisors get paid, or if you are curious what category your advisor falls in, feel free to give us a call.