Financial advisers typically use a "fee-based" or "fee-only" compensation model. While these two terms may sound similar, they are vastly different. How your adviser is compensated will have an impact on the financial products recommended to you and the advice you receive.
Fee-only advisers receive compensation directly from their clients, and this is the only form of compensation they receive.
A fee-only adviser may be paid:
- On retainer
- By a percentage of the managed assets
The main advantage to choosing a fee-only adviser is that they are not paid on commission, which means they are more likely to provide you with advice and recommendations that are truly in your best interest.
Advisers who are paid directly by clients do not sell:
- Commission-based variable and fixed annuities
- Load mutual funds
- Whole life insurance
- Equity indexed annuities
- Universal life insurance
Fee-only advisers operate under "fiduciary duty," which means that they have a legal responsibility to act with their client's best interests in mind. Those who are Registered Investment Advisers are usually regulated by the states they operate in and are bound by this duty.
Many also hold professional designations that require them to be held to a strict code of ethics and conduct.
Fee-based advisers work off of a completely different compensation model, despite the slightly misleading title.
Unlike a fee-only adviser, fee-based advisers can charge fees directly to clients and receive commissions from the financial products they recommend. These financial products typically include annuities, insurance and load based mutual funds.
Fee-based advisers typically hold a license to sell these products, and generally do not have a duty to disclose their compensation method. Some are licensed under fiduciary regulation, and these advisers are required to disclose their compensation in writing.
The primary issue with the fee-based compensation model is that it creates a potential . Fee-based advisers are more likely to recommend the products they receive commission for, even if that product isn't the best option for the client. Not all fee-based advisers operate this way, but many do.
Ask Question and Get it in Writing
It can be difficult to find an adviser who will provide truly unbiased advice, especially when fee-based advisers can charge a fee directly and earn commission without having to disclose this information.
When choosing an adviser, be sure to ask plenty of questions, such as:
- How are you compensated?
- What is your educational background and what professional qualifications do you have?
- Are you held to a fiduciary standard?
- Have you ever been disciplined by FINRA or the SEC?
- What percentage of your compensation comes from the fees I pay you? How much of your compensation comes from commissions?
Be sure to get all compensation information in writing. Transparency is of the utmost importance here.
If you do work with a fee-based adviser – and there are plenty of well-intentioned ones out there – ask questions when they present you with advice.
- Why are you recommending this specific product?
- How will this financial strategy benefit me?
Never be afraid to ask questions. Remember that your adviser is working with your money and should be keeping your interests in mind. You have every right to ask questions before committing to any financial product or strategy.
Don't let the terms "fee-only" and "fee-based" confuse you. Now that you know the difference between these two forms of compensation, you can make a more informed decision when choosing a financial adviser. And remember, there are plenty of fee-based advisers who truly work for their clients and in their interests.
Regardless of which type of adviser you work with, make sure that you ask plenty of questions and find out more about the adviser's background, qualifications and experience. While it may be tempting to work with the first adviser you find, you're better off meeting with a few advisers to find one that you feel will have your best interests in mind.