Q: What is the difference, if any, between my stock broker and other financial advisors out there?
A: This is a common question that leaves many people throwing their hands up in confusion. The truth is that there are very real and important differences between the various forms of advisors in the marketplace, and understanding those differences can help you best navigate your own financial journey.
Further complicating matters, the differences between advisors are often purposefully obscured by the marketing engines of financial industry behemoths. You've seen the commercials with brokers sipping wine with clients in front of their beautiful beach home or attending their daughter's wedding-after all, it's in every financial professional's best interest to be perceived as the "trusted advisor." But under the marketing fa ade are genuine differences that drive the type of advice you're receiving.
The notable differences that inevitably impact your advice center on the way your advisor is compensated. There are three primary compensation models: commission-only, fee-based and fee-only.
Traditional stock brokers and insurance agents are often compensated on a commission-only basis, only paid when you buy or sell something. Brokers holding only a "Series 6" or "Series 7" license are solely able to receive compensation from transactions on your behalf involving investments. They are regulated on the national level by FINRA (Financial Industry Regulatory Authority) and held to a standard of "suitability," requiring each transaction to be deemed suitable for their customer.
Insurance salespeople are also most often compensated through commissions generated by product sales. They are regulated by the state, specifically the state's insurance commissioner, and once a product has been approved for your state, the agent is not even held to a suitability standard of care. It's "caveat emptor;" buyer beware. I mention this not to levy a wholesale indictment of insurance agents-there are many who are excellent and conduct themselves in a professional manner-but to remind you that the onus is on you, the customer, to make the right decision.
That a financial professional receives his (or her) compensation via commissions does not mean he is a bad person-just that he is a salesperson.This is to be differentiated from an advisor who is compensated to render advice.
The other end of the compensation spectrum is the fee-only financial advisor. As the name denotes, fee-only advisorsare compensated solely from fees, and are prohibited from taking any commissions or referral fees. Many fee-only advisors are regulated by the SEC (Securities and Exchange Commission); most are held to a "fiduciary" standard, requiring them to always act in the best interest of their client. Types of fees differ, including flat-fee, hourly billing, management fees (tied to the investment assets the advisor manages) and retainer fees. While fee-only advisors are not immune from conflicts of interest, the lack of commission-based motivation allows them to act in more of a consultative capacity. You can learn more about fee-only advisors from the National Association of Personal Financial Advisors (NAPFA), the financial planning association requiring all its members to be fee-only, at www.napfa.org.
The majority of financial advisors, however, fall into the broad middle compensation classification-fee-based. Many use the terms fee-based and fee-only synonymously, but there are important distinctions. Fee-based compensation models offer the best of both worlds, but only to the advisors. They may offer a material amount of their services in an advisory capacity for fees, but when the opportunity arises to sell an investment or insurance product for a commission, they may also take that route. This leaves you, the client, wondering whether your advisor is acting as a true advisor or a salesperson at any point in time. They are two different hats accompanied by different regulatory oversight and unique economic biases.
Compensation methodology is not the only factor to consider in determining which financial advisor is right for you and your family, but it is a meaningful factor that could impact your financial decisions, as well as your advisor's, today and in the future.