How You Compensate Your Financial Adviser, and Why It Matters
Roger Wohlner

There are three basic forms of financial adviser compensation: commissions, fee-based, and fee-only. Should the method of compensation make a difference to you? I (who am admittedly biased on the topic) say yes. Let’s examine each method.

Commissions are pretty easy to understand. The adviser is compensated when he or she sells you a financial product—such as a mutual fund, an annuity, or an insurance policy. If the adviser doesn’t sell you anything, he doesn’t get paid.

With this arrangement, the client typically doesn’t write a separate check for the commissions. They are paid by the financial product provider and reduce your ultimate return. But just because you don’t write a check for these fees doesn’t mean the costs to you aren’t very real.

There is an inherent potential conflict of interest in this arrangement in terms of the advice you might receive. Muddying the waters even further, commissions for many of these products are never disclosed. Clients don’t realize how much they are paying and are often unaware of the costs.

Types of commissions can include:

  • Front-end sales fees on mutual funds
  • Deferred mutual fund commissions (typically B shares)
  • Level ongoing mutual fund commissions (typically C shares)
  • Trailing commissions, such as 12b-1 fees
  • Surrender fees
  • Front-end commissions on annuities and insurance policies
  • Transaction fees of various types

Fee-based compensation, in my opinion, is the most confusing form of adviser compensation. A typical fee-based arrangement might involve a financial plan prepared for a set fee. If the client wishes to implement the adviser’s recommendations, it is generally done via the sale of commissioned products.

Many people confuse this method with fee-only compensation. In reality, fee-based advice is simply another form of the commission method.

Fee-only compensation is fee-only, period. The adviser collects no compensation from any provider of financial products—no trailing fees, no commissions, etc. The adviser is compensated strictly by fees the client pays. The benefit of this arrangement is that the adviser has no incentive to steer you to any particular financial product or product provider. Going the fee-only route does not ensure that a given adviser is right for your situation, but a fee-only adviser is a good starting point.

Understanding how your financial adviser is compensated is a critical piece of working with an adviser. As a client or potential client, you should insist that the adviser disclose ALL forms of compensation he or she will receive, from all sources, by working with you. This will help you determine the total cost of the relationship, and it will help you assess potential conflicts of interest that might taint the advice you receive.

Roger Wohlner, CFP® is a fee-only financial advisor at Asset Strategy Consultants. Roger provides advice to individual clients, retirement plan sponsors and participants, foundations, and endowments.


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