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Finding the Difference Between Fee-Only vs. Fee-Based Services

Exploring the fee-only vs. fee-based debate

A quick search of “financial planners” will result in a growing number of fee-only planners. But what exactly is fee-only? And how does that influence a potential customer when selecting a financial planner?

Another quick search of “fee-only planners” will result in definitions from places like Forbes.com and Yahoo Finance, who provide a short definition that works on the surface but doesn’t provide nearly enough information to make an informed decision. Forbes defines fee only financial planners as a “registered investment advisor with a fiduciary responsibility to act in their clients’ best interest” (1). Which leads us the burning question…shouldn’t all advisors being working in their client’s best interest?

Simply put fee-only agents operate through one mechanism: they work with a client. All payment received is compensation for services provided to that client. That’s it. Commission-based agents or as they’ve recently been named “fee based” agents operate through two mechanisms:
1. They charge a fee for services 2. They receive commissions. In other words, fee-based agents work with clients but also work with product, of which they are trying to sell.

What does this mean for consumers?

For consumers, the decision between a fee-only and fee-based advisor is a difficult one. To start, use of these overly similar terms have made it hard to draw distinction between the two, making it hard for the average consumer to really understand what the true differences are and even harder to understand how these differences affect them. James Watkins (@InvestSense) noted the entanglement of these terms “Fee-based is essentially what we attorneys refer to as “weasel words”. Ambiguous terms created to mislead and confuse the public. “Fee-based” is broker/advisor code for “I still make money/commission, and my broker-dealer makes money. 2 out of 3 isn’t bad”

#Fintech advocate Bill Winterberg stated a similar stance: “Fee based and “fee-only” are useless terms invented by industry insiders as a red herring to muddle consumer awareness of financial professionals’ real conflicts of interest”.

And finally to conclude the war on words Certified Financial Planner Joseph E. Kolb (@josephekolb) said: “Fee based is a term that should not exist, at best it confuses and at worse misleads. Should be replaced by fee & commission”.

Fee Based vs Fee Only - Blog Post Header _ CWA Network

Raising the issue of conflicts of interest

Like Bill Winterberg said, the argument between fee-based and fee-only agents is actually one that many view as being centered on conflict of interest. While fee-only agents have autonomy in assisting their clients, fee-based agents must assist their clients using specific products of which they receive commission for when utilized.

This does not mean that by default fee-based agents are trolls, just like fee-only agents their structure can serve clients in distinct and sometimes beneficial ways. Fee structures may also come into play. Assessment of client’s needs in selecting one over the other should be the forefront. For example, fee-only services may contain other charging methods such as a retainer or hourly fee which may not always be a good fit for a client.

Josh Harris (@Prof_JWHarris), A CFP had this to add: “Fee-based and commission-based planners have more hurdles to jump through to avoid and minimize conflicts. It’s a harder litmus test for being an ethical planner with those compensation models. Fee-only is the best compensation model for minimizing conflicts of interest when working with clients. It does not mean a fee-only planners is automatically an ethical one though.”

Our take

The true test of what is ethical, in our opinion, is that everything should be filtered by the only thing that matters: the clients objectives.

If an advisor spends the time to fully understand their client’s objectives and then compares the clients current course against their objectives, the client should be able to see if any course corrections are in order. We believe at this point the ethical advisor will look for solutions utilizing legal and tax methods first, then to the clients portfolio and finally to financial products – ie. life insurance, disability, long term care or annuities. And, if a financial product is in order then proposals from five to ten companies should be requested and advisors should help clients buy those products…and never be sold.

The bottom line

Fee-only services directly serve the client and operate through one mechanism: the client while Fee-based services operate through two mechanisms: 1. The client 2. commission. As a result, the fee-only structure typically minimizes conflicts of interest. Due to the confusing nature of these terms, advisors should offer clear and easy-to-follow descriptions of each to potential clients. Clients selection of one model over the over may be influenced by other factors such as fee structure.

Regardless of status as a fee-only or fee-based advisor, your focus should always be what’s best for the client.

References:
(1) David John Marotta (2012) Fee-Only Financial Planner: What’s the Difference?
https://www.forbes.com/sites/davidmarotta/2012/06/11/fee-only-financial-planner-whats-the-difference/

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