Why Fee Only
 
In the business of Retail Money Management, there are two main business structures:  One relies on Commissions and the other relies on Fees.  To put it another way, in one case Investment Firms pay “Advisors” to utilize their products, and in the other, Clients pay their Advisors to select Investments.
 
It should be intuitively obvious that Financial Advisors work for the benefit of those that pay them, and therefore if Clients want the unbiased allegiance of their Advisors, they should insist upon being their only source of income.  However, the retail Investment Advice business is still dominated by the Commission Model.
 
We’d guess Clients’ arguments to choose Commissions are partially rooted in the idea that “someone else” is paying, so therefore the Client isn’t.  Additionally, fees paid by Clients must be clearly disclosed, while Commissions paid by Investment Firms are often hidden.  This makes them easier to pay?  Perhaps.
 
Having spent years operating in this structure, we emphatically reject both ideas.
 
In the first instance, all compensation for Investment Salespeople and Advisors inevitably comes from investment earnings.  If the Client pays a fee, they receive the net results.  If the Investment Firms pays a Commission to the Advisor, it too, comes from investment earnings, and the Client receives the net results.  So, the question arises; “Would you rather pay a Fee you see, or a Commission you don’t?”
 
But, there is much more to this than meets the eye.  It’s not really about which is bigger, the disclosed Fee or the hidden Commission.  The real issue in how an Advisor is paid is CONFLICT OF INTEREST!
 
Consider!  If you were relying on a General Contractor to build your house, wouldn’t you want to know if he/she was getting paid by the subcontractors?  If you found out that one electrician paid a kickback to your GC in order to get the job, you’d be outraged!  Instead of getting the best work for the best price, your GC would be running an auction to see who could pay him the most.   He/she gets more money; you get (potentially) shoddy work. 
 
So, what’s the difference between building a half million dollar house, and constructing a half million dollar Retirement IRA account?  You want the very best Subcontractors for your house, and you want the very best Fund Managers for your IRA.  Either way, it’s all clouded up by compensation that doesn’t come exclusively from you.
 
If that’s not enough, the two different industries take different levels of Responsibility.  On the Commission side, Advisors must only adhere to a level of Responsibility called “Suitability.”  That’s about the same standard as any Salesperson or Company has in promoting its product.  As long as it does a reasonable job, it’s OK.
 
On the Fee-Only side an Advisor must adhere to a level called Fiduciary Responsibility.  This requires the Advisor to treat client assets as if they were his/her own, and to act in a client’s benefit before acting for themselves.  These requirements are inconsistent with promoting products that pay commissions.  Recommendations to Clients cannot be limited to only those securities that pay, when a better alternative is available, that doesn't pay.
 
Lately, many Commission based Investment Firms have been adding Fee-based accounts.  They may be reducing Commissions, notably those highly visible up front Load type Commissions.  But, Conflict of Interest doesn’t go away until ALL payments and compensation paid to Advisors from Investment Firms are eliminated.  And that should include bonuses, incentives, paid vacations and contests.  That is the meaning of Fee-Only!  When the Advisor operates in a Fee Only mode, and furthermore, takes on the Fiduciary Responsibility that goes with it, a true Advisory Relationship is created.
 
The Fee Only structure doesn’t guarantee Honesty, Trust and Integrity, but it’s a great step in that direction.
 
 
                                        
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