Distinguishing one financial advisor from another

Distinguishing one financial advisor from another

There are so many folks out there dishing out financial “advice” and even more who call themselves a “financial advisor,” or “financial planner.” For example, Certified Public Accountants (CPA), Certified Financial Planners (CFP®), Broker agents, Insurance agents, and Investment Advisor Representatives (IAR) are all individuals who often title themselves as Financial Advisors and/ or financial planners. The problem here is that while each professional may give themselves a similar client-facing title each has a very different skill-set and financial motivations for making their recommendations. It is on the individual investor to ask the right questions, understand the competencies their current or prospective advisors possess and how they are compensated before deciding to entrust their finances with that individual or firm.

Fiduciary advice and the emerging standard of care

Merriam-Webster defines a fiduciary relationship as “a relationship in which one party places special trust, confidence, and reliance in and is influenced by another who has a fiduciary duty to act for the benefit of the party.” This relatively straight-forward definition of a fiduciary relationship in a financial context essentially means that one party (the client) places trust/ confidence in another party (the advisor) to act in the best interest of their client despite what their own best interest may be. Wouldn’t it make all too much sense that ever financial advisor be required to act in the best interest of their clients before their own? Unfortunately, though, an overwhelming majority of folks out there still hold themselves out to be financial advisors however, are not bound by any set of professional standards to only act in a fiduciary capacity for their clients. Now that doesn’t mean that every non-fiduciary advisor is Bernie Madoff or the Wolf of Wall Street, Jordan Belfort, and but the opaque land-scape of fiduciary and non-fiduciary all operating under the guise of financial advisors/ planners does mean investors have to do their own due diligence and ensure their advisor’s motivations are in-line with their own. First one must understand who is and who isn’t a financial advisor giving fiduciary advice to their clients.

Fiduciary advisors

In the world of stocks, bonds, and mutual funds, an investment advisor representative (IAR – whom carry a Series 65 license) provide advise to their clients under a fiduciary relationship. An IAR is able to manage their clients’ investment portfolios and buy/ sell stocks/ bonds on behalf of their clients and are typically paid a fee from their clients in the form of a time-based rate (i.e., hourly, monthly, yearly, etc.) or as a percentage of the assets the management (Assets Under Management or “AUM” fee). However, they are forbidden from receiving commissions/ kick-backs without explicitly disclosing the nature of that arrangement and the potential conflict of interest present within that. For example, if an IAR was also a licensed life insurance agent and they wished to sell their client a policy, they would be required to explicitly state the particulars of that arrangement to the client or would be in breach of their fiduciary responsibility. Certified Public Accountants (CPAs) also required to act in a fiduciary capacity for the clients they serve however, while their knowledge of taxes and financial statements may be robust they are not authorized to buy/ sell financial products on their clients’ behalves nor would they inherently possess the skills/ knowledge to assist their clients in asset management, retirement planning, etc. without pursuing additional education/ licenses.

What about Certified Financial Planners (CFPs)?

The CFP® board was, according to their website “founded in 1985 as a 501(c)(3) non-profit organization that serves the public interest by promoting the value of professional, competent and ethical financial planning services, as represented by those who have attained CFP® certification.” Its members are required to meet certain competency and ethical standard far beyond those of someone who obtains a license to sell stocks & bonds or insurance, however, there is no requirement for the individual to act in a fiduciary capacity for their clients. That fiduciary responsibility is either contained or omitted from that individual’s underlying licensure. So often, the CFP® certification is one obtained by broker agents and insurance agents to hold themselves in a better light to clients/ prospects than their counterparts without the certification. However, when push comes to shove, and trade comes to commission, there are no standards which require these individuals to act as fiduciaries.

Non-fiduciary “advisors”

Any individual acting as a broker agent for financial securities (whom generally carry a Series 7 securities license) or insurance agent (whose license depends on state and “menu” of products they sell) is not acting in a fiduciary capacity to their clients. That’s because their license authorizes them to sell a particular set of financial products and to receive compensation from the financial institution to do so. This sort of relationship causes a massive conflict of interest which needs to be considered by the client at all times. This conflict of interest is the exact reason why the general dentist can’t receive a kick-back from the endodontist for referrals. Because this sort of arrangement could interfere with their ability and desire to provide the patient with the recommendation best suited for the best clinical outcome. Unfortunately, the financial industry doesn’t work this way and broker/ insurance agents receive commissions directly from the party they refer their clients to all the time. Once you understand this relationship, you can uncover a lot about that individual’ motivations by asking a simple set of questions surrounding compensation including “why are you recommending this solution vs. other options?” or, “how are you receiving compensation in this arrangement?” can go a long- way to uncover the advisor’s motivations and biases. But it also helps to understand what types of advice & recommendations your advisor can and can’t make based on which licenses they hold.

What type of advisor is right for me?

At PracticeCFO we require that all of our CFO Advisors carry a CPA and Series 65 designation both of which bound the advisor to provide fiduciary financial advice to our clients in tax/ accounting and investment advisory and fully disclose any financial arrangements which may indicate a conflict of interest. We prefer the fiduciary-only model however, there are certain scenarios in which one cannot avoid working with someone acting in a non-fiduciary capacity as is the case with insurance. Simply put, when you buy insurance, someone is getting a commission. Unfortunately, that’s the way that industry works. And since most of our clients should have life/ disability coverage some of our advisors do hold life/ disability licenses and therefore receive commissions when placing insurance for their clients. That said we believe in a non-captive agency model where they are not tied to one particular carrier and require that this conflict of interest be explicitly disclosed.   -Paul Lipcius, CPA, PracticeCFO
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