As someone who started his planning career at a fee-only RIA, I thought the word fiduciary made us immune to conflicts of interest. Transparency and trust are paramount to successful advisory relationships. I couldn’t understand why any client would knowingly engage an advisor through brokers or salesmen when an entire channel exists for firms legally bound to provide objective advice.
As investment management becomes more commoditized, most advisors are shifting their message and value proposition toward objective, comprehensive financial planning, recognizing that investment management is but one piece of the much bigger financial planning pie. However, even as we acknowledge that our ability to deeply integrate our clients’ financial lives through planning is the most valuable service we offer, many of us still charge a fee solely based on the assets we manage.
This misalignment creates the potential for a corrosive conflict of interest.
However, with a flat-fee structure, clients don’t have to wonder “what’s in it for my advisor?” when making high-stakes financial decisions. Charging flat fees may not seem as profitable or scalable as the AUM model, but it has its benefits. It’s stable, consistent and relatively insulated from market volatility.
I knew working with clients under this fee arrangement would be different, and I realized the gravity of the difference relatively early on. We had just signed on a fantastic prospect — a 72-year-old surgeon earning almost $750,000 annually with a $2 million Rollover IRA and another $2 million in his 401(k) at work. In most AUM models, that asset structure would mean a $20,000 initial fee and a 100% raise when he retires.
During our onboarding process, we reviewed the client’s 401k documents and learned that his current plan permits incoming rollovers and allows him to delay required minimum distributions on assets held in the plan until he retires. A quick calculation showed that rolling the clients IRA back into his 401k would save him over $30,000 a year in taxes while he continues to work, not to mention the impact of deferring that income until he’s in a lower tax bracket during retirement.
Because our fee isn’t tied to investable assets, it was simple for us to make the right decision. We rolled the IRA back and saved the client more in taxes than he pays us in fees. The client has no other tangible billable assets from AUM fee standards, so instead of billing from an account the client pays us our fee out of cash flow. Most advisors wouldn’t be able to work with this client if they recommended rolling back the IRA because there would be no assets to bill from.
We’ve worked with this client for six months and he has already referred a friend to us.
The advice this client was relying on us for further highlights how our industry is changing. Many advisors are “leading” with financial planning, yet the fundamental structure of the AUM model incentivizes firms to gather new, and retain current, billable assets. That’s not always what’s best for the client.
Beyond the obvious conflicts of asset-based pricing in a planning-oriented model, such an arrangement also sends the wrong message to clients about what they’re paying for. Pricing communicates something about what we offer — if you only offer financial planning to those who consolidate their investment portfolio with you, what does that communicate to the client about the value of planning?
A misalignment like this doesn’t do us or our clients any favors. For advisors, this narrative leads to a greater emphasis on short-term investment performance rather than long-term financial goals. For clients, it dilutes their perception of the value of and need for planning.
We all know this is not a one-size-fits-all business. If you’re an investment-focused advisor or if your primary value is as a stock picker, then your fee should reflect that (and likely it will be the AUM fee). For planners who want to provide financial advice beyond a managed investment account, charging a fee that closely aligns with your service is powerful on many levels.
If you’re a planning-centric firm, or want to become one, take a closer look at how you charge your clients — a flat-fee might be the way to go.
