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Fee Only vs. Commission-Based Advisors

There are three primary ways that financial advisors are compensated: [1] Fee Only, [2] Commission, and [3] Fee and Commission.  Each has its own set of conflicts of interest (none are conflict free!) but we believe that Fee Only has the least amount of conflicts.  Let’s explore the definitions and differences between all three.

Fee Only means that the only person paying the advisor is the client—no mutual fund company, no insurance company, no referral fees—just the client.  We believe this provides the least amount of conflicts.  It is our duty to recommend the financial solution (investment, insurance, tax or estate strategy) that is best for the client puts their interests before ours. Seems obvious, right?  It is called a fiduciary standard of care and it includes considering risk tolerance, time horizon, total return, needs for liquidity, cost to implement, ongoing costs, and the duty to delegate (hire experts outside our core competency), among other factors.

Commission-based compensation comes from a person receiving a commission from a financial company for a product that they have sold. They are a “broker” between the company and the client.  For example, an “insurance agent” is an agent of the insurance company not an agent of the client.  I’ll repeat . . . an agent of the insurance company.  Investopedia defines broker as “an individual or firm that charges a fee or commission for executing buy and sell orders submitted by an investor.”  In theory, you (the investor) have given a buy or sell order.  More often, the investor does not think they are giving a buy or sell order; rather, they think that they are acting upon “advice.”  Advice may have happened but you have been advised to give the broker permission to sell you a financial product (like shares of a mutual fund, an insurance policy, or an annuity) for which they will receive a commission. The word “advice” does not appear in the definition of “broker”.

Fee and Commission (a.k.a., fee-based) compensation is a combination of the two.  The CFP Board of Standards does not allow the term “fee-based” because they believe the term is confusing—people think it’s the same as “fee-only” and it certainly is not!  The most difficult challenge in the Fee and Commission world is knowing the advisor’s standard of care.  “Fee” (client’s interest first) and “Commission” (not a “best interest of client” standard) are used in the same phrase.  How do you know in what legal capacity this advisor is acting?  I don’t think the client is every told: “I am switching hats here.  For the past 30 minutes, my advice has placed your interests first.  Now (switching hats) I am selling a product, something that is ‘suitable’ for you but may not be in your best interests.” This is clearly a silly example but the issue is real and a grave concern for clients to understand so they can ask clarifying questions.

Receiving a commission for selling a product is fine and we at Inspired Financial may recommend an insurance policy (for example) where an agent gets a commission for their work.  However, we think it is imperative that an independent person has vetted the agent, the insurance company, the costs of the product, and searches for a solution that is in the client’s best-interest.

Inspired Financial is Fee Only. We are only compensated for our good work by our clients and we do not receive commission splits, referral fees, nor compensation by mutual fund or insurance companies.  Our duty to our clients goes beyond “advice” and extends into “planning.”  Financial advice is good, but financial planning changes people’s lives. We’re proud of our work with our clients and their impact on our world!

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