Back in the day, the “F” word was usually associated with a fresh bar of ivory soap in your mouth and a clear indication that you said something you shouldn’t utter. The “F” word I am talking about today is the complete opposite. It is proudly displayed like a badge of honor and not because of moral decay in our society. In the financial services industry, the “F” word takes on an entirely different meaning. Of course, I am talking about the word ‘fiduciary.’
In legal terms, a fiduciary is an individual or organization responsible for acting on behalf of another person or entity with utmost honesty and integrity. In the investment world, the “F” word, fiduciary, is a good word to hear when searching for a financial advisor.
Why choose a financial advisor that uses the “F’ word
When a financial advisor acts as a fiduciary, they seek to minimize conflicts of interest, are transparent, and attempt to live up to their trust. While you may think that all financial professionals should live up to that standard, they don’t.
Advisors who follow a fiduciary standard are legally and ethically bound to put their client’s interests first before their own financial interests or their firm’s sales goals. At the end of the day, when you are looking for financial advice, you want guidance that is specific for you and your particular situation.
The Government makes the “F” word tricky
For a long time, brokers and insurance agents followed what is known as the suitability standard. They could make recommendations of high commissioned products when there are far cheaper and better performing options available. They were not required to make recommendations based on your best interests; they just had to ensure the investments were suitable. Think of it this way, do you want your new outfit to fit, or do you want your new outfit to look great?
In an attempt to adopt a better standard, in 2016, the Department of Labor released the Fiduciary Rule mandating that certain financial professionals act as fiduciary when providing recommendations for retirement accounts and further barred advisors from making recommendations that represent a conflict of interest. While it sounded good, in my opinion, the rule was confusing and had its flaws. Nevertheless, it was short-lived, and in June of 2018, the US Court of Appeals vacated the rule.
In 2020 the SEC followed up with their version of creating a better standard, implementing Regulation Best Interest, often referred to as Reg BI. Instead of requiring the fiduciary standard, they established what is known as the best interest standard of conduct. Reg BI does not isolate specific financial professionals or accounts and requires the new standards for broker-dealers, associated persons, and all types of financial accounts. However, many inside the industry argue that Reg BI does not go far enough by actually requiring a fiduciary standard.
While understanding any government regulation details and the specific terminology can be tricky, not all is lost. Throughout most of my career, people generally did not know the difference between advisors who acted as fiduciaries and those who didn’t. Today, after the Fiduciary Rule and Reg BI have brought awareness, most prospective clients seeking financial advice know enough to ask if we operate in the fiduciary capacity. I believe the increased awareness by consumers has pushed the industry overall in the right direction.
With all of the confusion, the bottom line is I’m a firm believer in the words written by Robert Fulghum, reminding us that all we really needed to know we learned in kindergarten, including to play fair. My belief continues to include the Government can and will create rules and regulations in an attempt to make things better. Unfortunately, they can’t force every person to follow the golden rule. We will always have some that give a bad name to others and government rules and regulations, while well intended, usually have unintended consequences.
How can you tell if your financial advisor follows the standards of the “F” word
Today, financial advisors acting as fiduciaries advertise their status, almost as if they are shouting, you can trust me versus the competition. The big question is, while they can talk the talk, can they walk the walk?
It takes time, research, and understanding of your situation for an advisor to truly practice the fiduciary standard. Suppose an advisor can provide a financial recommendation within five minutes of your initial meeting. In that case, I do not believe that the advice was based on a thorough analysis of your accounts, goals, and circumstances.
There is an old insurance industry saying that comes to mind. The answer is insurance, now what is your question? You should hopefully be able to differentiate slick-sounding sales pitches versus genuine, personalized recommendations. Look for the advisor to communicate the pros and cons of your choices as they present different options as opposed to one-sided pushy presentations.
You should also understand your advisor’s compensation methods and identify if the compensation could impact the types of recommendations made. There are three typical methods of compensation that most financial advisors follow.
- Fee Only – Fee only advisors are compensated directly by clients for the advice they give. They receive no commissions or referral fees from their recommendations. No matter what they recommend, the compensation received is the same, eliminating many potential conflicts of interest.
- Commissioned – Commissioned advisors earn commissions, or some form of kickback, based on the investment transactions they make for clients. Different investments pay the advisors different commission rates, leading to potential conflicts of interest. Is the recommendation made because it is thought to be the best option, or because it will pay the advisor the highest commission?
- Fee-based – Fee-based advisors earn fees for advice they give but can also earn commissions on investment and insurance products they sell, keeping the potential conflicts of interest in place.
Advisors who follow the fiduciary standards must identify all the fees they charge and commissions they receive plus disclose any instances they are compensated for making a particular recommendation.
At River City Wealth Management, we proudly choose to operate as fee-only advisors because we believe it is the most transparent, objective, and fair manner available to our clients. The investment recommendations we make are based solely on what we think is in our clients’ best interest in achieving their specific goals. It is easier to be confident that an advisor is acting as a fiduciary if they get paid the exact same no matter what they recommend, as is the case with fee-only advisors. If you are worried that your current financial advisor does not operate in your best interest, please give us a call because your goals are our passion.