If you have researched financial advisors recently, you probably came across the word, "Fiduciary." It is a common buzzword these days among financial advising and consulting firms. But what exactly does it mean?
The honest answer is that it depends who you ask.
WHAT IS A FIDUCIARY?
The definition on which most people can agree is that a fiduciary puts the interests of their clients above their own. Recommendations are made with no regard for the financial advisor's benefit or compensation. A common way advisors and consultants accomplish this is to charge a flat fee for their planning services. They must also disclose any conflicts of interest that might arise should the client proceed with their recommendations.
But that is where the agreement generally ends and where the practical function(s) of a fiduciary become gray.
FURTHER READING: WHY YOU CAN’T AFFORD TO DO YOUR OWN FINANCIAL PLANNING
For example, you, as a client, might decide to take the fiduciary's recommendations and implement them through other brokers and investors, at which point you would pay those brokers and investors the commissions and fees associated with those investments. However, if you choose to invest with the advisor/fiduciary who created your plan, the advisor can still operate as a fiduciary and still draw commissions and fees, though some might say collecting commissions and fees ends an advisor's role as fiduciary. There are rules in place regarding compensation and "suitability" of investment advice offered when it comes to this topic. But, an easy way for advisors to function as both broker and fiduciary is to manage investments by charging a percentage-based fee for assets under management. This way, if assets go up, the advisor’s revenue increases, and if the assets go down, the revenue decreases. This maintains an absence of conflict of interest and creates a motivation for the advisor to monitor fund performance, fund expenses, tax harvesting, rebalancing, and the other aspects of portfolio management that increase returns.
As per their obligation to put you first, there should always be a transparent conversation about pay structure, including flat fees, rates, and commissions, before you agree to invest with or purchase insurance products from a fiduciary.
WHEN IS AN ADVISOR NO LONGER A FIDUCIARY?
Some would say an advisor no longer acts as a fiduciary when he or she receives a sales charge when managing an investment account on your behalf. In this instance, compensation is provided upfront, regardless of fund performance, which encourages the broker to show less interest in the ongoing performance and maintenance of your investments. This puts the broker's interests ahead of yours, the client.
The broker may also be motivated to move your money in and out of various funds because every new fund purchase produces a sales charge. However, trades or new fund purchases in an account managed by a Fiduciary for a fee on assets under management will not incur any charges when moving money from one fund or stock to another. Therefore, when a Fiduciary calls to discuss a change in your portfolio, you will know that the change is meant to increase the account's value and is in your best interest because that is the only way both you and the Fiduciary will make more money. By definition, you cannot always trust that this will be the case with the broker investment model, because every change generates compensation to the broker whether your account moves up or down.
FIDUCIARY AND INSURANCE
When a financial advisor recommends that their client purchase insurance as a part of their financial plan, and the advisor provides this service for a flat fee, they are still acting in the capacity of a fiduciary. Once the recommendations have been given, and the client is satisfied with the assembled plan, the planner or advisor can offer to provide the products needed to implement the recommendations. But, at this point, they have transitioned from serving the client as a Fiduciary to functioning as a broker or insurance agent. In this stage of the process, the advisor or planner receives a commission for handling the implementation of a specific insurance product and serves their client as an insurance company representative.
FIDUCIARY AND EDUCATION
An important part of the fiduciary’s role is to keep you, as their client, educated in all the latest investment opportunities and strategies. Fiduciaries function as a guide, not a salesperson. Your decisions do not affect the financial status of the fiduciary. So, when new investment opportunities arise, fiduciaries help you understand the risks and rewards, as well as the best approach to maximize your investments without ulterior motivations.
THE BENEFIT OF A FIDUCIARY-BROKER
One reason to plan with a firm that can invest as a fiduciary and also provide the needed insurance products is to avoid the miscommunication and inevitable disorganization that occurs by having multiple relationships handling your financial affairs. Many physicians and dentists find this approach helpful because it creates financial symmetry and minimizes energy spent ensuring your financial plan is being properly executed. A fiduciary who also has the capacity to act as a broker during the implementation phase is, to put it simply, a one-stop-shop for the planning and execution of the plan.
Trust and peace of mind are among most people’s top priorities. The point of hiring a Financial Advisor is to minimize the level of worry and stress you experience with your investments, while allowing a trained professional to do what they do best. Ideally, this trained professional can communicate objective truths about your ability to achieve your financial goals, giving you not only peace of mind, but also a clear path toward financial success.
If trust and objectivity are critical components for you, it might be wise to consider charting your financial strategy with a fiduciary.