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Welcome to part 1 of our series Choosing a Financial Advisor. There are many things that we suggest people know before trusting any professional to handle their nest egg, and in this series we plan to touch on many of them. One of the very first things you should know is what kind of ethical standard your advisor is bound to follow.
In the Medical profession, each physician takes the Hippocratic Oath or to “do no harm permanently.” In the Legal profession, attorneys abide by the ethical rules of the jurisdiction they practice within, but what about your financial advisor? Financial advisors are held to one of two different standards depending on whether you are working with a fiduciary or a broker-dealer. While the title “financial advisor” may apply to both, there are differences that you should be aware of. The major distinction is whether your advisor is considered by the government as an investment advisor or an investment broker by the government. Each is held to a different set of standards. See: http://www.investopedia.com/articles/professionaleducation/11/suitability-fiduciary-standards.asp The Fiduciary Standard applies to investment advisors while the Suitability rule applies to an investment broker. From Investopedia: Investment advisors, who are usually fee-based, are bound to a fiduciary standard that was established as part of the Investment Advisors Act of 1940. They can be regulated by the SEC or state securities regulators. The act is pretty specific in defining what a fiduciary means, and it stipulates that an advisor must place his or her interests below that of the client. It consists of a duty of loyalty and care, and simply means that the advisor must act in the best interest of his or her client.
Broker-dealers only have to fulfill a suitability obligation, which is defined as making recommendations that are consistent with the best interests of the underlying customer. Broker-dealers are regulated by the Financial Industry Regulatory Authority (FINRA) under standards that require them to make suitable recommendations to their clients. Instead of having to place his or her interests below that of the client, the suitability standard only details that the broker-dealer has to reasonably believe that any recommendations made are suitable for clients, in terms of the client's financial needs, objectives and unique circumstances. A key distinction in terms of loyalty is also important, in that a broker's duty is to the broker-dealer he or she works for, not necessarily the client served. This can quickly lead to advice that is filled with potential conflicts of interest, thus it can be hard to trust the advice of a financial advisor. Can you imagine if a medical professional or legal professional had a duty to the employer they worked for, and not necessarily in the best interest of the patient or a client? Would joint replacements be done just because the physician needed more billable surgery, and not because it was medically necessary? Terrifying.
This is the very first thing to understand when searching for a financial advisor to hire. So fiduciary or broker? How do you, the consumer, start to figure out which standard your advisor is held to? It’s not easy. Many financial advisors can be both an investment advisor AND an investment broker, so there may be sometimes when one applies the Fiduciary Standard and then in the same conversation or meeting applies the Suitability standard. The easiest way to find this out is to start asking about how the Financial Advisor is paid, or simply follow the money! Here’s some questions to ask any potential financial advisor:
*Do you accept your fiduciary status in writing when investing your clients’ money?
*Do you get paid anything (commissions, gifts, vacations, perks, sporting event tickets, etc.) due to the recommendations you give your clients?
*How do you get paid, or how are you compensated?
*Do you sell products such as life insurance, annuities, private real estate placements, or anything else?
*Will you disclose any potential conflicts of interest?
*What licenses or credentials do you have? (Do you have a securities license or an insurance license? Do you have a license to give financial advice?)
At Guidance Point Advisors, our Investment Consultants adhere to the The Fiduciary Standard. We are all bound to put our clients needs above our own and it is something that we take very seriously not just because we have to, but because we want to. Is your financial advisor putting your needs first?
To find our complete list of questions you should be asking your current, or any potential Financial Advisors, please dowload our free Financial Advisors Interview Checklist at the link below.
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