This is part two in a series that looks inside the financial services industry at what advisers tell their clients and - more importantly - what they don't. You can read the first part here:
When you sell a house, it is a one-time transaction with a rather large one-time commission fee. There is a clear relationship between a big sale and a big fee. After the sale, you likely don't expect much more from your real estate agent than a promotional calendar at the end of the year.
In the investment industry, however, you have a right to expect that your adviser is still advising you nine months after you start a relationship. Yet in some areas, the way a mutual fund seller is paid provides a big disconnect: It can create a scenario in which an adviser quickly loses interest in spending time with you once the investment is made because the adviser's compensation is mostly made at the beginning.
An investment adviser is meant to work with you long term, but in many cases, they and their firms get paid a 5-per-cent fee up front and a much smaller ongoing payment - somewhere between 0.25 per cent and 1 per cent a year.
This can be found with many mutual funds, principal-protected notes or other "packaged" products. The best way to find out if this is how your adviser is paid is by asking two questions.
The first is, "Can you explain how you get paid in some detail?"
The second is, "Can I sell this product in six months without any extra fees?"
Usually the reason you might have to pay fees if you sell a product in the first few years is to cover off the upfront commission paid to the adviser.
More on financial advisers:
My problem isn't necessarily with the amount of the fee, but with the behaviour it provokes. If you got paid 10 times as much to work on one project than your other projects at work, we know where you would spend your time. It is human nature.
Unfortunately, this pay structure promotes the finding and selling, but not the ongoing relationship and advice that most people are looking for.
In my opinion, a better way would be for all investment management companies to pay advisers an amount that is equal over time and allows a client to leave at any time without feeling locked in by fees such as deferred sales charges. These charges can leave you with a fee of as much as 7 per cent if you decide to sell certain mutual funds within a year of buying them. If an adviser is paid an equal amount over time, a client is just as valuable to an adviser in their 60th month as their first.
I believe that paying an adviser a level fee over time is a much better approach because it creates a feeling of having to earn your client's business every day - not just the first day. This model is out there, but you sometimes have to look a bit harder to find it.
Once you understand how investment advisers are paid, you can start to make more informed decisions about who to work with, what their motivations are and how to find the right partnership.
Other articles in Ted Rechtshaffen's Adviser Secrets series: