If you are looking to use a financial adviser while you are working abroad, the first question you need to ask that expat adviser is:
“How do you get paid?”
It is crucial that you get a clear and unambiguous answer from the adviser and you need to understand exactly how they get paid for their services before committing to invest anything with them.
This is because it is likely to make a big difference to the advice you receive.
Typically, one of three compensation structures are used in this business:
Let’s have a look at how these work, how they differ and why you need know which compensation structure you are dealing with . . .
Financial Advisers that are paid on a commission basis earn their money in the same way that your average typical commission-based salesperson does.
In other words, they need to make a sale to make a living. So, you should consider the following:
Whatever qualifications they may or may not have, this type of adviser is really just a financial product salesperson. They’re not advising you on anything – they’re just flogging stuff.
They may claim to be ‘independent’ because they can offer products from a choice several different providers, but the reality is, choice of several providers or not, they are still relying on that provider to pay their (mostly upfront) commissions and because of that, the chances of the client’s interests being put before their own, are skinny slim to the square route of a big, fat zero.
This may also apply to advisers that work for firms providing their own range of funds – even though they may not receive commissions directly, they are still being paid to sell that range and so by default, they cannot be impartial when advising a client to use these funds.
Lastly, even if the adviser is offering a stand-alone investment platform, they can still make huge amounts of money through your portfolio by selecting actively-managed mutual funds that pay commissions of up to 5% and sometimes more.
Statistics show that this type of mutual fund rarely beats an index fund over time, so there had better be a damn good reason to use them.
Just to be clear, I am not criticising people for earning commissions from sales.
And I am certainly not berating the individual adviser for the position they are in – it is an inherent part of the way the offshore financial services industry has been structured by the financial institutions that provide the products, which unfortunately, makes for a rather toxic environment of greed, mis-selling and mis-conduct.
This is what I experienced early on in my financial services career, but after I understood the implications, I walked away and chose to work in a different way.
In the offshore market, commission-based advisers are almost never required to disclose how much compensation they receive and a commission-based adviser that voluntarily declares the amount of commission received is as rare as rocking horse poo.
If clients really understood exactly what they are going to be paying in fees, they would almost certainly never buy the products.
There is a classification of advisers known as ‘fee-based’. The fact the word ‘commission’ is no longer involved sounds promising, doesn’t it?
Erm, hold yer (rocking) horses there, partner. It’s not all good news.
Call me cynical if you like, but you’ll probably find that advisers who call themselves ‘fee-based’ are deliberately using that term in an attempt to disassociate themselves from the negative connotations of commission-based advisers, (i.e. the opinion that if your advice is to recommend solutions because those particular solutions pay you a commission and you discount the ones that don’t pay you, then you’re not providing impartial advice) and to ride on the success and reputation of the impartial ‘fee only’ advisers that don’t have to recommend specific products to earn money.
What fee-based advisers do is charge a fee, but they also accept commissions for introducing certain products, upfront and trailing commissions from load-based mutual funds, structured notes and alternatives investments, etc.
If you want to operate that model of business, that’s fine, but don’t go calling yourselves independent and making out that you’re only receiving a fee, when you’re taking commissions from front-loaded mutual funds and structured notes on the quiet.
It’s disingenuous and you’re just perpetuating the lack of transparency that gives the industry such a bad name in so many circles.
A final important note about fee-based advisers is that you need to be aware that there are actually some really decent advisers out there that mistakenly call themselves ‘fee-based’, when they mean ‘fee-only’, which doesn’t make it any easier to get to the bottom of what you’re dealing with!
It is important that the verify their status, so that you are not over-looking a potentially very good adviser due to ‘mis-labelling’ or another reason.
Fee-only advisers are paid on a flat hourly rate, on a project basis or based on a percentage of assets under management.
The only source of compensation this type of adviser receives is directly from the client – there is no commission from any of the products or tools recommended and so there is no link between the compensation and the recommendation.
This is what differentiates a fee-only adviser from a commission-based adviser and it’s a good thing, because it means that they have fewer conflicts of interest and can genuinely provide much more impartial advice.
If your salary depends on whether or not you can sell the client on a particular product, then your advice is never going to be impartial.
Fee-only is the only way to go, unless you like losing money through unnecessary fees and commissions.
Hopefully, this all makes sense and you can now ask the question to anybody that is potentially going to be looking after your money – or perhaps you can ask the question to your existing adviser if you don’t really know how he or she gets paid.
If you would like any more information, feel free to contact me.
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Read some more great posts on Expat Financial Guy.