New survey shows consumers lack understanding around effects of financial planner remuneration models
Remuneration has always been a contentious issue within the financial planning industry. This has manifested itself in the ongoing fee versus commission debate. But while regulators, financial planners and product providers battle it out, consumers are often left on the sidelines with very little guidance on how they should be paying for financial advice. This is according to a recent survey by financial services group, acsis.
According to acsis CEO, Andrew Bradley, the issue of how financial planners should be remunerated remains a burning issue in South Africa. Around the world financial regulators are banning the traditional commission-based model in favour of a fee-based system, with local regulators looking on with interest and considering their approach. In order to gauge consumer views on the fees versus commission debate, acsis surveyed over 400 middle-to-upper income South Africans on this issue.
The survey found that 49% of respondents expressed a preference to pay a financial planner a fee, while 39% preferred to remunerate them on a commission basis. The remaining 12% of respondents indicated that it did not matter, did not know or preferred neither model. The survey revealed little difference in the choice of remuneration structure between respondents with a financial planner and those without one.
Bradley says the fact that the preference for fees was not more overwhelming is an indication that consumers may not really understand the true implications of the two remuneration models. “This was evident in the responses by those surveyed when they were asked to list what they believed the advantages and disadvantages of each model were.”
43% of respondents indicated that there were no disadvantages of paying commissions to financial planners. Only 4% said that the recommended product is often driven by the commission the planner can earn and not the clients’ needs. Similarly, only 16% said that an advantage of paying fees was that it would lead to better advice as there is no commission to potentially influence a planner’s recommendation.
“It seems clear that there is a need to educate consumers on these matters. The unfortunate reality is that advisers who are commission driven have a significant conflict of interest in how they advise their clients to invest.”
In the traditional product sales approach, commissions are usually paid to advisers when their clients take out long-term policies such as life insurance, retirement annuities and/or endowment policies. “These advisers tend to offer ‘free’ advice since their clients don’t pay them for this service. However, be aware that they are remunerated by the product providers and clients are paying for this in one way and another. The amount of commission they receive will be based on how large the premium is and how long the policy will run for.”
The research also found that many consumers think that paying a commission is a cheaper way to invest. This misconception arises because consumers are led to believe that the product provider pays, so it does not really come out of their own pockets. Bradley explains that this is a fallacy as the commissions are ultimately deducted from the clients’ investments. “The product provider pays the commission on behalf of the client. In all instances where the client is paying a recurring premium, there is not enough money in the client’s account to pay the commission. Therefore the product provider will ‘lend’ the client money to pay his adviser on his behalf. The product provider will then charge the client interest on this outstanding loan until it is settled. It can take up to a number of years to settle this loan. This can only mean that the client gets no growth on his/her money for the first few years. It also means that if the client cancels the investment, to add insult to injury, he or she may well have an unsettled liability and get absolutely nothing back.”
He says most advisers who only earn commissions tend to focus more on selling products. “Therefore, the ‘free’ advice you get is likely to be biased towards the highest-paying products and may not always be in your best interests. In addition to this, most of the commissions paid to advisers are paid out in the first two years of a policy. This has encouraged commission-driven advisers to replace these policies after two years, regardless of whether they are meeting clients’ needs.
“While not all advisers are swayed by higher commissions, your needs should always determine the advice and products you receive. Be aware that by taking the seemingly ‘cheaper’ option, you run the risk of not getting the best possible financial advice. Sadly, by the time you realise this, it may be too late to do anything about it. In this way, the commission option could ultimately cost you a lot more than just money.”
Bradley says that as a result, fee-based financial planning has been gaining momentum both globally and locally. “If you choose to pay a fee for advice it is important that you understand exactly what you’re paying for and how much it will cost you. Fee-based advice usually comprises two components, namely a fee for the advice you receive and the financial plan that has been developed for you, and then an ongoing fee to take care of the implementation and maintenance of the plan. These fees are usually a combination of a rand-based fee and an asset-based fee. The extent of the fee will depend on the complexity and level of work provided and the size of the plan being managed.
“You should regard paying your financial planner in the same way that you would when paying any other professional service provider. Remember that they offer a professional service so their costs are determined by their experience and qualifications. After all, these are professionals who are trained and educated to best advise you on your finances. Be prepared to pay a professional fee for a professional service. In almost every instance this works out to be less than what you would have paid as a commission.”
