Is your financial advisor putting your interests first? I just participated in a panel discussion on this topic. Here’s what you’ll want to know.
Is the advice that your financial adviser gives you always in your best interest? It may seem like an odd question that you shouldn’t even have to ask. But advisers sometimes push high-cost or inappropriate investments that do more to enhance their own income than the size of your nest egg. And many investors don’t understand the fees they’re being charged.
In an attempt to curtail these practices, the Labor Department has issued a new rule mandating that any financial adviser who recommends investments for retirement accounts must do so with the best interests of his/her clients in mind. The rule, which will be phased in next year, is expected to save individuals billions of dollars a year. However, some investors may be negatively affected.
To help you understand the implications of the new rule for you, Bottom Line Personal spoke with retirement-planning expert Pam Krueger…
Because not all advisers play by the same rules. Anyone who manages a 401(k) or other employee retirement benefit plan already has what’s known as a “fiduciary” responsibility. That means he/she must provide advice in your best interest and charge reasonable fees. But brokers, insurance agents and other advisers who recommend investments for your IRA are legally held to a much less rigorous standard. They only need to recommend “suitable” investments to meet your objectives, even if that advice presents obvious conflicts of interest. For example, a broker can put you in an expensive “in-house” mutual fund at his firm that earns him a commission even if there are similar low-cost funds that are just as good.
Of course, there are responsible brokers and other nonfiduciary advisers who don’t give tainted advice or charge excessive fees. But the new rule requires any advisers who want to continue to sell commissioned products to be completely transparent. They will have to sign a contract with you disclosing all fees and potential conflicts and vouch that the products are in your best interest.
Because the Labor Department’s jurisdiction to protect investors is limited to retirement savings. This includes all types of IRAs, 401(k) and 403(b) plans, Keogh plans, Health Savings Accounts and Coverdell Education Savings Accounts. The Securities & Exchange Commission, which sets standards of protection for nonretirement investment accounts, has been developing its own conflict-of-interest rules for years. But powerful Wall Street firms have lobbied hard and blocked such rules.
If your adviser charges by the hour…takes an annual fee based on the percentage of assets in your account…or is a certified financial planner (CFP) or SEC-registered financial adviser who already is required to abide by fiduciary standards, there will be minimal to no changes. However, if he/she works on commission, the changes may be significant. In fact, some brokers are likely to eliminate customers with accounts of $50,000 or less or stop giving advice even to customers with larger accounts than that because they no longer will make as much money from those customers. For example, at Merrill Lynch, brokers have been encouraging clients with less than $250,000 in assets to move from commission-based accounts to one of five fee-based “managed portfolios” at Merrill’s online discount brokerage, Merrill Edge, which charges a flat annual fee of 1% of assets but does not charge separate trading fees. Managed portfolios require a minimum investment of $20,000.
To some extent. When a financial adviser has to justify why a particular investment is in your best interest, it often boils down to cost. Are the fees reasonable? Is there a cheaper comparable product? Some advisers may become reluctant to recommend—or even unwilling to give access to—high-cost investments for certain customers even when those investments are in the customers’ best interests in order to avoid even the possibility of a lawsuit.
For many investors, yes. Your investment costs will drop substantially if your adviser has had you in high-cost investments but instead starts putting you into index funds and ETFs…or if you select a broker who charges very low commissions for stock trades. But some investors actually could see their costs rise. For example, if you are in a commission-based account and you rarely paid commissions because you’re a buy-and-hold investor, you might end up paying more if you are transferred to an account that charges an annual fee.
The new rule makes it easier to bring a lawsuit and receive damages if the adviser failed to fulfill his fiduciary obligations. In the past, brokerages often required clients to waive their legal rights and accept mandatory arbitration over disputes. And insurance agents who put clients into variable annuities could evade responsibility by claiming that they didn’t advise you to buy the product—they simply sold it to you. Under the new rule, it will be more difficult to defend such actions. In case you consider suing, maintain a paper trail of your actions and communications with your broker.
Any investments made before April 10, 2017, will remain subject to the old, less stringent “suitability” rule. But starting on that date, new investments must be in your best interest even if you are putting more money into an investment that you have held for years and even if you are shifting money from an investment made before April 10.
Ask whether your adviser already treats you according to fiduciary standards. If not, ask him to provide a written statement of the total fees and charges. If he recommends an investment that requires you to pay a commission or a high fee, he should explain why that’s in your best interest. Also, find out whether he has put restrictions on what products and services he offers to you. Ideally, he should help you create a diversified portfolio by picking the best options available even if that means mixing and matching funds, ETFs and other investments from competing firms.