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What is fee-based financial planning?
Fee-based financial planning is a service offering that is growing in popularity in Canada for several reasons:
Fee-based financial planning is generally delivered in two ways. First, hourly fees for work performed and second, fees based on a percentage of client assets managed. This article will focus on the former rather than the latter.
Commissions and trailers:
In order to understand why fee-based financial planning is different one must first get a grasp on the traditional financial planning business model in Canada. Traditionally, financial planners in Canada are compensated by way of commissions and trailers. Financial planners will place their client’s money into a variety of mutual funds, new-issue products, insurance products etc. and collect a commission from the various companies that manufacture these products.
For example, a mutual fund sales-person may place your RRSP money into a mutual fund manufactured by a large money manager. Instead of the client paying the advisor directly, in many cases the advisor is compensated by way of a commission from the money manager. The commission can be an up-front commission (know as a “deferred sales charge”), an ongoing commission (known as a “trailer”) or a combination of the two.
Often, the client is unaware of just how much the advisor is being compensated and is also unaware of certain additional incentives that the advisor may have to place their client’s money into specific funds.
Fees instead of commissions:
The desire for a more neutral approach to financial planning is giving birth to the fee-based approach. By utilizing a fee structure based on time and service rendered an advisor is free to design a financial plan for a client free from external influences.
For example, where a commission based advisor may naturally have a bias toward recommending an equity based mutual fund portfolio in order to generate higher commission revenues, a fee-based advisor may recommend a fixed income portfolio, a real estate investment, or possibly even favor debt repayment over investments entirely because they are not influenced by a potential commission. Theoretically, a fee-based advisor should have no external influence and provide a more client centric service.
Nothing is free and implementation is key:
One of the challenges in the fee-based financial planning industry is the fees themselves. Canadian clients are not yet entirely accustomed to paying for investment or financial advice directly. Even when the overall cost to the client is higher in the form of commissions and trailers (which is most often the case) some clients feel there is a psychological barrier to writing a cheque to an advisor.
A second barrier to fee-based financial planning is implementation. Once you’ve received your financial plan you must implement it for it to have any value. Implementation is often a major road-block for clients as they don’t have the time or know-how to do it.
Fee-based financial planning can be an excellent way to get a product neutral perspective on your financial situation. As a client you must be prepared to get an understanding of the various service offerings available to you so that you can make the correct choice. While fee-based plans can provide value, clients must be willing to implement the plans themselves in order to reap the true benefits of the service.
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