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Column Getting financial advice is a good idea, but check the small print

High commissions charged by financial advisors means there is always a conflict of interest when dealing with clients and many are far too well paid for their efforts, writes David Quinn.

I CAME INTO the ‘Financial Advice’ industry relatively late, in my 30s. After completing my university degree I worked for a couple of investment banks in the IFSC. This gave me a great insight into how the investment management industry worked and where all the fees went. In 2006 I decided it would be more satisfying to work with real people, not institutions, and actually try to use all the knowledge I had gained to actually help make a small difference.

To say I was shocked by the Financial Advice model would be an understatement. To get comfortable with all the complex products and charging structures I started with a life assurance company and did a six week ‘induction’ course. This had very little to do with good advice, and more to do with sales craft and how to lead clients towards buying products. The intentions were good overall, as they tried to help clients secure their financial future, but the incentives to abuse clients were huge given the high commissions available for financial products.

There are a very large number of financial advisors in Ireland, most of whom are solid, reliable and well-intentioned individuals. They have the client’s best interests at heart. But there is a big problem: high commissions mean there is always a conflict of interest when dealing with clients and many are far too well paid for their efforts.

Commission fees

The best financial advisors I have come across have enough confidence in their abilities to charge a fee, rather than earning commissions. They feel they can add value to their clients and give enough high quality advice to be able to charge their clients directly. However, these fees are only a drop in the ocean compared to the potential commissions on offer when selling life assurance and pensions.

As an example, I came across a client recently who had been given advice by a long term broker friend of his, where the broker potentially trousered €75,000 in commissions without the client knowing. Now that is an extreme example, but it is worth noting that the average commission, including override, available on a €50,000 lump sum investment is €2,250. Just consider that figure and how much work a professional service provider such as an accountant or your local dentist would have to do to justify that fee.

To give some further examples, here is a table of typical commissions earned:

Product Type Amount Commission Earned Note
Mortgage Protection / Life Assurance €50 Per Month €1,080.00 180% of Year 1 Premium
Pension Single Premium €10,000 €625.00 5% + 1.25% Override*
Investment Lump Sum €100,000 €3,750.00 3% + .75% Override
Pension Regular Premium €1000 per month €1,200.00 10% Initial, 3% Renewal
* Override is additional loyalty or bonus commission earned for placing more business with a firm.

Who Pays?

So, who pays for the advice if you are not paying? Who pays for these high commissions?

The client always pays.

It may not seem obvious right from the start, but the commissions are earned back over a number of years by higher annual management fees. In the UK, where most commissions have now been banned, Investment Management Fees are significantly lower. Typical investment and pension management fees in Ireland are around 1 per cent-1.25 per cent and can be as high as 2 per cent.

This doesn’t even take account of other costs within investments, that don’t have to be declared, but that is a discussion for another day. When commissions are removed from the equation, these charges can be at least 50 per cent lower and over the life of a pension fund that can make a huge difference. For a 30-year-old, putting €500 per month into a pension, reducing management fees from 1 per cent to 0.5 per cent can increase his pension pot at age 65 by over €60,000.

Life assurance policies pay out similar generous commissions to brokers, although the immediate impact is even less obvious. Often the first two years of premium go to pay broker commissions. Life Cover is generally 10 per cent-15 per cent lower for ‘nil commission’ contracts, but again that will generate a big saving over a typical 20 years mortgage protection policy.

How much to Pay?

I fully understand that everyone has to be paid for their work, and you can’t expect a financial advisor to work for nothing. However, in my experience since starting in the industry, advisors are paid far too much for very simple and straightforward advice. The amount an advisor earns should be directly linked to their skill and the quality of advice given. This can only be determined by the client and should never be determined by the product providers.

Selling a simple mortgage protection product really should be very difficult and it’s not a complex product. Investment advice can be extremely complex, but in so many cases recently, I have seen brokers walk away with five-figure commissions for one hour of work selling a ‘Capital Guaranteed’ bond to a client.

Where to go?

Next time you are getting financial advice, ask your advisor if they offer a ‘fee based’ service, and how that would compare to commissions. Check their Terms of Business to insure they have a large number of agencies and that they have clearly set out their fees. Then negotiate what you feel is a fair amount of compensation for the work completed. A register of ‘fee based’ advisors is difficult to find as there are not very many of them out there. The Financial Planning Standards Board has a register of Certified Financial Planner™ Professionals, which is the highest qualification for financial advisors in Ireland, but doesn’t guarantee a fee bases. The Society of Financial Planners is another good source of information on ‘fee based’ advisors.

Here are the top five questions you should be asking:

Five key questions to ask a financial advisor before engaging with them:

  1. How do you get paid? Do you offer a transparent fee based service with no commissions?
  2. What are your qualifications? Do you have any post graduate qualifications, CFP™ or other qualification other than the basic QFA?
  3. What software, research and advice tools do you use to find me the best solution? (Otherwise advisors tend to just use the latest marketing material provided by their favourite life assurance or investment company)
  4. How many different companies do you deal with, and why? (Many advisors have a preference for one or two companies in order to earn override (bonus) commissions, even though they claim independence.
  5. Can you offer broad advice or are you a specialist? Are they a mortgage broker who offers other advice, or are they fully trained in all aspects of personal financial planning?

David Quinn is the Managing Director of Established in 1988, Investwise is the trading name of Fitzpatrick Morris Financial Services Limited. With years of experience in the financial industry, they offer independent services and advice on a range of financial matters.

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