Elevate Your Fiduciary Game (Before It’s Too Late)

A high standard

According to the RIA Compliance Group, RIAs may not fully understand the extent of their fiduciary obligations.

They’re required to provide “thorough written disclosures of potential or actual conflicts of interest” in their SEC filings.

Disclosures of conflicts have to be “sufficiently specific” so clients can fully understand the material conflict of interest.

It is the position of the SEC that advisors must “ensure that clients are provided with full and fair disclosure of all fees and expenses and related material conflicts of interest.”

Your disclosures concerning your fees, and especially how you collect them, may fall short of this standard.

Fee disclosure

The typical fee disclosure in the Form ADV Part 2A, Firm Brochure, sets forth a standard fee schedule, indicating the percentage charged on assets under management. As assets increase, these fees go down.

An additional disclosure commonly states that fees will be paid from the investment account by the independent custodian, upon submission of an invoice to the custodian showing the required details.

Do these disclosures meet your fiduciary obligation?

Are these disclosures specific enough so that clients appreciate the impact of the way your fees are paid on their retirement goals?

I don’t think so.

Actual impact

Consider the impact of a 1% advisory fee on a $1 million portfolio, earning an average of 6% a year over a 20-year period.

Total fees paid over this time would be $364,000.

Next, consider the impact of deducting these fees directly from the portfolio, since doing so will reduce the amount available for investment.

Investors whose fees are collected in this manner will lose an additional $189,000.

The real cost to investors of paying 1% of fees on this portfolio and having those fees deducted directly from assets held by the custodian is $553,000, or 25% of the total gain in the portfolio over a 20-year period!

You can run different scenarios by using this calculator on the website of Larry Bates, a Canadian investor advocate, author consultant and speaker.

Inadequate disclosure

How many clients understand that paying 1% of their portfolio and having those funds deducted from their assets would take such a big chunk of their gains over time?

To be sure your fee disclosure was adequate, you would express your fees as both a percentage of AUM and a dollar figure, indicating cumulative fees over various periods of time.

You would also give clients the option to pay your fees outside of their portfolio and show the additional earnings they would accrue if they elected to do so.

In California, you are required to demonstrate that your fee is reasonable and that “lower fees for comparable services may be available from other sources.”

Fiduciary vulnerability

Inadequate disclosure about the impact of advisory fees is not your only fiduciary vulnerability.

I have previously asserted that requiring clients to resolve disputes through mandatory arbitration may also violate your fiduciary duty. Chris Winn, the chief executive of AdvisorAssist LLC, a firm that provides compliance related services, agrees. In an article in the Wall Street Journal on March 8, 2016, he observed that mandatory arbitration clauses are “clearly a conflict.”

The author of the article, Norb Vonnegut, put it more starkly: “On what planet does mandatory arbitration put client interests first?”

Advisors use their fiduciary status as a compelling reason that they are worthy of trust. Inadequate disclosures that obscure the impact of your fees or deprive clients of their constitutional right to a jury trial may violate your fiduciary duty.

Review these issues with compliance counsel before it’s too late.

Dan trains executives and employees in the lessons based on the research on his latest book, Ask: How to Relate to Anyone. His online course, Ask: Increase Your Sales. Deepen Your Relationships, is currently available.

¹Brokers, who are registered through FINRA, are not required to be fiduciaries.

Read more articles by Dan Solin