You may have noticed in the news recently that President Barack Obama is calling for new regulations for brokers who want to provide advice for retirement accounts. In a nutshell, these new rules seek to reduce conflicts of interest and protect investors from being steered into costly investments. This will be done by requiring these brokers to adhere to a fiduciary standard, one which will require brokers to act in client’s best interests. Good news, right? Unfortunately, the current legislation only applies to when the broker is providing advice to a qualified plan such as a 401(k) or a 403(b), and not to their other clients that may have retirement accounts such as an IRA. How can you ensure your advisor is required to act in your best interests? Here are a few questions to ask them:

 

Are you a Broker, Registered Investment Adviser, or both?

Brokers, also known as Registered Representatives, are regulated the Financial Industry Regulatory Authority (FINRA), and are required to only provide advice that is suitable for their clients objectives. This basically means that while making a recommendation, a broker must reasonably believe that a product is ‘suitable’ for a given client.

A Registered Investment Adviser (or Investment Advisor Representative) is registered with and regulated by the Securities and Exchange Commission (SEC) or a state’s securities regulator. Advisers regulated by these bodies are required, by law, to put their clients’ interests above their own; adhering to a ‘fiduciary standard.’

The key difference between the two is simple, and I’ll deliver it to you in terms of loyalty. The broker’s (aka registered representative’s) loyalty is to the company he or she works for, and the Registered Investment Adviser’s loyalty is to his or her client.

The worst of the three relationships is when your advisor is both a registered representative and investment advisor representative. These folks are known as ‘dually registered’ advisors. The practical application of this situation is that you rarely, if ever, know when the advice you are receiving is in your best interest and without conflict of interest.

 

How are you compensated?

It is critical to know how much you are going to pay an advisor and how they are going to get paid. Some financial advisers are compensated as a percent of assets, a flat fee, or an hourly rate. Others are compensated by commissions when they place you into a product such as a loaded mutual fund or a variable annuity. Still others are compensated by a blend of both methods. Most times the question of whose interest the advisor is serving get murky when your advisor is compensated by a combination of fees and commissions.

 

What are your conflicts of interest and how do you disclose them?

How much soft money does your advisor get from investment companies? Did someone else pay for all or a part of the seminar they hosted when we met? Are they paid more to for the investment they are recommending than other ones available? Often the conflicts of interest are too many to review and properly understand in one meeting. The nuance of who’s-paying-who is often so confusing that most advisers aren’t perfectly clear on the process. Your best bet on getting down to the important conflicts: Ask your advisor their conflicts of interest and after that, ask for a copy of their ADV part II, which is a document that lists those conflicts of interest. At the very least, all advisors have conflicts of interest in the same manner that almost all businesses have a conflict of interest with their clients and customers. The most important thing is that the conflicts are disclosed and you understand them.

 

Your best bet: If you don’t like your advisers’ advice to be served with an unhealthy side of conflict of interest, choose the advisor who is required to act in your best interests all of the time, not some of the time or never.