Ask the Ethicist

Adviser compensation involves a conflict that can be managed — but not avoided

The CFP Board's revised standards reinforce its requirements limiting the use of the term "fee-only" to situations in which fees are the sole method of compensation

Jul 30, 2018 @ 1:59 pm

By Dan Candura

Over the past year, the Certified Financial Planner Board of Standards imposed discipline on several individuals regarding the way they disclosed compensation to clients and prospective clients. Specifically, the cases involved uses of the term "fee-only" when individuals or their firms received other types of sales-related compensation.

The most notable of these cases involved a Florida couple who took the CFP Board to court to overturn their public letter of admonition. They lost. These cases point out that there is still ambiguity over the use of terms like "fee-only" and "fee-based," as well as a perceived reduction in the marketing appeal of terms like "fee and commission" or just plain "commission." Since the CFP Board announced revised Standards of Professional Conduct that will take effect in October 2019, I decided this might be a good time to look at the issue of compensation disclosure by advice providers, especially by those holding themselves out as fiduciaries.

Included in almost every description of fiduciary duty is the requirement to avoid and manage conflicts of interest, as well as the requirement to act in the client's best interest.

Adviser compensation represents a manageable conflict rather than one that can be avoided since any method of compensation creates a situation where the adviser's interest in being paid something run counter to the client's interests in paying nothing — or at least as little as possible — to get advice that serves their best interests. All compensation methods have this same conflict, whether they're fee-only, commission-only or anything in between.

So the issue is not related to the conflict but rather to the management of the conflict and the accurate disclosure of how the adviser is paid, as well as how clients perceive the compensation to affect the adviser's ability to provide advice in their best interest. The clients' perceptions may or may not accurately predict the behavior of the adviser.

Let's begin by agreeing that consumers distrust commission salespeople. Likewise, they are more trusting when commissions are not involved. Please note, I am not taking a position over whether that is a smart approach or even if the perception is deserved. I am simply offering it as a base assumption.

Given a choice between working with someone on commission or with someone not earning a commission, consumers are more likely to take the "no commissions" option. This bias has been growing steadily and has resulted in new forms of compensation. It has also caused some financial service professionals to look for ways to avoid the negative perception consumers have regarding sales-related compensation methods. This led to an increasing use of the term "fee-based" as a way to highlight that fees are included as a compensation method, without triggering the negative connotations involved in describing it as "fee and commission."

(More: What does the new CFP standard mean for a CFP at a wirehouse?)

The CFP Board describes itself as "compensation-neutral" — it does not support one compensation method over another. As a credentialing body, it certifies that individuals meet certain standards of education, experience, examination and ethics. This contrasts with membership organizations like NAPFA that require members to be "fee-only."

Although the CFP Board does not support one compensation method over another, it does require that compensation disclosure be accurate and not misleading. It contends that consumers should have all the facts when deciding whether to engage a CFP professional, arguing that this is part and parcel of acting in the best interests of the client. It is hard to argue that it is not in the client's best interest to know how their adviser is paid.

The revised standards of conduct that go into effect in October 2019 reinforce the CFP Board's requirements over the last two decades limiting the use of the term "fee-only" to situations in which fees are the sole method of compensation for the CFP professional, their firm and any "related parties" when engaged in providing professional services.

The use of terms like "fee-based" must be clarified by stating that commissions or other sales -related compensation are also received and that the CFP professional is not "fee-only." The glossary provides further explanations of key terms such as "sales-related" compensation and "related parties." The standards also clarify types of compensation that are not to be considered "sales-related."

Gaining the trust of clients requires acting ethically when discussing compensation. This includes an accurate, understandable and complete description of all of the ways the adviser can earn and all of the ways the clients may pay.

I urge you to read the new standards and start to incorporate them now into your initial and ongoing meetings with clients. Regardless of how you are paid, you will benefit from the client having full understanding.

(More: Ask the Ethicist: CFP professional wonders about possible part-time gig)

Dan Candura is founder of the education and consulting firm Candura Group. Write to him to submit a question. All submissions will be treated confidentially.


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