Fees or Commissions - The debate heats up

In Australia there have been moves to make commissions on investments illegal.  The reasoning for this is that someone who is paid by commission can be unduly influenced by the rate of commission being received. Recently it was announced that the AMP in Australia would stop paying its investment advisers commissions.  They have been very coy about making any such commitment for their New Zealand advisers.

For advisers such as ourselves who offer a fee only service for portfolio management investor clients, the issue of commissions is not normally a consideration.  Any commission that would have been received would normally be rebated back to the clients’ account, as would for example any fund manager rebates, and trail fees. 

This works very well for contracted portfolio management clients.  It does however have severe limitations for investors who are only transactional and who do not want to pay a fee for service.  These investors have traditionally invested knowing that the adviser (or advisory firm) would receive commission and/or trail fees.  The reputable advisers would invariably decrease the commission rate (from say the allowable 4% showing on the investment statement to perhaps 1%).  So for a $10,000 investment the advisory company may receive $100 for placing the investment and maybe $25 per annum as a trail fee.  It may have taken around one hour, so the revenues received could only be the equivalent of 30 or 40 minutes chargeable time.  On this basis, the investor would on the face of it have received a cost effective investment.

This scenario changes dramatically if for example the investor invests say $250,000.  In the same hour the adviser spent with the investor, he would receive $2,500 commission or brokerage and an ongoing $625 per annum trail fee.  But for such a sum of money the adviser should really have carried out a full needs analysis and produced an investment plan.  And as the investor was not prepared to pay an ongoing fee, the adviser would be very limited in what he could recommend as the most cost effective investments tend to be wholesale, and available only to clients who are contracted to use a wrap account investment platform.  So the adviser can be hamstrung by the investor who is not prepared to pay for what would most likely be in the investor’s best interests.

A few investment advisers have decided that they will only offer advice to fee paying clients.  The downside of this is that if the potential investor is not prepared to pay for advice, they will be told to go elsewhere, and the chances are they will receive inferior and often unqualified advice from an adviser who simply clips the ticket and receives brokerage and ongoing trail fees.

Investors, journalists and regulators need to be aware that some investments particularly superannuation funds that are QPROPS registered for UK Pension transfers, and also the majority of KiwiSaver Schemes pay trail fees (and some especially KiwiSaver schemes pay procurement fees).  If an investor wants to invest in these it is inevitable that the adviser will receive trail fees even though the adviser may want to be only fee based.  The trail fees for these sorts of investments are built into the fund manager fee and realistically cannot be rebated back to the investor without incurring considerable costs. 

The most important thing in the fee versus commission debate is that the amount of commission or trail fees receivable should be disclosed in full to the investor prior to investing.  The adviser should possibly also sign off that they have given the investor the best advice that they can considering a wide range of products and that they have disclosed all known real or potential conflicts of interest.