December 31st 2012 marked a dark day for financial advisors, when the Financial Services Authority told IFAs that they would no longer be able to receive commission payments for insurance related products sold through their practice.
To help you understand the implications of this…
For independent financial advisors, they used to have 2 different ways of being compensated for their advice. One method was to operate on a fee-based basis, where the client would pay one upfront fee to receive the financial advice from their advisor.
The other method of compensation was a commission-based structure. The IFA would recommend what insurance product, investment fund, or any other product that would be in the best interest of the client.
For many, they would operate a fee structure, where they would use both types of compensation methods. Being paid an upfront fee, and then receiving commissions on top of that. That also meant that they could lower costs and be able to compete for new business. The problem identified by the FSA was that this could be seen as some Independent Financial Advisors, not being capable of providing unbiased advice to their clients.
In a struggling market, where financial advice is relied on to stretch budgets to the maximum, it could have implications when an IFA is limiting product recommendations, to recommend investment products, such as pensions funds, to clients based on the commission they receive.
A pension fund used to be able to be sold, and the advisor could take a percentage of the return. Example: An investment fund with a £250 annual fee attached to it. That runs for 10 years with a percentage coming off your capital growth, it could see your returns paying out thousands to advisory services.
When you think of an example like that, it’s easy to understand why the changes have been made, as that can add a significant return to the earnings of an IFA, making certain products more favourable than other low paying investment funds. All advice will now be given, with full disclosure and no bias towards any product or service, advisors may be associated with financially.
The 2 tiered compensation days are gone, in what’s a new effort for a consumer driven marketplace, where advice is given on a strictly non biased basis. Commission fees are out the industry, in an ongoing effort by the FSA to increase trust in the financial sector.
Not every client receiving financial advice are always aware of the compensations schemes, available to IFAs, therefore it probably won’t affect them. However, what they don’t know won’t hurt them attitude isn’t going to be tolerated by the Financial Services Authority.
The other scheme in place for Financial Advisors is that of the FCA, an abbreviation for the Financial Conduct Authority. All independent financial advisors are required to abide who require members to demonstrate that they review every suitable product, prior to advising a client on a purchasing decision, if it’s in their best interest.
This section is crucial if you’re considering branching out to become an independent financial advisor. In order to call yourself independent, you must be able to clearly demonstrate to the FSA that you are free from having any influence to any particular product or service. Independent will mean truly independent. If your advice could be swayed in favour of a product or service, you’ll have to inform your clients clearly, that the advice you are offering is restricted advice.
An independent advisor is set apart from any insurance group, bank or other financial institution and will only be paid fees from their own clients. There’s no further compensation able to be claimed through financial compensations scheme, that have been previously available. A thorough analysis of any product being recommended to consumers, must be fully analysed to ensure it is in the best interests of clients, which will always be free from any outside influence.
To understand a restricted advice service, it’s best to look at the banks and building societies. Their advisors will be recommending products owned by the institution they work for. When they consult with clients, they will have to inform them that the company they work for has a financial interest as they’re the provider, therefore, it’s advice given on a restricted level only, and could be seen as being biased towards the company.
When it comes to the banks and building societies, you can find that the services offered now are on an “information-only” basis. It’s left up to the consumer to decide on any applicable product they wish to purchase. It’s not sold on the advice of the advisor.
These are changes you need to be aware of, if you’re currently studying to become a Financial Advisor, and even more so, if you’re at the stage of considering going independent and starting up your own business.