Advisers need to ensure they aren't taking advantage of their clients, either intentionally or unintentionally, and must explain and justify their fees.
In a page 1 story in last week's InvestmentNews, a lawyer referred to regulators' "obsession with fees." Of course, one could turn the tables and suggest that financial advisers, not just regulators, are obsessed with fees. Don't think so? Consider some of the different types of fees the industry charges: commissions, markups, sales loads, surrender charges, investment advisory fees, expense ratios, variable annuity fees and 401(k) fees.
As the Securities and Exchange Commission noted in an investor bulletin last year, fees are important because they can significantly reduce investment returns over time. The SEC urged investors to compare fees when choosing a financial adviser.
The Financial Industry Regulatory Authority Inc. and the SEC have made scrutiny of fees a regulatory and examination priority this year. Two weeks ago, Finra fined Fidelity Investments $350,000 for inappropriately charging more than 20,000 clients a total of $2.4 million for certain transactions in fee-based accounts in its Institutional Wealth Services Group. That same week, private-equity firm KKR & Co. refunded money to investors in some of its funds after the SEC determined it had overcharged them.
While neither case involved retail clients, industry observers believe financial advisers will be held accountable by regulators in a similar manner.
One group the regulators are expected to take a close look at: dually registered advisers who charge some clients a fee and others commissions. A practice regulators are focusing on is so-called “reverse-churning,” in which a client is placed in a wrap account even though the client is doing little trading. The client pays a fee based on assets when it's likely he or she would pay less if charged commissions on a per-transaction basis.
THORNY ISSUE
“This is an area in the retail space that regulators are going to be on top of,” Emily Gordy, a lawyer and former deputy chief counsel at the SEC, told reporter Mark Schoeff Jr.
In a Page 1 story this week, senior columnist Jeff Benjamin shows just how thorny the issue of fees can be for advisers. His story notes that many advisers have begun cutting fees in recent years for clients in low-yielding cash and bond accounts, especially in this era of low interest rates.
While that might seem like the right thing to do since advisers should be paid to manage investments, not cash, at least one adviser who wrote a memo to the National Association of Personal Financial Advisors about the practice is afraid advisers are opening themselves up for criticism.
That adviser, Bert Whitehead, founder of Cambridge Connection and a member of NAPFA's compensation committee, said advisers charging lower fees for cash positions could be accused of having a conflict of interest if they were to move those clients into equities, even though they were doing so for the right reason.
“The suspicion will always arise when you move clients into equities that you're doing so to raise your fee,” he said.
Mr. Whitehead's concerns might be valid, but ultimately advisers have to act in the best interests of their clients despite the criticism they might encounter in the course of doing their jobs.
In the meantime, advisers should monitor fees in their practice for each type of client account on a regular basis. They need to ensure that they are not taking advantage of their clients, either intentionally or unintentionally. And they need to explain — and justify — their fees clearly so their clients know exactly what they are paying for.
As one compliance consultant put it, “the more double-checks [advisers] have in the back office ... the better.”
