Financial advice fees are ripe for a shake-up, according to experts, following a warning by the Financial Conduct Authority (FCA) that many customers are still paying too much.
The regulator sent a letter to all financial advisers saying that “paying excessive fees or charges for products and services” is one of the ways firms can cause “significant harm to consumers’ financial well-being”.
The lang cat’s consulting director Mike Barrett says the evolution of the charging model is one to watch for advisers and their clients in the coming years. Gillian Hepburn, UK intermediary solutions director at Schroders, agrees, saying the ongoing charge model is likely to come under pressure.
At the heart of this is the fact that individuals' needs are changing while technology is disrupting the industry. Historically, individuals seeking financial advice would pay through hidden commissions on the products they bought, but the Retail Distribution Review of 2013 put an end to that. In place, a system of charging a percentage of a client's assets has become to go-to model for advisers, but this doesn't work for everyone.
An upfront charge might be more appropriate for clients, says Hepburn, while Barrett points out that this might not work in all cases; some clients may call their advisers every day with questions and others are more laidback, he adds.
When taking financial advice, individuals usually pay an upfront fee for the particular service, such as being advised on a defined pension transfer, which is currently a controversial topic for advisers, and a potentially an ongoing fee - typically around 1% - for continuing advice.
But Barrett questions whether this is an appropriate model these days. Under this arrangement, a client with £1 million of assets would pay £10,000 a year, which may be poor value especially over a long period of time. But a client with £100,000 of assets would pay £1,000 a year and end up receiving a similar level of service.
Barrett suggests a move towards a tiered level of service may be more appropriate - the £1 million client might get a "gold" package, whereas the £100k client could get an entry-level "bronze" package.
Hepburn thinks advisers are already starting to move away from segmenting clients by net worth anyway, instead focusing on what stage of life they are at and offering bespoke services involving financial planning and support. Sometimes people need one-off advice just as they enter retirement, for example, rather than an ongoing service. Indeed, the FCA is looking closely at whether some firms are keeping clients on their books for too long and racking up fees every year, eating into their clients' savings.
Are You Paying Too Much?
How do you know if you are paying too much? This time of year people often, with a nudge from the self-assessment deadline, start thinking about their finances. There’s no harm in checking in with your adviser about what their charges are, especially ongoing ones, and doing a quick ring around to rival firms to see what they charge.
It’s hard to put an exact value on service, and the relationship between a client and adviser is important to - many people have the same adviser for decades. But Barrett says in these cases the ongoing charge can end up being a substantial sum, which eats into returns. As with investing in funds and shares, paying over the odds can make a significant difference to your returns." The impact of compounding shows just how dramatic these fees are over 40 years," Barrett says.
If you are paying 1% or so a year to an adviser, it’s sensible to ask what you're getting for the money and how this cost is broken down – a percentage is for running your investments, which is often outsourced to professional firms who offer “model portfolios”, and the rest can be absorbed by admin costs (for example, liability insurance). Clients who are keen to take a “do-it-yourself” approach could do a comparison of costs with tracker funds: the most popular index fund in 2019, the Vanguard FTSE All-Share tracker, charges an ongoing fee of 0.05%, and fund platforms can charge a fee of around 0.25% a year (and above) for managing your money.
RDR and Beyond
The Retail Distribution Review (RDR) turned financial advice charging on its head, banning commission on the sale of products – this removed the incentives for advisers to promote certain funds over others because they no longer received kickbacks from fund firms.
The ongoing charge and upfront fee model has replaced this model, although some advisers are still “tied” in that they can only advise on a limited range of products. An independent financial adviser, in contrast, can make unbiased recommendations on the whole market of financial services.
As with the fund industry, financial advice firms have come under pressure in recent years to lower costs and be more transparent about how fees add up – EU-wide Mifid II regulation, which came in January 2018, mandated better communication with clients about costs. Adding further downward pressure to adviser fees is the rise of online or so-called robo-advice firms, which provided a simplified "guidance" rather than advice, which can help newer investors pick low-cost investment options.