A fiduciary is defined as “a person to whom property or power is entrusted for the benefit of another” by Dictionary.com. In the financial world, fiduciaries are individuals or entities, like financial advisors and investment firms, that manage the assets of others.
The Fiduciary Standard
Financial advisors that are held to the fiduciary standard must uphold “the duties of good faith and trust” while operating in the best interest of the client, notes Investopedia. In a nutshell, this means the advice they lend should be accurate and optimal for the client they’re serving. Furthermore, conflicts of interest must be disclosed right away if they arise.
This rule was officially rolled out for financial advisors offering retirement advice in 2016 by the U.S. Department of Labor. However, it was tossed out in 2018, making the suitability standards the only federally mandated regulations to abide by. More on this shortly.
What This Means for You
The good news is many advisors continue to operate under the fiduciary standard, and it’s in your best interest to only do business with those who fit these criteria. Doing so minimizes the chances of working with someone who doesn’t have your best interest at heart and is more concerned about how they’ll benefit even if it’s at your expense.
Furthermore, fiduciaries are less inclined to breach their duties as they could face serious repercussions, in the form of civil and financial penalties.
So if you currently have a financial advisor, it’s a good idea to find out if they operate under the fiduciary standard. Otherwise, you could take a financial hit. According to a report issued by the Obama Administration, Americans lose $17 billion annually due to bad financial advice that causes them to overpay for investment products.
Take a moment to think about financial advisors that have aggressive growth goals or income targets for their business. If they aren’t operating under the fiduciary standard, what will stop them from making a recommendation to you that will cost you a fortune but earn them a fat commission, hurt your investment portfolio in the long-run, or possibly draw you further away from your investment goals?
To illustrate, if the advisor is commission-based instead of fee-only, they may advise you to purchase double the number of shares on a stock with minimal long-term potential to beef up their commission. Or maybe there’s a particular stock that’s performing well at the moment, but will tank soon but your advisor encourages you to load up on shares anyways. Another common sheisty move is the recommendation of an asset with a higher price than something comparable solely for the sake of increased earnings for the advisor.
Fiduciary vs. Suitability Standard
At this point, you may be wondering if the above scenarios are illegal. Not necessarily. While they may be perceived in a negative light, these actions aren’t a violation of what’s referred to as the suitability standard. This standard is commonly adhered to by investment brokers who fall under the Financial Industry Regulatory Authority (FINRA) umbrella and are only required to make recommendations that are deemed suitable.
Under the suitability standard, financial advisors:
- May not have your best interest at heart
- Aren’t necessarily transparent when giving advice
- May not always act in good faith
- Are not required to disclose conflicts of interest in all scenarios
- Could put their financial needs at the forefront when making recommendations
So, if a financial advisor operating under the suitability standard sells you overpriced securities despite knowing there are better options out there, they technically haven’t done anything illegal. Or maybe you ramped up on shares of a recommended stock that they received a kickback for but ended up being a bust. Either way, they’ve made their money and now you’re left to sort out the mess and pick up the pieces.
How to Find a Fiduciary Financial Advisor
If you’re currently working with a financial advisor that isn’t abiding by the fiduciary standard, it’s probably a good idea to make some changes. For starters, you should cut the cord and replace them with an advisor that is not only fee-only, but abides by the fiduciary standard.
Fee-only financial advisors are less likely to persuade you into making poor investment decisions as they are compensated the same amount, regardless of how much you invest. (This should not be confused with fee-based advisors that can generate earnings from the sale of products) . And if they act as fiduciaries, you’ll have peace of mind knowing that their advice is free of any conflicts of interest and they have your best interests at heart.
A few tips when conducting your search:
- Ask around for recommendations. Family and friends will be willing to share honest feedback with you regarding their experiences.
- Only consider financial advisors in networks that require their employees or members to abide by the fiduciary standard. The Alliance of Comprehensive Planner and National Association of Personal Financial Advisors are good places to start with your search.
- Inquire about their licenses, certifications, and professional associations.
- Request a schedule of fees so you’ll know what you’re getting into before doing business with them. Are they fee-based or fee-only advisors?
- Ask the advisor how they do business. Is communication initiated with clients consistently? If so, how often?
- How do they prove that they conform to fiduciary standards?
The next step is to perform a rigorous review of your investment strategy and portfolio and make adjustments if needed so you can meet your financial goals on time. Why so? There’s a possibility that the broker you were working with may have contributed to you making ill-advised decisions that are costing you unnecessary dough and eating into your earning potential.
The Bottom Line
If you want to protect your hard-earned cash, a financial advisor that abides by the fiduciary standards is your best bet. You may also want to consider using a robo-advisor to get your feet wet and learn the ins and outs of investing without spending a fortune.