Most advisors charge clients based on one of two models: a trailing commission paid by a product issuer or a percentage of assets under management paid by the client for financial advice.
There are problems with both. Commissions can create bad incentives, while AUM-based fees focus on portfolio size, not on what an advisor does for a client. For years the industry has experimented with alternatives, including hourly and one-time charges and retainers.
Lately, income-based fee models have come into focus. Younger advisors are increasingly implementing them and reporting some success: on the back of new trading technologies, shifts in demographics, and the willingness to bill on the entirety of a client’s financial life, starting with practically (if not initially profitably) serving clients who need advice but have few assets – such as holders of advanced degrees – with much debt, but also high starting salaries. These clients tend to be younger, but can grow with the advisor.
And yet, are income-based fees really new? Some advisors have been using the model since the 70s have run into problems – like charging a fee that can seem a mismatch with the service, struggling when clients lose jobs, losing out on fees as clients hide assets from them – which the more inventive among them have tried to address by switching to an income-plus-net-worth-based fee structure.
Today, investors are driving inventiveness with fees. Many want more fee-based advising, especially those most dependent on advisors. According to studies, almost half of self-directed investors prefers a fee-based advice structure as well. The trend towards fees is likely to continue unless regulators start seeing fee-based models as causing harm to clients.
And so, while the income-based model is growing in popularity, it might be best seen as a stepping stone to something more evolved. After all, fees should be commensurate with the complexity of the advice, and just an income-based fee is never going to be a panacea to the fee issue. It should be something that measures the complexity of the relationship and the advice. Even a net worth-based fee – a derivative of the AUM-based fee – is too simplistic.
For more information, please read:
Income-Based Fees Make A ‘Comeback’ | Wealth Management