One of the dilemmas that IFAs face is that they need to get paid for what they do. If all they had to do was act in their client’s best interest – “put the customer first”, they would advise pro bono. But advisers have to be paid and how they are paid becomes part of the advisory process.
I am well aware that some advisers charge fees directly to the client, and some take their fees from the products they advise on (provided the product provides the option to pay the IFA that way).
Here is where the problems start. Some products do not pay advisers and some don’t. In the world of master trusts Salvus MasterTrust does, People’s, NOW and NEST don’t. Royal London, Aviva and L&G all run workplace GPPs that pay adviser fees.
Are we to criticise the IFA for choosing to use workplace pensions that pay them or are we to criticise those workplace pensions that don’t offer a facility for the adviser to get paid?
It seems to me that there is a cost for the provider in offering this facility that can only be justified internally as a distribution cost. NEST does not get much advised business because it does not pay advisers. The cost of administering Royal London’s adviser charge is justified because Royal London get a huge amount of IFA introduced business.
How isn’t this product bias?
So why does product bias exist?
Firstly because of customer behaviours. People are not inclined to pay IFAs out of their own pockets. Since Mark Weinberg opened Abbey Life in 1972 people have been paying advisers for the advice they buy out of the product. This form of payment is now in the adviser’s and customer’s DNA – it is what we do. We do not write cheques to IFAs.
The reason for the product paying is that it is a whole lot easier. It is easier for an insurance company to pay commissions (or today the adviser charge) than for an IFA to collect the money – there is minimal credit risk (so long as the agreement is properly structured) and IFAs are relived of the onerous task of managing an aged debtors list.
It is also a whole lot easier to pay fees without VAT being added. Private individuals have got used to paying for advice without VAT – because it relates to an insurance product. Since VAT is irrecoverable by an individual, the creation of a VAT invoice by an IFA is effectively 25% more expensive to pay.
I accept that an invoice can be raised without a demand for VAT – but this is only where there is no clear link to the execution to an insurance or investment product – for instance a cashflow forecast, taxation advice is vat-able. This is why providers are always biased towards the execution of a vat-able service, it reduces the advisory bill by 25%.
Finally, is it a whole lot easier to pay for something out of a tax free pot. Adviser fees paid out of a pension pot are effectively EEE – that is the contributions are Exempt, they’ve grown in a tax-Exempt fund and there is no tax to the client when the payment leaves their pension account – the third Exemption
The VAT invoice on the other hand is paid for out of taxed money, money that sits in the client’s bank account.
I am not blaming the IFA for using the most effecient way fora client to get paid. But if the FCA think that the RDR has abolished product bias, then they must think again. The IFA solution set is partially defined by the means of payment offered by providers.
All that adviser fees are – that commission isn’t – is more transparent. The client signs a form to allow the fee to be paid, but if the form isn’t signed , the execution of the advised strategy is not completed. There is no win to the client in not signing the form, no way of cheating the IFA out of a commission other than finding a way to execute only or at a reduced fee with another IFA.
I do not hear this as a problem for IFAs, IFAs might as well be being paid a commission, for the little pushback on adviser charges.
Introducer fees
Getting paid for financial advice is a matter for regulated advisers, but you can get paid for referring people to financial advisers, annuity brokers and certain products.
Introductory fees are available on all kinds of regulated products including annuities, equity release, certain protection products and SIPPs.
These fees are paid to unregulated introducers as well as regulated advisers. They are typically business to business fees so VAT is recoverable and the fees are subject to corporation – not income tax,
These introductory fees inevitably reduce the capacity of individuals to negotiate fees downward but the organisations who pay them, typically offer non-negotiable charging structures so there is no question of dual pricing. There is not what the Americans call a “load- no load” dilemma where the no-load product is cheaper because it was purchased directly (rather than through an intermediary).
Value for money on fees
Unfortunately I have concluded that the worst value for money for the consumer is to pay fees directly to IFAs. To the consumer the commission or advisory fee is better.
This means that NEST and other master trusts that do not offer adviser fees are excluding themselves from the workplace market. We found in Port Talbot that even though an adviser could get paid by Aviva for transferring money into the Tata Workplace Pension, there were much greater rewards for transferring into other pots where ongoing fees could be taken from the fund both for advice and for managing the money.
This product bias is explicitly mentioned in the FCA’s recent consultation on contingent charging (CP19/25) and has been brought up in other investigations by the Work and Pensions Select Committee – most noticeably on Transparency.
So long as advisers can show that their fees are offering better value for money when charged contingent on the product provider paying them out of a fund, then provider bias will persist.
As for introductory fees, comparison websites are quite explicit. They will show – albeit greyed out- the providers that do not pay introductory fees and people still use their introductions to get the best product that the website can get paid on.
I do not think this is necessarily value for money from the price comparison website, but I know why I buy that way, it’s because it’s easier to do , and in certain situations , I will pay extra for convenience and good service. Buying a protection policy online (for instance) can be anything from a nightmare to a pleasure.
My general rule is that cutting out the middle man is generally a good thing, Middle men need to demonstrate they are value for money and worth the additional cost of using them. Most middle men rely on inertia rather than good service but this is not always the case.
Why does product bias exist?
Advisers and introducers are biased to products that suit their commercial model. The B2B model used by advisers selling to corporations has different dynamics in terms of buying practices than the retail model used by IFAs.
These differences are typically created by the complexities of the tax system which drives buying behaviours. To some extent it is down to ways we treat our own and other people’s (shareholders) money. We purchase in an emotional way and are subject to our own behavioural bias’ which widen the divisions between retail and individual.
So product bias is integrated into the advisory process and no amount of legislation on advisers can eliminate it. There would have to be a wholesale reform of the taxation system and a requirement on those advised to pay the fees separately from the product for this to happen.
The call for a ban on contingent charging for DB transfers (where there is clear evidence of product bias) is necessary to protect vulnerable people from making bad financial decisions on the income they’ll relay on for the rest of their lives. It is a special case because of the clear damage that is being done to people’s financial prospects.
But it is only the beginning of a wider argument on product bias (and it will be an argument and not a conversation). We have to work out whether we want independent advice or restricted advice and so long as we are prepared to accept the current product bias, most IFAs must accept that they aren’t really independent – but restricted advisers.
Whole of Market?
Paul Bradshaw once challenged me to give an instance of whole of market advice. I spent many months trying to do so but I never did. I never got the lunch he promised me for showing him advice that was truly independent. I had forgotten one thing, for advice to be truly independent – the adviser cannot be paid!
Thanks to this swan – and the Kingfisher which evaded my camera this morning
It was a very long time ago, but my recollection was that Abbey Life was formed in the early ‘60s, and it was Hambro that started in the early 70s. It makes no difference to your (as usual) thought provoking article, but for us old boys that were there at the start, it’s important to get the history right 😉. Have a great Bank Holiday.
I’ve been trying to find an IFA, but anyone who charges a commission based on products seems to be a B(iased)FA.
Maybe in practice it doesn’t matter but I’ll be paying directly for my FA. They’ll earn the “I” after they’ve spent an hour or two of my time and I believe they’re being “I”
Dave, as an IFA, as long as you are paying, I would not be bothered how you pay.
We have many clients on fixed fees for the progress meeting and annual review service: UK residents basic service is £2,550, middle service level is £4,800, comprehensive wealth management service is £7,200 per annum, all inclusive of advisory portfolio management. For philanthropy and family office type service, fees are even higher. The fees could be exempt if I act between you and the product providers, which I should, if I look after your pension and investments.
Are you interested? Because the problem with many commenting is that they actually are not interested and they stay on the side and just comment. It is their problem, we know the tremendous value we offer to clients, in the end it is their loss!
Good post Henry!
VAT is not that much of a problem, if there is evidence that the financial advisor acted between the provider/s and the client. It will still be intermediation. The FCA checked this with HMRC for the last DB consultation.
Have you seen how the market has evolved in Australia after the Royal commission review? Fees are flatter and clearer. Clients with small amounts pay more, the one with high funds pay slightly less! The turnovers have not changed, just better disclosure, and not to forget – they get the service now! (That was the bigger problem, some were just paying for it!)
You pay an accountant or a lawyer for his or her advice on a hourly rate. Why should IFAs be any different?
Don’t worry Henry it’s only 6% of the market
I am sure that the HR departments can handle all the issues required
what a great job all these free services are doing for the 94%
It would be interesting to compare the outcomes from IFA advised and any alternative that you had in mind in terms of income provided in retirement say as a % of National Average Wage with indexation. Now there is a real measure of value delivered
Taken from this blog…….”We found in Port Talbot that even though an adviser could get paid by Aviva for transferring money into the Tata Workplace Pension, there were much greater rewards for transferring into other pots where ongoing fees could be taken from the fund both for advice and for managing the money”.
When I sought financial advice on whether or not to transfer out of the British Steel Pension Scheme, I mentioned the Tata Workplace Pension with Aviva for my transfer. The IFA was far more interested in steering me towards other options which would have generated more income for him.
After my persistence he agreed to do the transfer to Aviva on a one off fee basis as he wouldn’t be managing my fund afterwards.
As you know, I saw the light just in time and cancelled my transfer to move into BSPS2 instead.
Robert
What you explained there does not necessarily mean that the recommendation to transfer was wrong.
In the end, the financial advisor did the right thing (assuming his recommendation to transfer was correct), arranged the transfer with Aviva WPS. Your advisor as me, believes that someone who transfer needs the support of a financial advisor to manage the investor behaviour, and to help you with other things. It is useful to have a good advisor alongside.
Probably there were other reasons why you did not transfer, you may have found the utility of added retirement income marginal when compared with BSPS2 and your risk aversion may have played a role too. Your financial advisor may have needed to spend a bit more time on these issues in the discovery meetings, and he may not have got the whole picture.
Let’s try not to extrapolate this to all people. Not all people have the same circumstances, some have values more the utility of retiring early and having a higher income at the start of their retirement, and have not made too much in DC savings or other savings. Who are we to tell them, that they can only spend what the PPF or BSPS2 would give them when retiring early?
As long as they have a good plan of spending (and hopefully they can stick with it), they could spend a bit more until they reach the State pension age. Yes, the long term retirement income would be dependent from market return (and their good behaviour to stay invested), many have started with a 70%+ confidence interval, and if they dk encounter a very bad sequence they may run out of money and may need to use their contingent plan for that (equity release etc.). Overall, I do not believe they would receive less in purchasing power, but more money due to investment return added. But yes, contingent plans would be needed for poor investment returns sequences or living very long (over 90 – 95).
Eugen,
I know there are good IFA’s out there but from experience with my DB Pension transfer, they are few and far between. In the end, it was due my persistence that the financial adviser agreed to arrange the transfer with the Aviva WPS as he was more more interested in steering me towards other options which would have generated more income for him…..so much for acting with integrity! After much thought, I chose to move into BSPS2.
Henry has previously said…..“So far, we have only seen rising markets since the democratisation of pension saving (aka auto-enrolment). No-one has had cause to worry that the pots they have built up have gone from full to half-empty, but this will happen”.
Also, John Ralfe has previously warned advisers they should not rely on “magic equity beans” when advising on defined benefit (DB) transfers. He said…..“Make no mistake, how much to spend in retirement, so you don’t run out of money, is the most complex financial decision anyone has to make. Even Nobel prize winner Bill Sharpe recently described it as ‘the nastiest, hardest problem in finance”.
“People should not be fooled into thinking that by taking their cash they are financial geniuses, and by taking their cash and putting it into magic equity beans that it is sure to do well. Despite eye-watering multiples for cashing in, and we have seen people quoted 35 or 40 multiples, nobody, whether they are a member or adviser, should think this is a clever time to take your money and invest in equities”.
“Those who decide to transfer their DB scheme should not think they are outsmarting the market despite being offered high transfer values. Do not think that by cashing in your pension now you are making a financial genius play on future interest rates, future inflation rates and your own life expectancy. You are kidding yourself if you think you are.”
As you have previously said yourself Eugen…..”A Pension transfer is wrong for 85% of British Steelworkers. It is not suitable for many of them to transfer out because the stock markets are fully valued, the gilts yields are low, so the expected investment return in the future will be pretty low, and it is not guaranteed”.
Rory Percival (former technical specialist at the FCA) produced the ‘Telling It Straight’ article (below) which is directed at financial professionals who are involved with DB Pension transfers:
https://www.rorypercival.co.uk/db-transfers-wtf/
Great post Robert – thanks for taking so much time on it – and putting in so much thought, can I use it in future posts?
Thanks Henry.
Feel free to use it in future posts.
Henry. Seems the blinkers are on again. As an IFA working in a post RDR environment my fees are paid by the client. My business is not a registered charity. It employs 11 people pays regulatory fees and taxes. I have recommended 6 workplace pension schemes in the last 6 months. 1 with Royal London 2 with Peoples Pension and 3 with NEST. All 6 employers paid the same fee direct to the firm. I would suggest majority of IFAs are the same. Perhaps it is a restricted advice firm you have mistaken us for.