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