In April 2016, the Department of Labor released its “Fiduciary Rule” to the public. Though the rule was formally vacated by the Fifth Circuit Court of Appeals in 2018, consumers’ awareness of the term fiduciary remained.
By definition, a fiduciary is an individual or organization that takes on the responsibility of acting on behalf of another person or entity. They are duty-bound to act with the utmost honesty and integrity in any matters of law and/or finance. Attorneys and Certified Public Accountants (CPAs), for example, are fiduciaries. They must always act in the best interest of their customers and clients, and if they do not, they are legally liable for any damages that occur.
Similarly, in the world of financial advice, fiduciary financial advisors must manage client assets solely with the client’s best interest in mind. Their loyalty is to their clients. Non-fiduciary financial advisors, on the other hand, are only required to make recommendations deemed suitable for their clients. With a much lower threshold to abide by, their loyalty lies first to the firm they represent – whether intentionally or unintentionally.
In order to sell financial products and/or give investment advice, financial professionals are required to pass only one of the many knowledge tests administered by the Financial Industry Regulatory Authority (FINRA). Some are less challenging than others, but they all provide financial professionals with the basic skills necessary to demonstrate competence in the desired line of investment securities they will sell. FINRA also maintains an ongoing log of all infractions related to any of the advisors registered with their organization.
It makes sense that clients and the general investing public would assume that all financial professionals act in their best interest, with a high standard of care, at all times. But that is not always the case. All financial professionals are not created equal. And it can be detrimental to investors who unwittingly expose themselves to biased and potentially costly advice from financial professionals who put their own interests before the client’s.
As part of their obligation, fiduciary financial advisors are required to put all agreements and disclosures in writing. They are obligated to make the client aware of any fees incurred or commissions received from third parties for their recommendations and must advise if they feel that there is potential for a conflict of interest.
To combat future potential conflicts of interest, whether real or perceived, some advisors have opted to operate as “fee-only” and charge clients a flat rate no matter the scope of the engagement. Others charge a percentage fee based on the amount of client assets under their management. And some advisors are paid commissions by sales of stocks, bonds, mutual funds, annuities, and other forms of insurance contracts.
The commission-based advisory relationship is somewhat troublesome because it brings into question whether the financial professional providing the advice can truly make a recommendation that is free of conflict. A fee-only advisor is almost certainly a fiduciary financial advisor, while one that is commission-based is not.
Paradoxically, choosing the right financial advisor has become equally as easy as it is challenging. Access to information about financial planners or other similar practitioners is quite easy to find. However, sifting through and making sense of the wealth of data is even more difficult due to the sheer volume of information available online.
Trying to gauge an advisor’s level of expertise gets tricky, so start by looking into the professional designations they hold. That said, there is an alphabet soup of designations and credentials out there, and it is certainly challenging for consumers to assess which ones are meaningful versus those that are simply fundamental. This can be determined by understanding which credentials require the most rigorous course of study to receive and which are the most challenging to keep. To get a sense of the wide-ranging sort of offerings, check out FINRA’s directory of designations.
While opinions vary, three of the most well-established credentials for financial advisors include the Certified Financial Planner (CFP®), Chartered Financial Consultant (ChFC®), and Chartered Life Underwriter (CLU®). They each require extensive coursework, diligent study, and provide broad exposure to financial planning principles. Moreover, the required curriculum for each is essentially the equivalent of multiple semesters at a 4-year college.
There is a second set of designations that focuses more narrowly on a particular aspect of financial planning. The requirements to earn specialized certifications are usually less onerous, and they generally signify an advisor’s niche or professional interests. Designations such as the Chartered Retirement Planning Counselor (CRPC®) and Certified Retirement Counselor (CRC®) indicate an advisor’s focus on financial concepts related to the needs of both pre-retirees and retirees. A Certified Divorce Financial Analyst (CDFA®), on the other hand, works with their respective clients on divorce planning.
While there is no guarantee that an advisor is trustworthy simply because they are a fiduciary or even because they have completed additional coursework to prove their mastery of the profession, it is certainly a great place to start. Further, there are several governing bodies with the authority to suspend or even prohibit a financial professional from ever being able to practice again following a violation.
The most far-reaching among them are FINRA, the Securities Exchange Commission (SEC), and the Certified Financial Planner Board (CFP). These organizations track the work histories and permanent records of the financial professionals that they supervise. However, the final step of due diligence is ultimately on the would-be clients and consumers in order to ensure that their selected practitioner ultimately has their best interest at heart.