Fees versus commissions

Posted: Tuesday, April 13, 2010

One of the most important lessons in life is learning in whom you should place your trust. A few years ago, Dan’s youngest daughter was upset when she learned that a celebrity she looked up to was, in fact, a drug-abusing philanderer. The papers made him seem so nice. She learned people are not always what they seem. We feel lucky that, in the financial world, almost all of the people we have met are honest, hard-working folk. They are trying to earn a living and help their clients grow and protect their investments.

However, within this framework, brokers have their own biases, preferences, and styles, which may include the way they prefer to be paid. You as the consumer need to discuss your preferences with your broker or financial planner and feel free to ask them how they are paid and which method best suits you.

With this in mind, let’s go to our question of the month.

“Dear Sirs: My sister-in-law says I should never work with a broker who charges a commission. She says the only objective financial planner is a fee-based financial planner. Do you believe this is true? And how do I know that my financial planner is on my side?”

Wow, that is really the question of the decade in the financial planning business.  Every thinking broker, regulator, and financial planning board has struggled to come up with a definitive answer, but so far, no one has been able to play Solomon effectively. I believe the main reason for this is that there is no one comprehensive truth.

Here are two examples to illustrate my point. [By way of full disclosure, Dan and John’s firm will work on either a fee-basis or commission basis. They simply lay out the facts and let the client choose the method they feel most comfortable using.] A client comes in with $250,000 he wants to invest:

He could pay a fee, often around one percent a year, to a broker who helps direct assets (reallocation) to meet the client’s investment objectives. The broker would only be compensated one percent a year regardless of market performance.

That same client could choose to pay an up-front commission, let’s say three and a half percent, once, then an ongoing .25% (that’s one quarter of one percent for the broker’s ongoing service and advice). It does not take a genius to see that, in this example, after four or five years the commission is cheaper than the fee.

Now, the fee-based broker could say that his advice can be more objective because he makes his fee based on the market value of the assets. On the other hand, the commissioned broker could say, “I pay attention to all my accounts and .25% makes that worth while.” The fee-based planner can use all the funds and stocks in the universe, and the fee does not change.

With regard to mutual funds, the commission-based planner can be at a disadvantage because, while he can trade your account within the fund family with no extra fees, if you need a fund outside the fund family, a new commission would be generated.

The bottom line is to find a planner you trust and discuss the best compensation options available to meet your particular wants and needs. Until next time, your money matters.

* * *

Dan Searles and John Stohlman, owners of Medallion Financial Group, are CFP®’s, financial planners and Registered Representatives with over 25 years of experience in the financial services industry, offering securities and advisory services through National Planning Corporation (NPC), member FINRA/SIPC, a Registered Investment Adviser.

Medallion Financial Group and NPC are separate and unrelated companies. They manage over $250 million of client assets.

For further info, questions or comments regarding this article, Dan and John can be reached at 301-990-9704 or 1-800-878-9704 or Dan.Searles@natplan.com.

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