Fee-only vs Commissioned Advisors

The Value in Advice-driven Service, Not Sales

Author: Ryan Kimes, CFP®

What is fee-only advising?

To understand the difference between a fee-only and commissioned advisor, you must first be aware of how the average advisor is compensated when recommending financial products to their clients.

Advisors are typically compensated in the following ways:

  • Through a commission-based model. Commissions are generated through insurance and investment product sales.  

  • Through a commission & fee hybrid model. Again, commissions are generated through the sale of insurance and investment products, alongside advisory fees for financial planning or investment account management.

  • Through a fee-only model. Here, the focus is advisory-service and investment management, not product sales. Client fees are predetermined and remain the same regardless of what investment or insurance recommendations are implemented.

An advisor’s financial recommendations can be heavily influenced by these varying levels of compensation. An excellent example of this is the sale of permanent life insurance policies within the insurance industry.

Permanent life insurance products such as variable or indexed universal life insurance are often marketed and sold as retirement-insurance bundled investment vehicles. Policies sold to consumers frequently show annual or monthly premiums that are comparable to contributions to legal retirement accounts (often over $12,000-18,000 per year). What clients are often unaware of are the front-loaded insurance charges, mutual fund sales charges, surrender charges, and poor performance of these investment vehicles that will cost the customer the majority of the potential portfolio’s value over a 10 year period. Even more unfortunate, almost every permanent life insurance policy can have the same protection and benefit from the provider’s term-period policies. Though not permanent, 30-year term policies are often a fraction of the cost of permanent policies, while providing for the same coverage for a specified period.

Despite many undesirable aspects of permanent life insurance policies, advisors push these products for the high-levels of commissions paid by insurance companies. Speaking from experience, compensation for certain indexed universal life insurance policies are over 120% of the first year’s paid premium. Using the example of a policy with an annual premium of $12,000, would you be comfortable knowing your advisor will be compensated $14,400 for the sale of your permanent life insurance policy, a product marketed as a retirement vehicle? For the insurance company to afford to provide this compensation, a high level of profitability must be made from the sale of the product. Who is at the expense of this profitability? You, the unknowing consumer.

While this example can be applied to almost every facet of the financial service industry, the value of unbiased, objective investment advice is critical for the success of the client. When the conflict of interest posed by the sale of insurance and investment products is present, the recommendations to layman clients can vary wildly to generate the largest commission on the sale possible. When clients consider an advisor, they should be aware of the commissions being generated by their investments, as these commissions are a direct indication of the profitability of their business. In turn, these commissions will likely hinder the performance of their investments, and are ultimately in the best interest of the advisor, not the client.