5 Crucial Ingredients for a Professional Advisory Relationship - Rodgers & Associates

5 Crucial Ingredients for a Professional Advisory Relationship

I recently read Dr. Henry Cloud’s new book, The Power of the Other (Harper Business, 2016). Dr. Cloud is a psychol­ogist special­izing in leadership and has written several books on the topics of personal and profes­sional wellbeing. His new book shows readers how to get more from themselves by drawing on the strength and expertise of others.

Dr. Cloud argues that the influence of others can be good or bad so you need to be careful to choose what kinds of relation­ships you allow into your life. The book lists five crucial ingre­dients to look for:

  1. Under­standing
  2. Intent or Motive
  3. Ability
  4. Character
  5. Track Record

These ingre­dients apply to the relationship with a financial adviser. There needs to be trust and honesty between the client and adviser for the relationship to work. The adviser must under­stand the client and their objec­tives in order to compe­tently advise them. The client needs to be able to trust the advice knowing their adviser’s intent is in their best interest.

This brings me to the current contro­versy within the financial services industry surrounding the Department of Labor’s (DOL) new Fiduciary Rule.

What is the new Fiduciary Rule?

The new rule that was scheduled to go into effect in April would require that all financial profes­sionals who work with retirement plans or provide retirement planning advice must do so as a fiduciary and be bound legally and ethically to meet the standards of that status. A fiduciary standard requires that advisers act in the best interests of their clients, and put their clients’ interests above their own. Additionally, advisers must disclose any potential conflict of interest.

Does every financial adviser follow the fiduciary standard?

Why is this contro­versial? Most people in the financial services industry do not operate under the fiduciary standard. The public doesn’t know the difference because nearly everyone calls themselves a financial adviser. However, the suitability standard is considered a sales­person standard. When applying the suitability standard, the financial adviser only has an oblig­ation to know their client and not sell them something that is objec­tively unsuitable.

For example, it would not be suitable to recommend investing in futures contracts for a risk adverse investor seeking retirement income.

Consider the client who believes they have a tax problem and meets with a financial adviser for advice. The salesman adviser operating under a suitability standard will consider recom­mending investment products that address the tax issue. Will it be a tax-free municipal bond that pays a 1% commission? A tax-free municipal bond fund that pays a 3% commission? Or a tax-deferred annuity that pays a 5–7% commission? All three invest­ments would be suitable under this standard. In many cases, the adviser doesn’t have to disclose how much they are paid or if there are any conflicts of interest.

Furthermore, if the insurance company issuing the annuity has a sales contest going on that would help the adviser win an all-expenses paid trip, that doesn’t have to be disclosed.

An adviser working under the fiduciary standard should take a different approach.  Typically, they would start by reviewing the client’s tax return. What is causing the tax problem? If the tax liability is caused by something other than investment income, a tax-advantaged investment wouldn’t help. Was it a one-time taxable event or will it be reoccurring each year?

A tax strategy would be planned that could include investment changes, increasing deductible 401(k) contri­bu­tions, accel­er­ating deduc­tions, etc. The cost to prepare this plan would be disclosed up front along with any potential conflicts of interest.

Financial advisers operating under the suitability standard are not bad advisers. It has been my experience that the vast majority of advisers want to do every­thing they can for their clients. I’m also not suggesting that an adviser operating under the fiduciary standard is automat­i­cally giving the best advice.

However, you need to be able to trust the advice you get from your financial adviser. Only advisers that adhere to the fiduciary standard are legally obligated to always act in your best interests.

This takes us back to Dr. Cloud’s five crucial ingre­dients to look for in our relation­ships. Competent financial planning requires an adviser to see the totality of the client’s situation. Investment decisions, minimizing taxes, insurance needs, estate planning, debt management, and cash flow planning must all work together in one cohesive plan.

When you always feel like you need to be on guard against some product your adviser is trying to sell you, it’s hard to build the level of trust a real advisory relationship requires. Anyone looking for true guidance towards financial independence—from someone who isn’t thinking about their own paycheck first—should look no further than an adviser who will always act as your fiduciary.

Rick’s Tips:

  • The suitability standard is a sales­person standard in the financial services industry.
  • The new DOL Rule will require advisers who work with retirement plans or provide retirement planning advice to do so as a fiduciary—but only for retirement plans.
  • Competent financial planning requires an adviser to see the totality of the client’s situation.