Getting Flat Fees Right

There’s a back-and-forth but you hang in there; that’s the definition of a relationship.

Never is it a perfectly equal 50/50 split where the advisor gets paid in exact proportion to the value that the client gets. Most of the time it’s a 60/40 where one party gets slightly more than the other; yet this scenario isn’t so onerous that anyone is ready to sever the relationship.

The flat-fee model comes to a screeching halt when it gets to a 70/30 or 80/20 and someone’s getting shortchanged.

How do you avoid situations where value and price fall out of whack?

Equalizing adjustments

When you agree to work for a flat fee, set up some parameters so that equalizing adjustments are triggered. Here are some examples of how you could use them.

Time adjustment

Set up a trigger clause that will allow for hourly pay if the relationship changes to the point where the amount of time required will be considerably larger on a permanent basis.

Example: Time allocated should range from two to 10 hours per month. If more time becomes necessary, client will be billed at $250/hour for the first five hours and $200/hour for any additional time after that.

Cost-creep adjustment

Anyone with a pulse in this industry knows that the operational costs are on the rise and for a firm with less than $100 million this translates into paper-thin margins.

No wonder half the advisors world are finding themselves poking around on the Focus Financial website. Gobble me up in a merger just to put me out of this resource cost misery, please do it Dynasty Financial!

But what if you aren’t in the mood for the strawberry or grape flavor of the advisor fruit-roll-up trend? Include an annual adjustment clause that will hike up the fees a bit to take the ongoing cost of rising operational expenses into account.

AUM adjustment

Clients may feel the advisor is earning easy money when the portfolio drops to a certain level due to a bear market. If it’s just due to market volatility, they could be convinced to wait it out because when the market rises they’ll be undercharged by the same reasoning.

But if the portfolio is in decline due to retirement distributions, this is unlikely to reverse. Before they sign up, talk with them about this and set up a trigger level of AUM where the contract can be renegotiated to an AUM or hourly fee.

The conflicts still persist

Conflicts of interest exist with this flat-fee model. I know how much you advisors love preaching about how your way is the best thing since mutual funds were created. It’s on all your websites, you fiduciaries, you!

Here are some conflicts of interests that the flat-fee model, even if adjusted in an equalizing fashion, can’t overcome:

• If you offer tiered flat fees for different levels of service, you’re naturally going to want to sell the client the biggest package. It’s just human nature; it’ll always be in the back of your mind. Nobody is 100% objective when it comes to money. This is not a shortcoming of the AUM model by the way.

• With the minority of advisors being pure fee-only, the wider the adoption of this model the higher the potential for hybrid advisors to “double dip” or direct money into high-commission products and earn their retainer fee at the same time. Commissions are disclosed, but done so with sufficient legalese so that the client won’t really understand what is happening. Some advisors will refund back the commissions, others won’t. Either way it’s a compliance headache.

• In an effort to simplify the fee model, advisors may allocate to no-load funds or no-fee insurance policies. Are these always the best ones? It wouldn’t be the first time a product company removed the fee to get its unpopular inventory off the shelf.

In all cases, it’s up to the client to identify that the fee model is not working in their favor. But very few of them will know enough to look for this. They’ll probably trust what the advisor says. They’ll be especially trusting because advisors who adopt this flat-fee model are going to be righteous and position themselves as the Mother Theresa of financial advising!

Sara’s upshot

Thanks for reading my latest thoughts on the fee debate. I’d love it if you could post to APViewpoint and let me know your points of contention.

For more creative marketing ideas that will give prospects something to rave about, follow my podcast here.

Sara Grillo, CFA, is a top financial writer with a focus on marketing and branding for investment management, financial planning, and RIA firms. Prior to launching her own firm, she was a financial advisor and worked at Lehman Brothers. Sara graduated from Harvard with a degree in English literature and has an MBA from NYU Stern in quantitative finance.

Read more articles by Sara Grillo