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When I accept my client’s plea to serve as a fiduciary, I accept their concerns as my own. I stand in their shoes and make the best decision with known information. If I don’t know what’s best, I seek input from someone who does, even hiring others on their behalf if that is the best choice.
Responsibility is the heart of a fiduciary relationship.
Let’s consider an example or two. Let’s say a client is leaving the continent. They’re going to start a company in New Zealand with a friend, and are unlikely to be back in a few years. They own a house here and expect to return here again when their adventure is done. They need a caretaker.
They call me. Would I look after their house in their absence? Rent it to suitable tenants, deposit the rent checks, hire a plumber or roofer if needed, check the inside and outside occasionally for damages or problems. Seems simple enough; I live nearby in a similar cottage and I’m a responsible fellow with both money and property.
We agree to a modest stipend for my service, and of course, I’ll be reimbursed for any expenses incurred. We both agree that they’ll keep the place properly insured and I’ll be their local point of contact whenever needed. It’s a simple agreement that satisfies both of us. I’m pleased to accept the responsibility.
A few months later, my phone rings again. This time, it’s the distant daughter of a local farmer. His health has taken a bad turn and he’s forced to relocate to her city. They need someone to oversee the family farm. Again, I live nearby and have enough genuine experience to consider her offer.
Although the obligations are similar, the scale is vastly different. The physical duties to occasionally visit the farm aren’t daunting but seeking a tenant or third-party farmer requires additional care. Negotiating cash rent or a sharecrop agreement takes both judgment and time. Supervising farm maintenance or repairs might be a formidable task, and accounting or recordkeeping is far more complex than managing a rental house.
Ultimately, my decision to accept or decline comes down to money. One way to determine price would be to estimate the amount of time involved – visits, meetings, recordkeeping, supervision – and offer that up as an annual fee. That approach is easy to explain, easy to document and easy to perform.
That approach is partially flawed, though. For, although the duties may be similar, and the hours involved predictable, the responsibility is far greater. Whereas rent and maintenance for a rental house might involve a few thousand dollars each year, the farm could be a hundred times more! A problem at the house might cost me $1,000; a similar problem at the farm might cost $20,000. And a mistake – my own mistake or negligence – could be catastrophic. What if a crop is lost or animals die because of some decision I make?
Responsibility is the heart of a fiduciary relationship. I’m not being honest or fair unless I take that responsibility into account. My price for serving must include:
- time for duties and tasks,
- research and expertise to do the job,
- capital and insurance necessary to answer claims, and
- adequate margins to accept additional responsibilities.
If you’re not a fiduciary, these may not matter. For instance, cutting the lawn or plowing a field can and should be priced on the time, equipment, and insurance involved. That makes perfect sense. But a fiduciary faces responsibility if the field isn’t plowed properly or on time – that’s a bigger issue! Certainly, larger relationships demand larger fees.
Among other professions, the cost of providing service is nearly irrelevant. We don’t buy surgery based on hours, or high-level lawyering. An architect’s fee is usually calculated on construction value and an engineer earns a project fee.
The advisory product is intellectual. It differs depending on each situation, client, and need. The value they seek can be different from what we think. To prosper, we must build and price a custom product for every client. They may be similar, but not template identical.
Industry discussions about fees often miss those points. In one column, Bob Veres mused, “Is a client with a $2.5 million portfolio really receiving four or five times as much value from the planning engagement as the person with $500,000?” My answer to Bob is that larger accounts in a fiduciary relationship involve much greater responsibility. Although the costs for due diligence and research and overhead may not increase, the responsibility certainly does.
It is amusing that many clients seem to understand that better than some advisors or journalists. Wealthy people have embraced the trust fiduciary model and AUM pricing for a hundred years! Why? Because it makes both intuitive and economic sense.
In other words, the value for clients is higher with larger portfolios than small ones. Which client benefits most from professional care? Which client faces larger risks and rewards? Which client family profits the most from tax planning, estate planning, and asset allocation strategy?
The value is higher, and the fees are higher.
Dan Danford, CFP® is a NAPFA member in Kansas City, Missouri. He learned early ideas about money from his late father, Thad Danford, who charged rent on the family lawn mower when Dan cut neighborhood lawns. Danford is a practicing investment advisor and author of Happy To Be Different: Personal and Money Success Through Better Thinking.
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Advisor Perspectives welcomes guest contributions. The views presented here do not necessarily represent those of Advisor Perspectives.
