Advisors are compensated in several different methods. Fee-Only is the ideal method for retail investors searching for a financial advisor. Advisors at major financial institutions, such as Merrill Lynch and Morgan Stanley Smith Barney are Fee-Based. Most investors confuse Fee-Based with Fee-Only. Although they might sound alike, they are very different. With Fee-Based, the advisor charges a percentage based on assets under management plus other fees, such as front-end load sales charges, contingent deferred sales charges (CDSC), and annual account maintenance fees on products they sell to their clients in their asset allocation recommendations. The large full-service brokerage firms, such as Merrill Lynch and Smith Barney, have profit sharing agreements in place with their advisors. This results in advisors charging a hefty management fee. On average, a Fee-Based advisor charges about 1.50% to 3.00% (150 to 300 basis points).
Commission-Only is very similar to Fee-Based, but commission-only advisors do not charge a management fee. They work strictly on commissions. Their main objective is to sell proprietary investment products. Their only incentive for dealing with an investor is that the investor might purchase one of their commissioned products. This type of a mindset might lead to bad advice. If you do not buy their products, they do not make a commission. On average, Commission-Only advisors end up charging about 2.00% to 3.00% (200 to 300 basis points) annually. Along with commission they earn, they also charge fees very similar to Fee-Based advisors. Their commission is in addition to the transaction costs, sales charges, and other miscellaneous expenses a client incurs.
We have taken the Fee-Only approach a little further by charging our clients a Flat Annual Advisory Fee. Most Fee-Only advisors charge percentage of assets under management. This still increases the annual management fee paid to the advisor when the clients portfolio grows. Not all portfolio growth is a direct result of the investments in the portfolio. Some are contributions/additions made directly by the client. For example, if you are paying your advisor 1% of assets under management for the first $1,ooo,ooo, and you make a contribution/deposit into your portfolio of $200,000, you are losing 1% of that $200,000 immediately.