What is a Fiduciary?

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Under financial industry rules and regulations, Financial Professionals who sell investment products can be compensated on a commission basis, and advice has to be merely suitable at the time of sale. For advice to be considered "suitable," the financial professional must only have an adequate reason to believe a recommendation fits the client's financial situation, needs and other investments at the time of recommendation. If the client's financial picture were to change, the financial professional is not obliged to proactively manage or update the investment strategy. As a result, their duty to a client's investments and financial situation ends once the trade is placed. These advisors aren't obligated to monitor client accounts or financial situations on an ongoing basis. This professional is acting as a sales broker on behalf of the client more than an advisor.

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By contrast, a fiduciary Financial Advisor (Investment Advisor) is compensated with ongoing fees for advice and investment management only. This fiduciary must undergo a prudent process designed to determine their client's best interest. After making a recommendation, they discuss it thoroughly with the client to ensure there's no misunderstanding about the recommendation and the fiduciary's rationale for making it. Once the recommendation is implemented, fiduciary advisors must review all investments on an ongoing basis to ensure that they are still in the client best interests as their life and financial situation develops.

 

Advisors acting under the suitability standard may, but are not required, to have the same depth of discussion. Instead, the suitability standard only calls for fair dealing and best execution, which means the advisor must do the following:

• Execute orders promptly and at the most favorable terms available, determined through "reasonable diligence"

• Disclose material information

• Charge prices reasonably related to the prevailing market

• Fully disclose any conflicts of interest

The suitability standard does not require advisors to put their clients' best interests before their own, nor must they avoid conflicts of interest.

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How to tell your advisor is a Fiduciary

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Usually one of the first and best questions investors ask their advisors is how they are compensated. Registered Investment Advisors and fiduciaries are paid on a fee-basis. This means that the total balance of investments under management are aggregated and charged a fixed percentage, typically quarterly, as a fee. This arrangement keeps the advisor's interests and the client's interests aligned. Another method of compensation is fee-based financial planning. For clients seeking financial planning, fiduciaries provide planning services on an hourly or a fixed fee arrangement. 

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Any time another arrangement is offered, such as a commission up front, the advisor is not a fiduciary and is acting as a broker. Financial professionals selling on a commission or brokerage basis will sometimes favor commission based investment products such as A, B, C share mutual funds and annuities that pay hefty commissions up-front. Another way to tell is by asking your advisor whether he offers brokerage services for an up-front charge. If he or she does, then this financial professional is not a fiduciary.