Advice pricing: switching to fee-for-service

The Financial Planning Association (FPA) is cracking down on conflicts of interest and the use of commissions to improve the profile of the industry.

At the same time, consumers are increasingly shunning product-based advice, putting pressure on financial planners to ditch the old commission structure.

According to HLB Mann Judd Financial Services managing director Bob Neill, more financial planning practices are looking to make the transition from commissions to fee-for-service, but if the change is not managed well it can be fraught with problems.

He says advisers need to be aware that clients may be suspicious of change, the risk of bad debt can increase, rival advisers can undercut on price and administration will become more expensive.

“You have to be very careful in how you price your services — find out what it costs to deliver and then also take into account what the marketplace is charging for that service,” he says.

A new payment model

Despite the potential pitfalls, Neill believes the fee-for-service method is the most appropriate way to charge clients, as it encourages advisers who may have previously had a ‘set and forget’ attitude with their less profitable clients to revisit plans more often, or at least discuss the level of service with these clients.

“You are going to have to sit down and provide a service to every client this way, whereas through the commission system you may have been receiving commission but not doing anything for them,” he says.

Wilson HTM senior financial planner Julian Battistella says he has been using the fee-for-service method since he began his career at Deutsche Bank several years ago.

“Within Deutsche Bank it was recognised very early that to be successful as a planner you would need to demonstrate to your clients that you were adding value to their strategy on an ongoing basis. The product we sold was advice,” he says.

On the other hand, Battistella knew advisers in other dealer groups who had been growing their client base over many years.

They operated on a commission basis and were working long hours servicing up to 2,000 clients, many of whom were unprofitable.

“You didn’t need to be too bright to realise that this was not sustainable,” he says.

Making the transition

Deutsche Bank used financial planning veteran Jim Stackpool of SCAT to provide intense training to help advisers start charging fees and the group’s marketing department spent considerable resources classifying clients and writing to them about the new service program.

All clients were required to sign an individual ongoing service agreement, which outlined the level of service to be offered and the fees that would apply.

“As my career was only just beginning, I didn’t experience the level of problems that advisers with large client bases had to deal with. I always had a view that one day trailing commissions would disappear, therefore I have always focused on rebating commissions and charging a fee based on funds under management.

“This way the client controls the fee paid to the dealer group and if they are not satisfied with the service provided on an ongoing basis, they can easily turn the fee off. This flexibility provides clients with peace of mind and I am pleased to say I have not had a single client turn off their fee over the past 10 years.”

Changing consumer views

Some of the biggest wealth management firms in the country, including AXA, MLC and ANZ, have come around to this way of thinking and have already made changes to their remuneration policies.

ING-owned RetireInvest is following suit and has transitioned a fifth of its advisers with the rest to follow by the end of this year, in what is perceived as a watershed move for the industry.

The standard model is for planners to charge the client an initial up-front implementation fee followed by fees for ongoing services, rather than simply collecting commissions from a chosen investment product, although clients with smaller amounts to invest will still be allowed to opt for the commission-based system.

AXA general manager, financial advice network, Andrew Wadell says AXA planners were transitioned to a fee-for-service model because of consumers’ changing perceptions about commissions and to enable advisers to develop “clearer and more compelling value propositions for consumers”.

“Fee-for-service allows the planners to be paid for their services whether or not a product was used,” he says.

However, he adds that changing to the new payment method will require a shift in mindset for some planners, who must understand that their advice needs to be commercially viable in its own right, determine how to price their advice and have the means to collect fee-for-service income.

Client communication

Neill has helped many financial planning firms move to a fee-for-service model, although he says the terms can sometimes be a contradiction.

“First of all, you are going to have to sit down and decide if you are actually going to charge a fee-for-service because many businesses opt to charge based on funds under management.

“If you are going to base your charges on service, you need to sit down and tell the client they are going to get services X, Y and Z and, they might see you twice a year and have their queries answered by phone or e-mail and get an invite to your cocktail party.

“Obviously, a person with $1 million under management will need quite different services from someone with $20,000.”

Neill also believes the way the change is communicated to clients is particularly important.

“Many people are suspicious of change and clients are generally financially unsophisticated so there is a fair degree of nervousness on their part,” he says.

Advisers should also note that different clients have different expectations of how they want to receive information.

For example, an older client base may not find e-mail an acceptable form of communication, or if they are used to you popping around to their house for a cup of tea, they might not be happy with a letter.

The major additional cost to any business using the fee-for-service method is the time-consuming practice of sending the client a bill and rebating back commissions from the fund manager, which requires much more advanced IT systems.

“You have got to calculate the cost to the client, raise the invoice, send it out and record when the payment comes in, then chase it up if it doesn’t. This can be a significant ongoing administrative cost, and on top of that you have the increased risk of bad debts.”

IT solutions

It’s not all doom and gloom, however.

Neill says there are now plenty of sophisticated IT systems that can help to keep the paper mountain to a minimum.

Interfaces such as MYOB and Quicken are bookkeeping packages that include invoicing systems, while Casewear and Solution Six allow advisers to calculate the time spent on each client and the cost of providing services.

“Any system that requires the recording of time is going to be expensive to administer, but it is better for the adviser as it helps to work out how much it costs to deliver a service and how much should be charged. There is no commercial sense in adopting new pricing and being worse off.”

Advisers moving to fee-for-service should check out what the competition is charging, Neill adds, because those practices that have been charging fees for some time and have transitioned most of their clients are often more efficient and therefore able to charge a lower price.

“If you price your services too high, you may run into some competition problems,” he says.

Battistella says his advice for planners looking to transition to fee-for-service is to focus on providing strategy advice rather than product advice.

“I am pleased to say the days of planners filling a bucket with funds under management and collecting the trails are disappearing. Always remember, if you are delivering value to a client they will be happy to pay a reasonable level of fees for initial, implementation and ongoing advice.”