Interest in fees may reveal some embarrassing truths

These days you can hardly open up a newspaper without finding an article on either the latest scam or fees. It should not be unexpected in these times of job uncertainty, people living longer and governments winding back pensions that many are tempted by the get-rich-quick schemes. It seems to me that there might be some people in this industry that are being tempted by ways to structure their fee income that may not be really in the client’s best interest.

A dear friend of mine is nearing retirement and his only assets are a home and $30,000 in superannuation. The low amount in superannuation is a reflection of the industry he is in — it pays little and sacks/retrenches often.

He is now desperately worried about his retirement. Some years ago he sought out a financial planner, but received the attention his scant amount of money apparently warranted.

Now he is looking into every get-rich-scheme going. One week it’s an accountant suggesting he set up a do-it-yourself fund (with $30,000) so that he can invest in some of the accountant’s investment opportunities.

Other schemes resemble the Wattle scam. I am just waiting for him to be sucked in by one of the many property wealth creation opportunities that are being mass marketed currently. There are two of them I would like to outline.

One is called a property wrapper. A property promoter invites, say, John (the investor) to a wealth creation seminar. At the seminar, John is tempted by the opportunities offered by gearing into property.

But these promoters have even a more tempting opportunity for John. They have clients who are currently renting properties from them, who would like to buy the properties they are renting, but unfortunately cannot get a mortgage. John is offered the opportunity to buy one of these properties, at say $100,000. The promoters say they can arrange a 100 per cent mortgage for John, say at eight per cent interest. As well, and this is the really good bit, they arrange to immediately on-sell the property to the tenant for $120,000 with vendor finance of say 12 per cent. How could John lose!

The other opportunity has the investor becoming a property expert after attending a course that has cost around $17,000. After this course, the investor is supposedly an investment property expert. No doubt you have also seen the ads saying “from a little as a few thousand dollars you can become a property millionaire within five years”.

Those attracted to these schemes obviously buy the promoter’s properties, but also become an advocate for the promoter as they try and convince other people to follow their path to fortune, obviously selling them more of the promoter’s properties. I do not know why so many people waste their time with Amway when there are these more lucrative multi level marketing schemes around?

How mass marketed scams like these continue is uncertain. The Federal Government found ways around the constitution to regulate superannuation, via corporations and tax law. I’m sure they could find ways to regulate these mass marketers of property scams. I differentiate between these mass marketers and your typical suburban real estate agent. But at some stage they are going to mar the reputation of the whole real estate industry.

However, before anyone in the industry gets too excited and says it is about time these schemes were exposed, be careful, as not all advisers are saints. Also, many of these mass marketers call themselves financial or investment advisers. And they can, as neither term is a reserved term. I raised this point in earlier articles.

The waters are even furthered muddied as a result of the Financial Services Reform Act. The Government and the regulators are going around telling everyone that there is now one regulatory regime covering investments. They do not go on to say all investments except property.

What temptations are there in our industry? There are many. They are supposed to be countered by disclosure, but are they? With newspapers writing more and more about fees, they are sure to challenge some of the industry practices. Currently their focus is on superannuation and master trusts are coming into their sights. Once they have done with fund managers and platform operators, why won’t advisers be in their sights?

Advisers who charge asset based fees must be an easy target. How can an asset-based fee relate to value? Is the value of the adviser’s service directly related to the value of the assets? If I go to an adviser with $50,000, do I get one-fifth of the service that someone gets if they have $250,000? Two arguments put forward to justify asset fees are that it is industry practice and it is performance based. The first argument is a lazy one and the second one dangerous.

With the second argument, has the adviser explained (and the client agreed) that it is a performance based fee — performance narrowly defined as investment performance? Or is the adviser holding him/herself to be purely an investment adviser?

Unfortunately, a number of advisers do perceive themselves as being primarily investment advisers rather than financial planners. This worries me with those advisers whose only investment education has been the one unit of the Diploma of Financial Planning (DFP). (They are really better educated then those people who paid $17,000 to be educated in property investments!)

But asset-based fees are so tempting, aren’t they? Especially when an adviser is working with margin lending products. Not only do they have the opportunity to double the asset-based fee, the adviser can also get the trailer from the margin-lending provider. I am sure this is fully and properly explained to the client - “If you do this, I make three times as much”. I wonder about the risk reward ratio — the client takes all the risk, the adviser all the reward.

And aren’t wraps and master trusts tempting. Not only from a fee perspective, but also from the perspective of what they do to the value of your practice, even better if you have equity in one. The temptation must be overwhelming.

Recently the Association of Independently Owned Financial Planners (AIOFP) was overwhelmed. They have just signed a deal to badge IOOF’s MAX platform. Although the Association does not have any equity interest in the platform, its members do. What does this do to their independence?

They are careful to say the association is for independently owned financial planners, but most members of the public would interpret this to mean that they were advice independent — and I’m sure that’s what they want. But by having their own product they can’t be.

The Australian Securities and Investments Commission’s (ASIC) policy is that an adviser cannot call themselves independent if they are owned by a manufacturer or take commissions. In this case, I’d argue, equity in the platform is a form of a commission.

The eagerness with which advisers have sought equity in platforms has and does worry me. It is perverting behavior, some advisers are churning clients into platforms, and advisers are being compromised as they build their businesses around platforms. Instead of focussing on advice giving and their own business, they are being sidetracked.

To platforms, add asset-based fees and margin lending. The temptation has been too great for some and greed has taken over. When the media does focus on this, as they will, a number of advisers will have difficulty explaining their actions. The media might even call it a scam.