Changes are coming on how financial advisors are paid.
Details of these changes are not known but investment industry participants have been debating this important topic for many years.
What we do know is there will be changes. When, is still uncertain.
For many advisors, a significant part of their remuneration comes from embedded commissions based on investment product purchases, and continued ownership of mutual funds.
The most disputed embedded costs are the mutual fund trailer fee and deferred sales charges (DSC).
Trailer fees are the commissions the mutual fund company pays to advisors for selling and retaining its funds, and can range anywhere from .5 per cent up to 1.5 per cent.
Not everyone is aware of deferred sales charges.
These are the back-end fees that lock in investments for, typically, seven years.
Many mutual funds pay an initial five per cent commission to the investment firm, knowing it will receive ongoing trailer fees. This commission is then usually split between the investment firm and the financial advisor. To safeguard themselves from losing that up-front money, the mutual fund company will charge the investor a pro-rated redemption fee if they sell early.
This does not safeguard the client who may have purchased these mutual funds without being aware of the details.
For example, if you purchased $100,000 of the mutual fund, the investment firm and advisor would be sharing a commission of $5,000.
If the investor sold that mutual fund in a short period of time the investor could be charged $5,000.
The issue being discussed is not whether there should be a fee for receiving investment advice.
The issue is embedded commissions are often not understood by the individuals who invest.
Last week Maureen Jensen, chair and chief executive of the Ontario Securities Commission said the status quo on the use of embedded commissions is no longer an option.
In her opening remarks at a roundtable discussion held in Toronto, Jensen said, “As regulators, we are very concerned about the conflicts that arise from embedded compensation.”
The Canadian Securities Administrators (CSA) have been dealing with this topic as well.
The CSA oversees all the provincial securities commissions.
It released a paper early in the year requesting comments about embedded fees and by June had received 140 submissions.
Jensen said the core issue of embedded commissions is a conflict of interest.
When certain investments pay a commission, there is an incentive for advisors to sell those specific investments to their clients.
It is my recommendation that you take the spirit of this ongoing dialogue to heart and have your own discussion with your financial advisor on how they are remunerated.
This does not have to be a challenging conversation but one of clarity and understanding.
It is in your best interest to understand all aspects of the investment advisor payment to ensure there are no conflicts of interest in the investment advice you receive.
Peter Watson is an agent of, and securities products provided by, Aligned Capital Partners Inc. (ACPI). ACPI is a member of the Investment Regulatory Organization of Canada and the Canadian Investor Protection Fund. The opinions expressed are those of the author and not necessarily those of ACPI. Peter Watson provides wealth management services through Peter Watson Investments.