Flat Fee for Advice: Fad or the Future?

When we stopped basing our compensation on a percentage of the brokerage accounts we oversee in 2014 and switched to a flat fee, I couldn’t find an example of anyone else with this structure. That’s not to say there weren’t any, but I did look in earnest and couldn’t find any. But I’m starting to see more now, and I’m not sure how I feel about it.

I’ve talked about this before, but in my opinion, the model where financial advisors charge a percentage of the assets they manage has some serious inherent problems. Most importantly, it generally tends to lead to a very portfolio centric client/advisor relationship. That is, the advisor’s value proposition is that he/she will select superior funds or stocks for the client to invest in.

You might say: What’s wrong with that? And the answer is: It depends on your perspective. If you’re comparing this to picking your portfolio on your own, then it’s fine, because most laypeople will not actively pick anything or will just pick the funds that have the best past performance, even if the fund company literature warns against doing so.

On the other hand, you’re comparing it to the client investing in a low-cost computer algorithm based portfolio, or “robo-advisor” account, then the comparison becomes more challenging, and essentially comes down to the advisor/fund company’s evidence that their track record/research/trading platform, or whatever, is better, and their picks will provide higher returns than the computer’s will.

But the biggest problem with a portfolio-centric relationship is that it discounts the value of advice and implementation support in all the other areas of a client’s financial life. And that’s where most people really need the most help. That’s where the value of working with a financial advisor really lies. As in guidance and accountability on cash flow management, debt structure, tax planning (not tax preparation! Although lots of us want that too), business planning, and the list goes on.

The argument for percentage-based fees is that paying for advice in this manner means the advisory firm makes more money when the account balance grows, and less when it goes down. So, you’re both on the same side of the table. Seems legit.

One might also argue that this model leads to the advisory firm having better incentive to provide ongoing advice and service. But if the ongoing advice and service is exclusive to the portfolio selection, the value is somewhat limited, as I say above.

The other really big benefit of the percentage-based compensation model is exclusive to the advisory firm. It makes getting paid a lot easier. The average client will not pay attention to the advisory fees when they’re withdrawn automatically from the value of their investment account. Especially when the market is rising, or if the fees are buried in the mutual funds the firm recommends, as with C class share mutual funds. Charging a flat fee from an account other than the investments means the client has no choice but to pay attention, and question the value of paying it more frequently. Speaking as a consumer, that’s what I want. Speaking as an advisor that’s driven to provide ongoing value, challenge accepted.

The flat fee model might not be perfect, either. For example, when markets are declining, the flat fee becomes a larger percentage of the total value of a client’s wealth. But if it’s not an egregious flat fee, and the value of the ongoing advice and support is there, this shouldn’t be a question. And until we live in a world where personal finance is completely automated, and we’ve evolved to the point where our emotions don’t cloud our financial decision making, I can’t think of a better one.

Seeing more firms beginning to adopt the flat fee model is heartening because I think it will serve consumers well, and it also reassures me (and my wife who understandably questioned my decision to adopt it in 2014), that I’m not completely nuts. It bums me out because, for a little while, we were unique. Or at least I thought we were. Don’t burst my bubble if you know otherwise, please.