Are financial advisers biased towards products they earn commission on?

You could sort out your finances with the help of a financial adviser and, while choosing the right one for you can be tricky, you should also consider how they get paid.

If your financial adviser earns commission on financial products or they are affiliated with certain companies, you need to keep this in mind. We find out how they can get paid and what this means for you.

Tip: Outside of a financial adviser, you should also educate yourself. Read our articles to get wise.

How do financial advisers earn money?

According to Danie van Zyl, independent financial adviser at WMD Financial Services, there are three standard ways financial advisers are paid. He explains what each of these methods mean below.

1. Upfront commission

This is normally paid by a life insurance company or product provider such as Liberty, Discovery, or Sanlam. The financial adviser receives commission for introducing a client to the provider.

The commission is based on the premium and the terms of the product. Upfront commission can apply to risk cover (life cover, disability cover etc) and investments.

Commission earned from investments is a combination of upfront commission, which is capped at 50% of the full commission applicable, and ongoing commission.

2. Advisory fees

Advisory fees for unit trusts or platform investments, such as Ninety One, Allan Gray, or Sygnia, consist of a percentage of the investment amount. There can also be an upfront or initial advice fee, and an ongoing advice fee.

• An initial advice fee can be a maximum of 3% (excluding VAT) of the investment amount. This fee is deducted from the initial amount and only the balance is invested. For example, if a client invests a lumpsum of R100,000 and an adviser is paid an upfront fee or initial fee of 1%, that means R1,000 will be deducted and paid to the broker and the remaining R99,000 will be invested (not including VAT in the calculation).
• An ongoing fee is deducted from your investment on a monthly basis as long as the adviser remains the appointed adviser of the investment. This is a fixed percentage capped at 1.5% (excluding VAT) of the investment amount.

3. Ongoing commission

Ongoing commission is either a percentage of the premium, which is often the case with short-term insurance products, or a fixed amount such as with medical aids. This type of commission is paid to the servicing adviser on a monthly basis for as long as the adviser services the client/product.

Can an advisor remain unbiased if they earn commission?

Van Zyl points out that financial advisors generally promote or sell products for which they earn upfront commission. Therefore, he believes it’s important that clients understand the advantage of dealing with an independent financial adviser as opposed to an adviser that is tied to a specific product provider.

“If your adviser may only sell products from a certain insurance provider and you have a policy with a different insurance provider, the adviser will likely need to cancel your existing policy and replace it with a new policy from the product provider they are licensed with,” says Van Zyl.

He explains that, in contrast to this, an independent adviser should have contracts in place to ensure that the client is serviced, rather than the product being replaced.

“Unfortunately, the industry has created an incentive that has resulted in advisers cancelling policies and selling new products to their clients to ensure new commissions,” says Van Zyl.

“There are instances where this could benefit the client. But from our experience, when an adviser changes a client’s policies primarily to generate commission, the client is unfortunately not always better off,” he explains.

However, he adds that important changes are being made in this regard, such as the implementation of the replacement advice record (RPAR) in terms of Rule 19 of the Policyholder Protection Rules (PPRs) made under Section 62 of the Long-term Insurance Act.

“This requires that the adviser compares the new recommended product with the product to be replaced. The adviser is required to explain the differences of each aspect of the policy to the client,” says Van Zyl.

READ MORE: Sceptical about financial advisers? Here’s how to find one you can trust

Is it worth working with a financial adviser?

Van Zyl says that he often hears terrible stories of clients being cheated by financial advisers and losing a lot of money due to advice that is not client-centred but rather commission-centred.

However, in his opinion, there are just as many stories of clients who receive valuable and professional client-centred advice.

“It’s important to remember that financial products are usually complicated and confusing to clients. Clients who understand how financial products work do not always have the time to stay on top of the latest products and the evolving financial landscape,” says Van Zyl.

He explains that there are numerous studies that show how clients who use a client-centric adviser have made significantly better returns on investments than clients who tried to figure it out on their own.

“Most financial adviser practices provide financial advice and then receive payment if the client implements the advice by purchasing a product from the same adviser. Therefore, the advice is provided for free. If you go to an accountant for advice, you will receive an invoice for their advice and time spent,” says Van Zyl.

“The question then remains, will South African clients who are used to not paying their financial advisers for advice be willing to start paying for advice? And if the industry changes to an ‘advice for a fee’ approach, will the clients that really need guidance and advice be able to afford it?” asks Van Zyl.

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