The price of advice

Should you pay IFAs commission or fees? Nic Cicutti reports

Trust is probably the most commonly used term to describe the nature of a relationship between financial advisers and their clients. But can you trust someone if he or she is paid not because of what they do for you but by the commission they receive on the products you buy?

The dilemma is alleviated only slightly by rules introduced a few years ago, whereby advisers must tell you how much commission they stand to earn for each of the products they recommend. For hundreds of thousands of people who desperately want an unbiased adviser to help them resolve their often messy financial problems, the uncertainty created by this state of affairs makes them reluctant to speak to anyone.

The issue has surfaced again in the wake of a brief guide issued by IFA Promotion, a body which promotes independent financial advice, on how to begin to resolve this question.

The IFA Promotion leaflet explains the basic difference between fees and commissions. "If you decide to pay a fee," it says, "you're not going to be suddenly confronted by an unknown amount.

"You will know in advance if the IFA charges a hourly rate. Any commission paid by the product provider will usually be returned to you in cash or as extra policy benefits."

Advisers are bound by rules, policed by their financial regulator, which mean they must give you suitable advice, taking into account your personal circumstances, the product's financial performance and their charges. If you pay by commission, you will always be told the amount your IFA is earning before signing on the dotted line, the leaflet adds.

For increasing numbers of advisers, however, simply spelling out the difference is not enough.

Chartwell Investment Management, a firm with offices in Torquay and Bath, this week published its own pamphlet in which it argues that payment by commission increases the risk that advice may be biased in favour of products that pay more, rather than being better for the client.

This is most likely to be the case with pensions and life company products, where commission for regular-premium policies can often be up to 75 per cent of the first year's contributions. Even with life insurance company investment bonds, the commission usually paid is between 5 and 6.5 per cent. If you have pounds 100,000 to invest, that would take a huge chunk out of your money.

Nor is the problem confined to life companies. Stephen Brady, an IFA with Chartwell, points out for example that most commission-biased advisers tend to recommend unit trusts in preference to investment trusts. "The difference is often that unit trusts carry initial commissions of up to 3 per cent, whereas investment trusts carry none at all," Mr Brady says.

Moreover, he adds, financial planning is not simply about products: "In many cases, our advice is about the best instant deposit account to put rainy-day money into, how to minimise inheritance tax and wider tax-planning issues. None of these necessarily pay any commission."

Fees are not cheap. One example is of a client who wanted advice on how to invest pounds 450,000 for both income and growth purposes. Chartwell charged him pounds 5,000, which will involve regular reviews of his portfolio. But Mr Brady adds that all commission payable by products providers was rebated back to the client and used to enhance his investment. In effect, the client gained far more in rebated commission than the pounds 5,000 he paid.

Janet Walford, editor of Money Management, set up a register of fee-charging IFAs a few years ago after a survey by her magazine, regarded as a bible by many advisers and their clients, revealed large differences in fund performance depending on commissions paid by life offices.

The register, with more than 500 advisers' names, is run for Money Management by Matrix Data, a specialist information provider. Callers to the register leave their name and address together with the specific areas for which they need advice. A computer then matches the caller's address with that of the nearest advisers with that special area of expertise and a list of six is sent to the caller.

Another option is provided by the Institute of Financial Planning, whose 400 members also operate on a fee-charging basis. The IFP can supply details of suitable advisers to callers.

Despite her personal commitment to fee-paying advice, Ms Walford is sceptical of those who say this is the only way forward: "My primary aim is for people to receive independent advice however it is paid for.

"There can be problems with fees in that you may have to pay VAT on them whereas you can get tax relief on commission. The other problem is that very often people can't pay the fees, which can be between pounds 70 and pounds 100 an hour. The important thing is that people are given a choice. The pivotal thing is trust. Without it how an adviser is paid matters very little."

Richard Hunter, a senior financial adviser at Holden Meehan, a London IFA firm, adds: "We are very relaxed how people pay and are happy to hand commission back to clients if they pay fees. In some cases, after you have factored in all the costs, it is cheaper to pay by commission."

Roddy Kohn, a financial adviser at Bristol-based Kohn Cougar, is even harder-hitting, despite also giving his clients a choice of paying by fee or commission: "Consumers want honesty from their advisers and this need not be represented simply in an adviser who charges fees. History is plagued with stories of fee-charging professionals who have embezzled money, given inappropriate advice or who have been simply negligent.

"What is needed in the relationship is trust. That doesn't come from one method of remuneration over another. The bottom line when you meet an adviser is, `Can I trust him to look after my financial interests?' If your common sense suggests not it doesn't matter how he is paid. You simply shouldn't use him."

Useful phone numbers

Chartwell Investment Management: 01225 446556

IFA Promotion (for a list of advisers near you): 0117 9711177

Money Management register of fee-charging IFAs: 0117 9769444

Holden Meehan: 0171 6921700

Kohn Cougar: 0117 9466384

Institute of Financial Planning: 0117 9304434

Questions to ask your adviser

What exactly do you mean by "suitable advice"?

How many recommendations did you consider were suitable for me? Why did you choose this one?

How will your charges affect the returns I get from my investments?

If a company is offering you a very high commission on a product, are you prepared to take a smaller percentage?

Is it better to pay a fee or do I benefit if you get commission?