The Essentials
At a Glance
- A fiduciary investment adviser owes duties of care and loyalty to clients.
- How an adviser is paid shapes the incentives behind the advice you receive.
- Public disclosure documents show an adviser's fees, conflicts and disciplinary history.
How do you know whether the person advising you is required to put your interests first? It is a fair question, and the answer is not always obvious from a title or a business card. The word fiduciary is the key, and it is worth understanding precisely, because it describes a legal obligation rather than a marketing claim.
What a fiduciary is
A fiduciary is someone legally obligated to act in another person's best interest, placing that person's interests ahead of their own. The concept is old and applies in many settings: a trustee managing assets for beneficiaries, an executor settling an estate, an attorney representing a client.
In financial advice, an investment adviser (a firm or individual registered to provide advice about securities for compensation) owes a fiduciary duty to clients. That duty is generally understood to have two parts. A duty of care means giving advice suited to the client's circumstances, based on a reasonable understanding of them. A duty of loyalty requires an adviser not to put its own interests ahead of the client’s. Conflicts must be eliminated or fully and fairly disclosed so the client can give informed consent. Disclosure alone does not excuse advice that fails to serve the client’s best interest.
A fiduciary standard does not ensure good advice. It determines whose interest the advice is supposed to serve.
Investment advisers and brokers
The service relationship matters more than a job title. Investment advisers generally provide advice under an ongoing agreed relationship; the scope of that relationship shapes obligations such as monitoring. Brokers help customers transact in securities and may also make recommendations.
Under the SEC’s Regulation Best Interest, a broker-dealer must act in a retail customer’s best interest when recommending a securities transaction or investment strategy involving securities. The rule includes disclosure, care, conflict-of-interest, and compliance obligations. A recommendation does not satisfy that rule merely because it is suitable or because a commission was disclosed.
For example, if two products serve similar purposes and one pays a larger commission, ask why it is recommended, what reasonably available alternatives were considered, and how the conflict is addressed. Neither standard permits putting the professional’s compensation ahead of the customer’s interest. Some professionals act as both an adviser and a broker, so ask which capacity applies and whether ongoing monitoring is included.
How advisers are paid, and why it matters
Compensation shapes incentives, so how an adviser is paid sits close to whose interest the advice serves. Three models are common.
Fee-only advisers are paid solely by their clients, whether as a percentage of assets managed, a flat or hourly fee, or a retainer. They receive no commissions or payments from product providers. This does not eliminate every conflict, since an adviser paid on assets has an interest in those assets growing and staying under management, but it removes product-sales commissions as one source of conflict. Other business incentives can remain.
Commission-based professionals are paid by the companies whose products they sell, through commissions, sales charges or ongoing payments. The client may pay nothing directly, but the cost is built into the product, and the professional's income depends on what is sold.
Fee-based advisers, a term easily confused with fee-only, may charge fees for advice and also receive commissions on some products. This hybrid arrangement varies widely, and the distinction between fee-only and fee-based is among the most commonly misunderstood in the field.
None of these models is inherently improper, and none ensures good advice. But each creates a different set of incentives, and knowing which one applies helps you interpret what you are told.
What the public disclosures contain
Registered investment advisers must file public disclosure documents with securities regulators, and anyone can read them.
Form ADV is the primary filing. Its first part covers the firm's business, ownership, size, types of clients, disciplinary history and conflicts of interest. Its second part, written in plain language, describes the services offered, the fees and how they are calculated, the investment approach, and the conflicts the firm has identified and how it manages them. A supplement describes the background and qualifications of the individuals who give advice.
Form CRS, a short relationship summary, is designed for individual investors and answers a standard set of questions: what services are offered, what fees and costs apply, what conflicts exist, whether the firm or its professionals have a disciplinary history, and where to find more information. It also includes a list of questions investors are encouraged to ask.
Reading these documents before an engagement, or asking an adviser to walk through them with you, is a well-spent hour. The direct questions below need no filing at all, and a professional who answers them plainly is telling you something valuable. Where a question turns on the legal structure of a trust or estate, or on a specific tax matter, a qualified attorney or tax professional belongs in the conversation as well.
Questions to Discuss With Your Advisor
- Are you a fiduciary in every part of our relationship, or only for certain services?
- How exactly are you compensated, and does any of it come from third parties?
- What conflicts of interest are described in your Form ADV and Form CRS, and how do you manage them?
- Do you or your firm have any disciplinary history I should know about?
