What are Fiduciary Requirements & Why Are They Important?

03.02.22 | Personal Finance

Investing or planning for retirement? It’s important to choose an advisor who prioritizes your goals for decades to come. If you find the search to be a bit overwhelming, you’re not alone (check out our Financial Advisor Checklist for help!). To avoid extra costs and misguided information from the beginning, it’s essential to find someone trustworthy and who has your best interests in mind. Continue reading to learn more about why it’s important to choose an advisor who acts in a fiduciary capacity.

What is a Fiduciary?

Finding an advisor who recommends the best product/advice that pertains to your goals relies on the type of advisor-client relationship. A fiduciary is legally and ethically responsible for objectively acting in their client’s best interest. This standard allows the partnership to be founded on trust and confidence. Fiduciaries must make decisions that avoid conflicts of interest, such as commissions and outside relationships. Fiduciaries look outward and make recommendations based on their client’s goals, rather than fit the client’s goals to a product within their company. Since they’re not compensated for selling a specific product, it ensures a very transparent relationship.

However, not all financial advisors are fiduciaries, nor are they required to be to provide their services. Unfortunately, conflicting advice from non-fiduciary advisors can have backdoor payments and hidden fees. To avoid any potential conflicts of interest, we recommend finding a financial advisor who is transparent about their fiduciary status and compensation model.

How is an Advisor Compensated?

When consulting a fiduciary advisor, you should gain a clear understanding of their services and how they are paid. Generally, there are three pay structures to be familiar with:

Under this arrangement, the advisor is paid directly and only from the client, typically is a percentage of the assets being managed (AUM fee). There are no hidden fees or commissions. This helps ensure the advisor remains fair-minded since they’re not receiving additional compensation elsewhere.

Under this arrangement, the financial professional gets paid from the products he/she sells. Commissions can be paid upfront, ongoing, or on the back end. Often the commissions are built into the cost of the products being offered and are hard to determine unless disclosed. This can lead to a conflict of interest when some products pay higher commissions than others.

Fee-Based (combination of fees and/or commissions)
Fee-based advisors may get paid directly from the client and can also accept commissions from the funds/products they use. This type of arrangement is more transparent than commission-only but still has potential for conflicts of interest.

Find what advisor compensation structures you may or may not be comfortable with as you continue your search for a financial advisor. However, most fiduciaries are fee-only, as this compensation model aligns most closely to the Fiduciary Standard.

Responsibilities of a Fiduciary

Fiduciary financial advisors must adhere to three main requirements to practice under the Fiduciary Standard.

Duty of Care: a fiduciary must act within their professional care to make investment actions based on their clients’ goals. This allows the client-advisor relationship to be founded on transparency, confidence, and trust.

Duty of Loyalty: as a financial partner, a fiduciary must remain dependable when it comes to executing the proposal for their client’s portfolio. Furthermore, they must refrain from any conflict of interest that may impact the success of their client’s goals.

Duty to Act Within Good Faith: this responsibility goes hand-in-hand with the Duty of Care; the agreement that the fiduciary truly believes their recommendations and investment actions are most beneficial to the client.

These fiduciary requirements ensure the best experience for the client, allowing them to maximize their resources, achieve financial freedom, and create intelligent financial habits. Unfortunately, some advisors are not required to act under these standards, so it’s crucial to do your research. Meeting your advisor for the first time should feel transparent and comfortable. To go the extra step beforehand, you can visit www.SEC.gov to learn about their compensation structure, affiliations, or if any complaints have been filed.

Plan for a More Confident Financial Future

Managing your money with a fiduciary may give you peace of mind, knowing your best interests are their top priority. At Midwest Capital Advisors, we understand the big decisions that come with financial planning, which is why we have always chosen to offer our services held to the Fiduciary Standard. Contact Midwest Capital Advisors to start planning for a more confident financial future: https://midwestcap.com/contact/

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