Few topics inspire advisers’ passions more than the fees they charge clients. Given the stark variety in opinions out there, you could say that what to bill, particularly for ongoing services, is more of an art than a science.
Three main models continue to dominate the market: percentage-based charges, hourly fees and fixed rates. The majority of advice firms charge clients with a percentage-based model, particularly for ongoing services, but there are signs this is coming under more scrutiny from the FCA.
While contingent charging has grabbed the headlines when it comes to defined benefit transfers, the FCA has also asked advisers for information on ongoing costs and services as part of both its Retail Distribution Review and through a specific assessment of what is on offer.
Political and regulatory climate
Concern over potential conflicts arising from fee models may not be misplaced, as Australia, where things went very wrong, shows. In February the final report from the Australian government’s Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry was published.
In particular the probe uncovered flaws in Australia’s vertical integration model and has effectively struck it dead. This is something the UK’s advisers and regulators need to be mindful of as the market continues to bring products, platforms and distribution under one roof.
The Royal Commission also identified such extensive conflicts of interest in the way advisers are paid that it made 24 recommendations for Australia’s conduct and prudential regulators to tackle misconduct better. All of this serves as a warning about what can go wrong when nobody asks difficult questions about charging models.
Advisers must avoid complacency about their business models and keep an eye on political and regulatory developments as they can suddenly change.
Arguably, ad valorem charges for ongoing advice present their own conflicts when advising decumulation clients in the UK.
The advisers Money Marketing spoke to about fees have a range of views and charge clients differently. Some say hourly fees are not workable while others believe fixed charges are the way to go. They also have different opinions on whether modular services are easy to administer and if clients require annual reviews to receive credible advice.
Fees landscape in numbers
Numbers from the FCA’s Retail Mediation Activities Return give us a good view of the current fees landscape. These are collected at least annually from all intermediary firms and show the commercial activity of advisers in the retail sector.
The figures show revenue earned by intermediary firms increased in 2018 compared to 2017, continuing the trend seen in recent years, with 96 per cent of financial adviser firms making a profit and total pre-tax profits up to £872m from £698m in 2017. The proportion of revenue earned by financial adviser firms from restricted advice has been increasing relative to fully independent advice, up from 33 per cent in 2016 to 37 per cent in 2018.
In terms of charging models the data below (value of adviser charge revenue by type of advice provided) shows that for financial adviser firms a higher proportion of revenue – 63 per cent – was earned from independent advice in 2018. But this is now a downward trend as it was 67 per cent in 2016.
However, despite talk of a market moving to fixed fees, we are clearly yet to see widespread adoption among advisers. For initial advice, 58 per cent of advisers charge on a percentage or combined structure, including hourly or fixed fees. For ongoing advice, a greater proportion – just over two-thirds of advisers – charged either on a percentage of investment or combined structure.
Data below (total revenue from adviser charges by investment charge type) shows that revenue from initial advice charges has increased £107m – 6 per cent – to £1.9bn from 2017 to 2018. Meanwhile revenue from ongoing charges over the same period has increased by £542m – 19 per cent – to £3.4bn.
“Fixing fees and charges are difficult commercially as you have to work out how much the client values the service.
This falls in line with an FCA survey last year uncovered by Money Marketing, which suggests advisers across the board have increased their ongoing charges since the RDR, but may not have added many additional services.
The vast majority of ongoing charges were percentage based in the FCA’s sample, with more than 96 per cent levying fees on this basis across service levels. Across all service levels and all levels of assets, there were just three reports of firms decreasing ongoing charges in the past two years. This compares with 34 reports of firms increasing ongoing charges for at least one service level or level of assets.
Town Close Financial Planning managing director Jeremy Askew
I don’t see hourly charges ever working and percentage fees are just commission in disguise. We do flat fixed fees for initial and ongoing plan management. Initial fees are easily costed while ongoing fees are value based.
Our model is that we are either looking after, managing and advising on everything or nothing. It’s been like that for the past four or five years. As I’ve never considered hourly fees even possibly realistic, I wouldn’t really be able to comment on the pros and cons. As for percentage fees, they are simply an aberration. I’m embarrassed I ever charged them and I feel sorry for anyone still being charged that way.
Helm Godfrey chairman Danby Bloch says the percentage-based model that currently dominates the market is simple and robust, and he cannot see it changing any time soon.
This is due to the preference of advisers to attract clients with a lot of capital and assets combined with the commercial viability of percentage-based fees. Bloch argues that it is hard for hourly fees or fixed fee charging to break through and capture market share.
That is despite the known flaws with percentage-based fees, such as an adviser potentially taking more investment risks to boost their own fees, or clients with large portfolios subsidising those with smaller ones.
Bloch adds: “If you look at all the research, a pretty small percentage of advisers who charge on an ongoing basis do hourly charging. The people who say they charge on an hourly basis are quite small in number and are individuals with passionate views.
“The problem with their point of view is clients hate hourly charging as they feel they are being charged on the clock. Clients are prepared to do it with accountants and lawyers, but they do not like to do it with advisers.
“There are a bunch of advisers who like to charge fixed fees that have a time element where there is a floor and a ceiling in the bill. This might say ‘It is going to cost you £12,000 a year’ but if the market goes down the adviser is protected and if the market goes up the client is protected.
“If there is a move [from the FCA] against percentage fees we might move to an Australian based system. The IFAs in Australia are doing well because they have a fixed fee model that they negotiate every year.”
Despite the problems he sees with hourly charges and fixed fees, Bloch thinks it is a good discipline for advisers to use a timesheet.
“Most financial advisers are not disciplined about their time in recording things and doing admin. Keeping a note of how you spend your time is somewhat irksome but, if advisers did get into the habit of using one, they would find it unbelievably useful,” he says.
Appleton Gerrard Private Wealth Management principal Kusal Ariyawansa
In my view an hourly charge is exactly the same as a percentage-based charge. I am not keen on hourly rates because they are highly subjective. There is a pressure to bill clients. And percentage-based charges can be obscene.
The counter-argument to both these methods is to ask, where is the value for the client and are they getting value for money? In my firm we have fixed or value-based fees that are based on justifiable self-worth. We have menu options and three levels of service. All clients can opt out of an annual review, apart from defined benefit clients.
Legacy of the City
Antrams Financial Services IFA Stephen Bridges believes percentage-based charging is a legacy of a sales-driven culture the profession has done its best to move away from.
He says: “There is a hangover from the City, where charges have been made on a percentage basis, and it still explains the presence of that model.
“That sits against the menu model option. Financial advice is a true regional business. But the underlying funds are being managed in the City and that is where their influence comes in. So, it makes sense for the IFA to charge on the same basis. This is what has driven it.
“Essentially charges have to relate to work undertaken and the associated liabilities they carry. It has been a tortuous journey arriving at a place that is not driven by product sales and commission and the past payment structures still cast a long shadow over the industry.”
He adds: “The difference between investment management and financial advice is quite an interesting one and potentially a good route into what clients should be paying. Are clients paying to have their money managed, where traditionally the City uses percentage-based fees, and advised funds have continued this trend, or are they paying for financial planning advice, or indeed both?”
Bridges is adamant that pure financial advice has to be charged hourly.
He says: “We are a combined accountancy and financial planning firm and so the hourly charge is probably part of our ethos. But, increasingly, this is, or will, become, the norm for financial advice generally.
“Where we probably need more research is the actual cost of a review across the industry. The back-office provider Intelligent Office suggests it’s about £1,200 a year per review plus the cost of the adviser so maybe a further £500 to £700 on top. A client review therefore comes in at around £2,000.”
Bridges also warns advisers who do percentage-based charging and depend on a few wealthy clients for the bulk of their annual revenue to be careful of the risks they might be running.
He says: “The point about larger clients is interesting. They may well be paying more than [£2,000], although it is likely that by their nature the planning around their investments is more complex and so they are in a sense not standard.
“The other point is that the potential liabilities for the adviser are higher with larger clients, and so are they willing to service clients where the liabilities may be based on several millions of pounds under management for £2,000 a year? I suspect not. There is probably a risk premium, although arriving at a consensus figure will be difficult.”
Are modular services viable?
Much of the debate on what types of charging are most suitable for clients comes down to whether an adviser believes a holistic approach is superior to a modular one that gives the client a menu of options.
Wingate Financial Planning director Alistair Cunningham says he does not like hourly charges as he believes they reward inefficiencies and discourage clients from contacting the firm.
He also thinks fees should be non-negotiable and that clients require ongoing annual meetings to receive proper financial planning.
Cunningham says: “Clients should feel like we are the first point of call, not ‘it’s going to cost me to call you’. I find it a bizarre and incongruous way of charging for a service delivered slowly over multiple meetings.
“I would rather go to a situation where there is a fixed-fee, but it is problematic switching from one basis to another. Our fees are non-negotiable, and it is a good thing as our core client tends to be at the lower end of affluence.
“The fact that they are non-negotiable means all clients are paying the same fee and firms that slash their fees suddenly would suggest to me they are unreasonable fees from the outset. Why would you get advice from a firm that says it charges a higher fee but suddenly lowers it to undercut rivals when you haggle with it? That behaviour sounds dubious.”
Wingate Financial Planning has strict rules about clients who miss annual reviews and Cunningham explains how it fits into the firm’s holistic approach.
He says: “If a client misses two annual reviews, we disengage with them because we need the meetings to do the advice properly. Our financial planning covers over 80 per cent of clients we give advice to and that includes an annual review at their convenience.
“I do not agree with modular services because if you do miss one thing out, you might as well not have an ongoing review. If you miss an annual review, it means more work and charges the next year.”
In contrast, Balance Wealth Planning managing director Rebecca Aldridge thinks a reasonable case can be made for opting some clients out of annual reviews.
She says: “We have to remember that there are many people for whom an ongoing financial planning relationship and all the associated advice is near essential, and of huge value. But financial advice is actually not compulsory.
“Plenty of people manage quite adequately without it and some people paying for it right now get no value at all from it.
“If someone doesn’t want to have annual reviews and their agreement with the firm ends or is adapted, I don’t have an issue with that. Not all firms would want to offer that service, but that’s a commercial decision.”
Aldridge also thinks it is possible for a firm to offer a modular service where the client pays for whatever ongoing services they need, and it is fair to charge an ongoing fee for dull but important work. She adds that both these decisions are at the discretion of individual firms.
There is no perfect model when each client is different
I don’t think there is a perfect answer for the question of fees. From a client perspective, a multi-millionaire with complex needs who is used to paying for a variety of professional services will have a very different mindset towards hourly charging to someone in a typical job who simply has a personal pension.
They might have been paying into the pension regularly, but may need regular reassurance or a discussion about contribution levels, or potential changes in their lives regarding inheritance, divorce, health, and so forth.
From an adviser perspective, different points of advice carry different levels of risk, some of which will be tied inextricably to the value of the investments being advised on. There is a cost to carrying that risk that is not related to an hourly rate.
And what about the greater use of automation in the background of advice – or even fully automated advice – as it becomes a practical reality in some areas? How do you charge an hourly rate for a digital service that takes milliseconds in processing time? But all the investment in that technology has been upfront and still needs to be paid for.
Surely the essence of any service when choosing a charging structure should be what good value is for the client as they perceive it.
Jamie Smith-Thompson is managing director at Portafina
No exact fit
Plan Works director Nathan Fryer is against hourly fees and says advisers have very different relationships with clients compared to solicitors and accountants.
This is because solicitors and accountants are typically used for one piece of work a year. Advisers, however, work all year round to ensure clients are positioned correctly whether that be through products or through coaching.
Fryer is also against percentage-based charging as an adviser’s remuneration should not be linked to the success of a portfolio.
He adds: “The age-old saying ‘The success of your portfolio is linked to my remuneration’ is ludicrous. Advisers have no control over markets and in testing market conditions it doesn’t matter where you are invested, all asset classes correlate.
“I am more an advocate of fixed initial and ongoing fees, based upon the work being carried out. This way wealthier clients are not cross subsiding not so wealthy clients for the same work.
“You can have a modular ongoing service. The only issue is that the client may have more complicated needs than they realise and so having a menu-based approach on a website may not work. The modular ongoing fee service will need to be based upon the adviser’s initial assessment of what the client needs.”
For Dunstan Thomas director of retirement strategy Adrian Boulding, there is no perfect model of charging as each one has flaws and is open to potential abuse.
He says: “There is no charging model that does not involve going in a direction with the advice you give. A percentage-based model might encourage you to sell particular services or products to generate business.
“An hourly fee model might lead to a situation where you bill for work you have not done to boost your fees. And a fixed fee model might inspire a marketing bias where you pitch to a particular client base that is simpler and easier to service.”
But he does have an idea of ways to mitigate any risks. He says: “In my mind a good advice firm will have different charging structures for different sorts of client on their books.
“Professional indemnity insurers that look at a firm where a few wealthy clients generate the bulk of the revenue might be cautious about underwriting liabilities beyond a certain level, as the cost of coverage if something goes wrong could be enormous.
“Your advice business could go under if it is exposed to the liabilities of a few customers and you have no professional indemnity insurance cover. A firm that diversifies its revenue stream is more resilient and demonstrates customer-centric thinking.”