Understanding how financial planners are paid

When you are looking for financial advice, one of the questions you should always ask is: “How does my financial planner get paid?”

The answer will tell you a lot about whether the advice you get is truly independent and good value for money.

South African financial advisers typically earn income through three main models - commission, through fees or through a mix of both.

1. Commission-based compensation

This is the traditional model that involves advisers earning upfront and ongoing commissions from product providers (for example, insurers or investment platforms).

How It Works

• The adviser recommends a product (for example, a retirement annuity).
  
  
• The product provider pays the adviser a commission, which is often a percentage of the investment or the premium.
  
  
• Ongoing or “trail” commissions may be paid annually.
  
  

What to consider

• Conflict of interest: The adviser may be incentivised to recommend products to you that pay higher commissions.
  
  
• Transparency: Be sure to read the terms and conditions to understand how much the adviser is earning.
  
  
• Limited product range: Advisers who are tied agents working only for, for example, one insurer may only offer products from that provider or from a few limited providers. This means they do not shop around for the best product for you.

2. Fee-based advice

Fee-based financial planners charge you directly for their services, rather than relying on commissions.

Common fee structures

• Flat fees: A fixed amount for a financial plan (for example, R30 000).
  
  
• Hourly rates: A fee is charged for every hour that the adviser spends in consultation with you or working on your financial plan (for example, R1 200/hour).
  
  
• Assets under management (AUM): A percentage of your investment portfolio (for example, one percent annually).
  
  

What to consider

• Transparency: Ensure the adviser discloses their fees to you if it is not clear in the terms and conditions so you know exactly what you are paying.
  
  
• Alignment of interests: The planner earns more if your portfolio grows. However, once your investments reach a certain level, you may pay more than you would if you were being charged an hourly rate.
  
  
• Objectivity: There is no incentive to push specific products.
  
  

3. Hybrid model (fees + commission)

Some advisers use a combination of both models. For example, they may charge a fee for a financial plan and earn commission on products.

What to consider

• You should ask for a clear breakdown of fees versus commissions.
  
  
• Your financial planner should disclose any conflicts of interest.
  
  
• Some advisers offset the commissions they earn against the fees charged for a financial plan or for advice.

Be aware of other costs

It is important to note that you do not only pay fees to your financial planner. There are also fees you need to pay to other financial services providers.  Any fee disclosure should help you identify these other fees:

1. Administration platform fees

If you are investing through an investment platform it may charge administration fees (for example, 0.25 percent annually), which are deducted from your investment. Read more: What is an investment platform?

2. Investment management / fund fees

Unit trusts and exchange traded funds charge investment management fees (for example, 0.5 percent –1.5 percent) that reduce your investment growth.

3. Switching costs

Changing products or platforms may incur exit fees, penalties, or capital gains tax. Read more: What is capital gains tax?

4. Performance fees

Some asset managers charge extra if your portfolio exceeds a benchmark – a fee known as a performance fee which can be costly if the fee is not capped. Read more: How are performance fees calculated?

What should you ask your planner?

Before you commit to using a financial adviser, ask these questions:

How are you compensated?

Do you earn commissions from products that you recommend?

Can you provide a breakdown of the fees that will be charged in rands?

Are there any hidden or ongoing costs of which I should be aware?

As a client of a financial adviser you must be aware of what you are paying for. Some advisers offer more value than others, even if their fees are higher. And an adviser who charges lower fees may not offer complete financial planning.

Make sure you understand the adviser’s offer, their fee, and the benefits for you before making a decision about who to work with.