It’s the biggest change in financial services since the Big Bang. On 1 January, the Retail Distribution Review (RDR) kicks in. The idea is to make the cost of financial advice far more transparent and ensure the advice itself is of better quality. But true to form, with just weeks to go, some advisers may be taking advantage of their less knowledgeable clients.
Under the current system independent financial advisers (IFAs) can offer what looks like free advice. In reality they receive commission for recommending certain products from fund management houses and/or the fund platform that handles the administration of the investment. These commissions can be up-front payments (‘initial commission’), or an ongoing fee calculated as a percentage of the total investment (a ‘trail commission’), or a mixture of the two.
The latter in particular have tended to be well hidden, but can add up. “Annual trail commission is typically 0.5% for an investment Isa and more for pensions and investment bonds”, says Elaine Moore inthe Financial Times. Worse, it “is taken out of a client’s money regardless of whether or not the adviser has done any new work”.
Under RDR, any adviser who claims to be independent will be unable to receive new trail commissions. Instead, they will have to charge separately for their advice, say by the hour, as a fixed fee, or perhaps take a percentage of the assets being managed.
However, here’s the loophole: if an adviser can set up a trail commission on a product sold before the end of this year, they will be allowed to carry on receiving it even after the new rules take force. “They can also continue to take trail commission on investment bonds”, says Moore, “even if the funds held within these wrappers are closed and new funds are opened.”
It’s little surprise then that, according to the regulator, the Financial Services Authority (FSA), there has been a marked increase in the sale of investment bonds as savings products in 2012, says Moore. Meanwhile, third-quarter results from insurer Prudential show that sales of onshore bonds were up 27% in the first nine months of 2012 compared to the same period in 2011.
Our advice is simple. If you are buying a fund before the end of the year, make sure you check your adviser’s commission arrangement before following their advice. And if you already have funds that are paying a trail commission, it is worth looking for a similar ‘post-RDR’ version to replace them with. The lower the fees you pay, the better your long-term return.