“Fiduciary” and “fiduciary responsibility” are much-used terms in the law and in personal finance fields. And if you’ve looked into hiring someone to manage your money or property, you’ve probably had someone tell you to go with a fiduciary advisor.
But what is a fiduciary advisor, and what exactly do they do?
Understanding fiduciaries
Let’s start with a definition: A fiduciary is a person or organization with a legal and/or ethical responsibility to act on behalf of someone else (or a group of people) and to put the interests of that individual or group ahead of their own.
Typically, a fiduciary has more knowledge or expertise in a particular area than the person or group the fiduciary is helping. A fiduciary relationship is intended to eliminate the conflicts of interest and abuses that could occur in such an uneven situation by requiring the fiduciary to always act for the exclusive benefit and interest of those they are serving. Common examples of fiduciary relationships are those between doctors and patients, lawyers and clients and fiduciary financial advisors and investors.
What is a fiduciary advisor?
Due to the way securities and investment regulation has evolved in the United States, financial advisors fall under different rules regarding the way they operate. Advisors, who technically are known as registered representatives, are regulated by the Financial Industry Regulatory Authority (FINRA) and follow what is known as a suitability standard.
This means they are required to recommend only those investments that are suitable for each client’s circ*mstances and objectives. They also must comply with Regulation Best Interest, which requires that any conflicts between the client’s interests and those of the advisor and/or his or her firm be disclosed. An investor can determine if an advisor falls under the FINRA regulatory umbrella by looking for the phrase, “Member FINRA,” in the fine print disclosure at the bottom of an advisor’s or firm’s website.
Other advisors, known technically as registered investment advisors (RIAs), are under the purview of their state securities regulator or, if they are larger, the Securities and Exchange Commission. All RIAs are required to act as a fiduciary at all times, which means they put their clients’ interests above their own.
While this may seem straightforward, be aware that some advisors are simultaneously registered representatives and representatives of an RIA firm. The SEC’s Investment Adviser Public Disclosure website will help you find out who those dual-registered advisors are.
What is fiduciary duty?
Fiduciary duty is the legal responsibility to act solely in the best interest of another party. The other party may be an individual, a legal entity, such as a corporation, or members of a defined group, such as participants in a workplace saving program.
In the case of financial advisors, an RIA or other fiduciary advisor is required by law to put their clients’ financial interests above their own. For example, when given a choice between recommending two virtually identical investments, an RIA is required to recommend the one with the lower cost.
Fiduciary roles and responsibilities
Note that not all fiduciaries are financial advisors, and fiduciary relationships are common between two or more parties in other fields as well.
Trustee and beneficiary
Trusts are legal entities formed under state law that help in estate planning, tax planning, medical planning and charitable giving. In a trust, a person or corporation known as the “trustee” holds title to property subject to an obligation to keep or use the property for the benefit of someone else, known as the beneficiary or beneficiaries. A trustee acts as a custodian for the assets held within a trust and is responsible for managing and administering its finances.
In that role, the trustee is a fiduciary, acting solely on behalf of the trust and its beneficiaries. The trust’s beneficiaries have what is known as equitable title to the trust’s property, meaning they have the right to the use and enjoyment of the trust’s assets.
Board members and shareholders
In a corporation, members of the board of directors are elected by shareholders, the corporation’s owners. Board members have a fiduciary duty to shareholders to manage the corporation in a way that serves its best interests and not the interests of the board. In other words, they must always act for the good of the corporation rather than for the benefit of themselves.
Executor and legatee
In estate planning, it’s the role of an executor to administer a person’s estate upon their death. An executor has a fiduciary duty to the estate to act in its best interests as well as the interests of the estate’s beneficiaries. Today, the term beneficiary is typically used to encompass legatees, the legal term for a person or organization receiving personal property or money under the terms of a will, and devisees, who receive real property.
Guardian and ward
Another part of estate planning is establishing guardianship. A guardian is an individual identified in a will or appointed by a judge who has the legal responsibility to care for a child or an adult who does not have the capacity for self-care. The child or adult under the care of a guardian is known as a ward. In his or her duties for a ward, a guardian must act as a fiduciary and put the ward’s interests ahead of their own.
Attorney and client
Attorneys must always act as fiduciaries for their clients in order to maintain their license to practice law. Of course, that means always putting a client’s interests, needs and rights ahead of their own. And if there are any conflicts of interest between the two parties, the fiduciary must fully disclose that to their client.
Principal and agent
A principal-agent relationship is created when a person or entity known as an agent is given authority by a principal — another person or entity, such as a corporation — to act on their behalf. For example, when selling a home, a real estate salesperson enters into an agreement to serve as an agent for the home’s owner, who in this case is the principal. In the principal-agent relationship, the agent is required to act as a fiduciary, putting the principal’s interests ahead of their own.
Why is it important to work with a fiduciary advisor?
As you can see, there are various fiduciary relationships across different professional fields, and each is important in its own way. When it comes to managing finances, though, it’s your money on the line. And unfortunately, most advisory clients simply assume their advisor is a fiduciary.
But as Mark Fonville, CEO and financial advisor at Covenant Wealth Advisors, notes, “It is important to know that not all advisors are fiduciaries, and many may serve as a fiduciary for one element of the relationship, but not in others.”
Working with an advisor who acts as a fiduciary in all aspects of the relationship can give an investor peace of mind and assurance that the person helping them is always acting on their behalf and in their best financial interests.
How are fiduciary advisors paid?
Fiduciary advisors are compensated by their clients in the form of fees. While they may recommend buying or selling specific securities, they are not licensed to sell securities and never receive commissions or other remuneration from companies that create financial products, such as mutual fund firms or insurance companies.
The fees fiduciary advisors receive often are calculated based on the value of the assets they manage on a client’s behalf. Fees also may be charged on an hourly, project or subscription basis.
How much does a fiduciary financial advisor cost?
Registered investment advisors typically charge fees of around 1% of the value of assets under management. RIA firms that provide algorithm-based investing models and advice — so-called robo-advisors — often charge a modest monthly fee or an asset-based fee that typically ranges between about 0.25% and 0.75% of assets being managed.
Frequently asked questions (FAQs)
The essential responsibility of a fiduciary is putting the interests of the person(s) or organization they are helping ahead of the fiduciary’s own interests. In whatever actions they take regarding those they are helping, fiduciaries must consider what is best for those in their care rather than what might benefit their own interests, such as higher compensation or public acclaim.
Perhaps the most common fiduciary relationships are those between attorneys and clients and between doctors and patients. Other fiduciary relationships include corporate boards of directors, who act on behalf of shareholders; executors, who administer a person’s estate upon their death and have a fiduciary responsibility to the estate; and guardians, who have the legal responsibility to care for a child or adult who cannot care for themselves. Some financial advisors also act in a fiduciary capacity, including all RIAs, as well as some advisors with other designations.
Risks abound for fiduciaries who do not uphold their duties. If fiduciaries breach their responsibilities, they risk being sued, incurring fines by regulatory bodies or potentially losing their licenses or professional designations.
Professionals who act in a fiduciary capacity — such as physicians, attorneys and some certified public accountants — are licensed and regulated by state bodies and must adhere to ethical standards set by their professional organizations. Financial advisors who are fiduciaries are regulated by the SEC if they manage more than $110 million in assets or by the securities department of the state in which they are licensed if they manage assets under that threshold.
If the firm offering automated advice is registered with the SEC as a registered investment advisor, that robo-advisor is a fiduciary. Check the “About Us” or “Disclosure” sections of a firm’s website to verify their fiduciary status.
