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Working with a financial advisor involves a lot of trust. You’re sharing information about the most personal aspects of your life, and relying on another person’s guidance to help you achieve your financial goals.
Ethics are a set of standards that professionals must uphold when they conduct business in order to maintain a sense of trust and confidence with clients.
Unethical behavior, like failing to disclose conflicts of interest, erodes that trust, damaging the industry’s reputation and ultimately harming clients.
Thankfully, regulatory standards and practices are in place to help keep consumers safe.
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How is your financial advisor regulated?
Financial advisors are primarily regulated by two organizations: The Securities and Exchange Commission (SEC) and/or the Financial Industry Regulatory Authority (FINRA).
Here’s how it breaks down.
- Investment advisors
- Investment advisers provide guidance about stocks and other securities. They're regulated by the SEC or state securities regulators.
- Registered financial professionals
- Registered financial professionals buy and sell securities for their clients. They're regulated by FINRA and the SEC.
- Financial planners
- Financial planners provide a range of services, so their regulation and licensing depends on the services they offer. For example, a financial planner who's also an investment adviser is regulated by the SEC or by the state where the adviser does business.
- Insurance agents
- Insurance agents sell life, health and home insurance policies as well as other insurance products, such as annuities. They're regulated by state insurance commissions.
The SEC regulates investment advisors who manage $100 million or more in client assets, while state regulators oversee investment advisors who manage less than $100 million.
SEC-regulated advisors are bound by the fiduciary standard, which requires them to act in their clients’ best interests.
Meanwhile, FINRA regulates broker-dealers, a financial professional in the business of buying or selling securities on behalf of customers.
This government-authorized non-profit ensures that anyone who sells a securities product (such as stocks) has been tested, qualified and licensed. However, broker-dealers are not held to the fiduciary standard.
Together, these financial regulators oversee registration, examination, compliance and discipline of broker-dealer and investment advisory firms, as well as their employees.
Well-known professional designations
Not all financial advisors are required to register with the SEC. In fact, financial planners don’t have their own specific regulator.
However, a financial advisor can be held to a high ethical standard through their professional designation.
A certified financial planner, for example, must uphold the fiduciary standard. Issued by the Certified Financial Planner Board of Standards, the CFP certification requires at least three years of experience, imposes rigorous standards through exams and coursework and has a disciplinary process for CFPs who fail to follow the Board’s code of ethics.
Just because an advisor has initials after their name doesn’t mean they’re more ethical or qualified. Not all financial designations are created equal. Some designations require little, if any, training or experience to obtain.
If you’re unsure about a potential advisor’s designation, use FINRA’s Professional Designations lookup tool to check.
While designations serve as an important trust signal, they shouldn’t be the only criteria you consider when looking for a financial advisor.
5 ethical standards you should expect from a financial advisor
Ethical financial advisors put their client’s interests first, hold respected professional designation and don’t earn commission off recommended products.
Here are a few other examples of financial advisor ethics.
Compensated with fees, not commission
Financial advisors don’t perform their services as an act of charity. If they’re working for you, they’re getting paid somehow, so it’s important to understand how they’re compensated.
Advisors generally get compensated in one of two ways: Commission-based or fee-only. Fee-only fiduciaries have a higher ethical standard, and here’s why:
Commission-based financial advisors get paid by commissions on financial transactions or products. So the more they sell, the more money they get. Most work for financial firms or insurance companies.
Most importantly, commission-based advisors don’t have to be fiduciaries, so they don’t have a legal obligation to work in their client’s best interest. Their primary duty is to their employer, not you.
In contrast, fee-based advisors uphold a fiduciary duty. They can’t sell you an investment product that goes against your needs, so you can trust that their advice is truly unbiased.
These professionals are usually compensated through a retainer fee, a flat hourly rate or a percentage of your assets under management.
You should always feel comfortable asking questions about how and how much your adviser is getting paid. And if they quote you a fee based on a percentage of your assets, make sure you understand what that translates to in dollars.
Clean professional record
This might sound obvious, but you should conduct a Google search of any prospective financial professional to see if they have a criminal record. Look for any news articles about past issues or lawsuits.
If you suspect your advisor of fraudulent activity, such as making trades in your account you didn’t authorize, ask your advisor about it, or speak with the firm’s branch manager or compliance department.
If you lost money or there was an unauthorized trade made in your account, you should file a written complaint with FINRA or the SEC.
Discloses conflicts of interest
A conflict of interest arises when an advisor has a personal, business or financial interest that could interfere with their advice. A common example is when an advisor makes money from equity product sales and receives commission from the sale.
Financial advisors are required to disclose any potential conflicts of interest, but some disclosures can be dense with legalese and difficult to read.
A good advisor will go over the disclosure with you. They should be open about any potential conflicts of interest and happy to answer any questions you have.
To reduce your exposure to potential conflicts of interest, seek out a fee-only financial advisor.
Lack of pressure
An ethical financial advisor should spend time getting to know you, your goals and your risk tolerance before recommending any investments.
Steer clear of any financial advisor who pressures you to invest quickly or pushes you toward a risky investment that doesn’t meet your needs. High pressure sales tactics are a tale-tell sign of bad actors and fraudsters.
Good communication style
To be sure, just because an advisor is easy to talk to doesn’t mean they’ll act ethically. But good communication is a key part of a strong client-advisor relationship.
If an advisor is defensive or uses so much industry jargon that it’s difficult to understand what they’re saying, that’s a red flag. Likewise, if you can never get in touch with your advisor or they insist on communicating outside of an advisory firm’s official channels, such as company email, steer clear.
How to find an ethical financial advisor
Technically, anyone can call themselves a financial advisor. You’ll need to do some research to ensure an advisor follows high ethical standards.
A good place to start is FINRA’s BrokerCheck tool. Here, you can research professionals who sell securities, provide advice or both. It offers an overview of an individual’s work history along with their firm’s history.
You might also want to check your state securities regulator and the SEC’s Investment Adviser Public Disclosure tool.
There are several questions you should ask a potential financial advisor, but here are a few to help you hone in on their ethical standards:
- Who are you registered with and in what capacity? Do you hold any other professional credentials or designations?
- Do you have any disciplinary actions or customer complaints? If so, please explain them. (Pro tip: Compare their responses to information on BrokerCheck and other third-party sources.)
- What type of investment products and services do you offer? Are there any products or services you don’t offer? Why?
- How do you get paid? Do you receive commissions on products I buy or sell?
Selecting the right financial advisor is no small feat — it’s an important decision that hinges on trust. Upholding ethical standards is the bedrock of this trust.
While there will always be bad actors in any industry, there are safeguards in place to protect consumers against unethical financial advisors. Checking an advisor’s credentials on trusted third-party sites, like FINRA, and conducting your own research will help you protect yourself from bad actors.