Fund trailer Charges: The arguments against and for

Using commissions that are embedded continues to spark debate as regulators consider an outright ban on charges.

Among the costs is the fund trailer fee referred to as trailing commissions. This fee is a part of a fund’s management expense ratio (MER) and has been the subject of much controversy during the past two decades. These commissions are paid out to investment consultants for the duration of time an investor holds a finance and based on the sort of investment finance, can vary from 0.5 percent up to 1.5 percent. (Both the investment company and its advisor who sold the fund share in these commissions.)

But investors aren’t aware these fees are paid out to an adviser when buying a mutual fund, which might create a conflict of interest in regards to advisers should buy.

The controversy has caused many in the industry to ask by asset managers for an outright ban on the use of trailers. The outcome could induce investors to pay upfront for the information they get from an adviser — similar to practitioner or a attorney might run their company, investors could get an invoice.

Britain and Australia have prohibited the use of trailer fees, but many reports have indicated these countries might have an “advice gap” for those investors who cannot afford to pay out of pocket for a financial advisor.

This season, a paper seeking industry comment on this issue of quitting commissions that were embedded was published by the Canadian Securities Administrators. Consultation on Discontinuing Embedded Commissions’ choice, the newspaper asked the investment community on which the effects of a ban could have on investors.

The CSA as of June 9 received over 140 submissions, also include responses from many different professionals and industry groups such as financial advisors, advocacy groups, investment companies, robo-advisers and asset managers. The CSA is currently reviewing the submissions and will conduct a roundtable discussion on Sept. 18 to analyze the possible impacts of quitting additional commissions in Canada.

Currently there’s no clear consensus on the issue as investor advocates demand greater transparency and clarity on how investors pay for information, though other industry groups and advisors believe the ban will produce a significant gap in information — particularly for those Canadians who fall in the middle to lower income bracket.

Here’s a snapshot of this debate from both sides.

In support of this ban on embedded commissions

“Canada has an opportunity to join a worldwide trend aimed at enhancing investor protection and transparency. We’ve seen this take root in the U.K., Australia and the Netherlands, resulting in greater investor results including lower investment prices, greater product accessibility and improved fee transparency…. A system which eliminates the perception of a conflict when it comes to advocating investments or conflicts of interest is in the best interests of advisers the market and investors. Already we’ve seen a growing number of advisers moving to fee-based business practices , and they view this as building more trust with customers and providing a chance to communicate their worth.”

– Atul Tiwari, managing director of Vanguard Investments Canada


“Embedded commissions produce an inherent conflict of interest. It raises the question — who are they serving: the customer, or the products that pay the commission if a financial advisor earns a sales commission that’s hidden from customers? Clients have the right to expect. If the investment industry can not live up to this promise, how do customers trust them with their life savings?”

– Michael Katchen, CEO of robo-adviser Wealthsimple


“I doubt there’s anyone in the business that may justifiably deny the conflict of interest inherent in the construction of embedded commissions. While many [advisors] conduct themselves professionally and like fiduciaries, I’ve observed first-hand the way the conflicts of embedded commissions play out in adviser-client interactions and recommendations”

– Dan Hallett, vice-president with HighView Financial Group


Embedded commissions must be scrapped in order to better align the interests of the investment business and investors, improve competition and foster investment sector innovation…While customers’ best interests are served by holding low-income capital, asset managers have an incentive to market higher-cost options from which they generate more revenue from commissions. Asset managers utilize embedded commissions to provide advisers incentive to favour higher-cost funds, creating a conflict of interest”

– Morningstar Research Inc..


“[We] believe that investors have to have the ability to comprehend the true costs of the investments, the costs of getting and holding their investments, and the expense of the information they receive. The present embedded fee model isn’t well understood by investors and fees that are embedded increase conflicts which could incent advisers to recommend funds that benefit the advisor ahead of the investor”

– The Ontario Securities Commission

Against the ban on commissions that are embedded

“Banning added commissions will have long term adverse effects on the ability of Canadians to save and plan, leaving them with considerably lower levels of resources to fund their retirement. A recent analysis by PWC estimates that the ban could lead to individual investors amassing, on average compared to those with access in retirement savings . This could create pressure on our social safety net, especially as the population continues to age.”

– Paul Bourque, president and CEO of the Investment Funds Institute of Canada


“Embedded commissions, especially trailing commissions, are more efficient as they can be calculated and handled on a massive scale from the fund companies. It’s more time-consuming and therefore more expensive — to get a dealer to execute the fee calculation and deductions in a single account level … fee-based accounts are generally only offered to larger balances. Also, because of the overhead involved, preventing embedded commissions and requiring traders to provide fee-based accounts will increase the price and danger of starting a new trader, which will restrict competition and further restrict access to information for smaller investors…

“We suggest that the CSA leave embedded commissions from the information channel for balances up to $500,000 in value, and remove embedded commissions from the no advice station. We’ve got no difficulties with removing commissions that are embedded . At that consideration size a negotiated fee account is now a feasible solution for dealers, advisers and customers alike.”

– Mark Kent, CEO of portfolio strategies in Calgary


“We believe that removing embedded commissions may disproportionately impact less affluent Canadian investors and, in particular, those investors that deal with smaller independent traders. Such investors may be unwilling to cover, or value the value of, advice in a pay model that is direct. Nor is it clear that these investors would tend to receive advice from robo-advisers as is suggested by the CSA.”

– Steve Geist, senior executive vice-president and group head of wealth management for CIBC


“Advisers are currently keen to serve these tiny investors due to the cross-subsidization that inserted compensation permits, in addition to the promise of growing future income flows that’s only accomplished if the investor is successful also. The truth is that consumers aren’t prepared to pay for information. Without the advantage of this cross-subsidy, investors will be facing charges that effectively equate to tens of thousands of dollars every hour… So the elimination of commissions will orphan countless small consumers.”

– Greg Pollock, CEO of the Financial Advisors Association of Canada

Also on the Planet and Mail

The pressure is on for advisors (The Globe and Mail)

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