Fee-based financial advisors generally operate using what are called fee-based accounts in which a client advisory fee is charged separately, and mutual funds with embedded trailers are not used. Rather, if using mutual funds, they will use a special unit class of the funds, known as f-class units which have no trailer fee. (If the advisor is an IIROC licensed advisor, they also have the ability to buy stocks and bonds without charging transactional commissions [stocks] or without eating into the spread [bonds]). The advisor’s compensation is derived from the client advisory fee.
For example, if a mutual fund has an MER of 2.5% and it paid a trailer of 1.00% to the advisor, it could also be available as an F Class version with an MER of 1.5%. The advisor may choose to charge a client advisory fee of 1.00% separately. In the end, in a non-taxable account the cost to the investor is the same (the client advisory fee can be tax-deductible in taxable accounts), but there is definitely more transparency which is great.
A lot of people indicate that the fee-based account is better than the transactional, traditional advisor – but this is not always the case.
For example, I know that some advisors can actually take advantage of the ability to set their own fees. At my old brokerage, we had the lattitude to select the fee schedule – it could be tiered based on assets, a flat-fee on all asset levels or asset classes, or it could be tiered on asset levels differently for different asset classes (i.e. equity versus fixed income). It would be possible to charge more than 1.00%. In fact, it could be significantly more.
Let’s say an advisor runs into a client who has a mutual fund wrap with a cost of 3.00% (current advisor collects 1.25% trailer). They could save the client money by using a fee-based account with ETFs to replicate the asset allocation with a product fee of 0.35% and safely charge 1.75% as the client advisory fee and still look like heroes if the client is sensitive to overall costs (the savings would be almost 1% to the client, but the income to the advisor would be 40% more).
A more simple example would be an investor who buys and holds stocks. They would’ve been better off using a transactional approach since while the fees would be front-loaded, over longer periods of time they would be paltry versus a fee-based approach.
Anyways, my point is that the simple label of “fee-based advisor” does not necessarily mean a better advisor.