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Tales From the Trenches, Part 1

BD reps go fully independent all the time. Few, if any, anticipate all the work their new business model will require.

David J. Drucker, 07/19/2007

Certain trends are unmistakable in the financial services industry, such as the constant movement of advisors between market segments--wirehouse, independent broker-dealer (IBD) and fee-only RIA. And most of the movement is in one direction--wirehouse to IBD, old IBD to new IBD, or IBD to fee-only.

In this article, we'll survey some broker-dealer reps who have made the transition from IBD to fee-only RIA--a change, for the most part, to an entirely new business model. In part two, our accompanying article this month, we'll talk to some reps who left their IBDs for new broker-dealer affiliations to find out the most common deficiencies a move can correct.

Talk to advisors who've left long-standing relationships with broker-dealers, and they'll tell you such a transition doesn't come without some pain. Ask about the change and you're likely to hear, "I thought I'd planned every aspect of the move, not realizing until later that I'd given little thought to [fill in the blank]."

So what are some of these "back-end" problems and how can you do a better job of anticipating and planning for them if such a move is in your future?

Ron Kelemen, CFP, an advisor affiliate of The H Group Inc. in Salem, Ore., says, "We officially 'pulled the plug' and converted to a fee-only practice last July. I gave up my securities licenses that I had through Financial Network, with which I'd been affiliated since 1981. This move was months in the planning, and it took a lot of work."

Was anything forgotten or would anything be done differently if he had to do it over again? Keleman listed several things, including tax reporting, professional relationships and servicing issues. "We converted a lot of clients' brokerage accounts, which created capital gains. Even though we captured that data as the accounts converted, our tax season this year would have been much smoother if we had tried to nail down the cost basis [info] ahead of time."

As for insurance, Keleman realized he hadn't lined up referrals for his clients. "We now have trusted death, disability, and LTC agents to refer to, but there was a gap in service to our clients initially." And parallel problems occurred with clients' insurance, 529 plans and other, similar products. "Now that we don't directly service these products, we're not always able to answer questions our clients may have about them as quickly as before."

All in all, though, he says the transition went smoothly, particularly since he chose to affiliate with The H Group and its sister firm, FocusPoint Solutions--a virtual ensemble to which he's now able to outsource his back office, technology, and compliance operations. "It wouldn't have been this easy without them. It might even have been impossible," adds Keleman.

Jeremy Portnoff, owner of Portnoff Financial, LLC in Piscataway, N.J., says he wishes he'd had more time to plan his transition away from his former broker-dealer. Deciding to go fee-only and looking to his new membership in NAPFA to help him chart the way, Portnoff says he would have used the extra time looking into software and the ins and outs of drafting an ADV.

"Trying to figure out which software products would work for me was quite a task--one that I'm still dealing with--as was my form ADV." Portnoff hired a consultant to help him with his ADV, "but, looking back, I wish I'd taken the time from the beginning to learn how to design these documents exactly how I wanted them and to make sure everything was accurate."

Anything else? It turns out there were quite a few more items on Portnoff's list. "Logistical systems, marketing plans, administrative issues. I knew I had to do something about all of these, but I didn't know how to do them, and it often felt as though I was trying to reinvent the wheel," says Portnoff.

He says one area he would have planned more thoroughly was the transitioning of his commission clients to fee-only. "I found it very difficult to explain the difference to some clients early on and, as a result, I did not bring several clients with me. They seemed content paying full commissions to a house account because I couldn't explain well enough why they had to now pay a fee. In addition, I was offering comprehensive plans which I hadn't done before and the value of the plans was also a challenge to explain. Another subset of this issue was actual fees to charge. I can't even tell you how many times I changed my mind about how to charge and how much to charge."

Portnoff's unpreparedness was circumstantial, it seems. "In my case, my firm was switching to another BD that I didn't want to go to so I decided that was the best time [to make the transition to fee-only]. I had to jump in feet first--unprepared." His advice to others: "Unless someone is facing a situation similar to mine, I would really take the time to plan out all the steps, learn about the logistics, technology and administrative burdens before taking the leap. This would certainly make the transition easier."

Given the time to prepare a move, most advisors will anticipate many or most of the items that plagued Portnoff--forgetting only seemingly minor though often important omissions. Randy Clayton, owner of Clayton Financial Services, Inc. in Topeka, Kan., used to be with Royal Alliance and says, "We anticipated the big items: E&O insurance, commission trails, and licensing had all been considered and arrangements made. What we didn't anticipate was that we'd no longer have a signature guarantee stamp on the premises."

Huh? "In many cases, such as transferring assets, making withdrawals from accounts, replacing a lost stock certificate, it's necessary to have the client's signature guaranteed by a bank officer or NASD member. If you ask a client to get a signature guarantee from his local bank, it rarely happens on a timely basis, if it happens at all. So the stamp was a tremendous convenience for both our clients and our firm and it's still something we miss today."

Then there are the oversights that you could kick yourself for making because they seem so obvious in retrospect. An advisor who wishes to remain anonymous says he broke away from his prior firm in 2000 and, at the same time, moved to a new state to open up his new firm. "I had been with a major brokerage house and had name recognition in the community. Then, I moved to a new area where nobody knew me or my new firm's name. Building business has been a slow process; not having name recognition is major."

This oversight may be obvious to most, but the lure of a freedom-enhancing move may cloud one's vision a little. Says Chip Roame, managing principal of Tiburon Strategic Advisors, there are plenty off issues advisors fail to consider when transitioning from a broker-dealer to fee-only independence, most of which fall into one of three categories.

First, says, Roame, advisors tend to underestimate the huge amount of time they'll sink into the administrative aspects of their new business. "Advisors don't always think about the time they'll spend on people, technology, and running-the-office issues, like signing a new lease or buying a copy machine," says Roame. "Next, there are the people issues, the personalities one must deal with. Employees don't come to work on time; they don't do their jobs; owners must listen to, 'He has a bigger office than mine'. Life becomes a series of HR issues." Keeping employees happy in a thriving work environment is a challenge unto itself, says Roame.

And these kinds of issues feed into Roame's third pitfall: "Advisors don't always see the entire picture when measuring the true economic benefits or disadvantages of going independent. Everyone thinks about the higher payouts; no one misses that. But their analysis of the expense side of things is often very weak."

The bottom line is really whether or not you want to be a business owner. It's very different than being a financial advisor in a captive environment, notes Roame. If you can see your move as a transition to business ownership, requiring business management skills you didn't need as a broker-dealer rep, then you can get a handle on the big picture, including all of the planning steps that need to go into your transition.

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