As physicians look to assemble their financial teams to help manage and grow their wealth, they often turn to RIAs/IARs to advise them on their finances. However, the financial world is full of complex and often imprecise terms, so it’s important to dive deeper to understand what exactly RIAs and IARs do.
In simple terms, RIA stands for Registered Investment Advisor, which can be a firm such as an investment manager, investment consultant or financial advisor that provides investment advice and is registered to do so with state or federal authorities. An IAR stands for Investment Advisor Representative and is an individual who works for an RIA.
Some people confuse the terms and think that an individual working as a financial advisor is an RIA, but technically they would be an IAR of an RIA. Investors also often equate RIAs with financial advisors, but other firms that provide investment advice, such as hedge funds and pension consultants, may also be RIAs in certain instances.
However, for physicians looking for investment advice, determining whether a firm is an RIA or if an individual advisor is an IAR typically applies most to contrasting RIAs/IARs with broker-dealers.
The Difference Between RIAs/IARs and Broker-Dealers
When a physician seeks financial advice, they often start by looking for a financial advisor, yet this term is also vague. Some financial advisory firms are RIAs, whereas others are broker-dealers, and there can be a whole range of services that they offer that are not inherent to any one type of firm. The distinction, however, generally comes down to how these advisors are regulated and compensated.
An RIA/IAR generally follows regulation stemming from the Investment Advisers Act of 1940 and adheres to a fiduciary standard, meaning these advisors are legally required to act in your best interest with a duty of care and loyalty in all that they do for you. Federally registered RIAs fall under the purview of the Securities and Exchange Commission (SEC).
Conversely, broker-dealers follow regulation stemming from the Securities Exchange Act of 1934 and are not held to the same fiduciary standard. Typically, broker-dealers have been more self-regulated, such as by industry bodies like the Financial Industry Regulatory Authority (FINRA) and have followed the suitability standard. That meant that broker-dealers only had to provide investment recommendations suitable for your goals, even if certain recommendations benefitted the investment professional more than you.
However, after much back and forth over whether more of the investment community would fall under the fiduciary standard, the SEC came out with Regulation Best Interest in 2019. This rule states that broker-dealers need to act in retail investors’ best interests when making investment recommendations and that they need to disclose conflicts of interest. However, the law is fairly vague and is generally considered to be less comprehensive than the fiduciary standard, so physicians should not assume that a broker-dealer has the same overall duty to act in their best interests in all aspects of the advisor-client relationship.
What’s even more complicated is that an advisor can be dual-registered as both an RIA and broker-dealer, meaning sometimes they act in the capacity of an RIA, and sometimes they act as a broker-dealer.
Consider Compensation and Conflicts
Because the terms around RIAs/IARs and broker-dealers can be imprecise and confusing, physicians may want to consider how an RIA/IAR is compensated and what their conflicts of interest may be.
Generally, compensation falls into the following areas:
- Fee-only: A fee-only RIA/IAR only receives compensation from client fees, such as by charging a flat fee to create a financial plan or by charging an advisory fee as a percentage of your assets to manage your finances on an ongoing basis.
- Commission-based: A commission-based RIA/IAR can earn compensation from commissions paid by financial companies for selling their products to you. An RIA/IAR should disclose this information to you so you understand that while the recommendation may still be in your best interest, the advisor is earning money from selling you certain products.
- Fee-based: While this term sounds similar to a fee-only advisor, a fee-based RIA/IAR can receive both client fees and product commissions, so you might see this model used by a hybrid RIA/broker-dealer.
These different compensation structures can create different conflicts of interest for an RIA/IAR. While fee-only advisors are generally considered to have less inherent conflicts when recommending investments to you, if they earn an advisory fee based on the amount of assets you have invested through them, for example, they may be less inclined to advise you to withdraw money for your personal use. Even though the advisor should act in your best interest, it’s not always possible to do so subconsciously, so you have to consider all aspects of why an advisor may make a recommendation and determine whether they’re upholding their fiduciary duty.
In contrast, conflicts of interest around commissions or selling proprietary products, when disclosed and understood by investors, may be easier to understand. For example, if an advisor earns a larger commission for selling you one insurance product over another, there’s a clear incentive for that advisor to recommend the product that pays a higher commission. Similarly, if you’re not working with an independent RIA but rather one that’s tied to an investment company that sells their own investment funds, for example, that’s another clear conflict of interest.
Not all conflicts are easily explained to investors, so it’s important to not always take advice at face value. A conflict doesn’t inherently mean that a recommendation is wrong for you or that the advisor is not complying with relevant regulation, but the onus often falls on the investor to make that determination and raise the issue of an RIA/IAR not following their duty.
Decide Whether an RIA/IAR Is Right for You
Because physicians typically have significant incomes but also need to make up for lost time saving for retirement and accomplishing other financial goals due to the years spent in education, it’s important to not overlook the importance of choosing the right RIA/IAR or another type of financial professional. A broker-dealer may seem to offer savings on advisory fees, for instance, but working with these professionals may cause you to invest in a narrower set of products with high management fees, which could potentially cost you more in the long run than if you used an independent RIA and invested in low-cost index funds.
While many physicians use RIAs/IARs, it’s important to take the time to understand factors such as how financial professionals are compensated, their potential conflicts of interest and how they’re regulated before investing your money with any particular financial professional.
