Q35 – What is a “Hybrid” RIA?

Also available as podcast (Episode #35)

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What is a “Hybrid” RIA?

The terms “Hybrid”, “Hybrid RIA”, “Hybrid RIA solution” are often used in our industry, but not always for describing the same thing.  In it’s most basic form a “hybrid” offering is a financial advisor that operates both as a Registered Representative (Series 7) with a broker/dealer, while also operating as an Investment Advisor Representative (IAR) of a Registered Investment Advisor (RIA). Exactly what specific firm arrangement an advisor wearing these two hats operates under, is what adds complexity to when the term hybrid is being referenced.  Hence there are many nuances and scenarios, often interchangeably used, that cause confusion as to how the term is being utilized.

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Full Transcript:

What is a hybrid RIA? That is today’s question on the Transition To RIA video series. It is question #35.

Hi, I’m Brad Wales with Transition To RIA, and today’s question is what is a hybrid RIA? Now, the reason I wanted to do a video on this is because this hybrid term gets thrown out there in so many different capacities, whether it’s “hybrid” by itself or “hybrid RIA”.

I wanted to do a video to walk through at least my interpretation of this, because as you’ll see, I’m going to walk through a bunch of different examples where this term hybrid is used out there. I think it’s important to think through what these different scenarios are because you’ll see advertisements from firms, whether it’s an RIA, or a broker-dealer, or a custodian, or whatever the case may be, a lot of times this hybrid phrase gets thrown around out there. And I would tell you, it’s being used in a number of different ways.

When an advisor says to me…..”What do you think about a hybrid solution or a hybrid offering at a particular firm?” I always say….”Well, let’s start by making sure we’re talking apples to apples here, that we’re talking the same language.”

If someone says a hybrid solution to you, do you on the receiving end of that, do exactly what they are referring to? Because, again, as I’m going to walk through some examples here, there’s different ways that phrase is used. Not maliciously, I think to some folks it means one thing and to other folks, something else. And like I said, I interpret it the way I do.

What I want to do on this video is give you food for thought and walk you through what some of the different ways it’s used so you can make sure you’re interpreting it correctly if you do hear it used out there. And like I said, it is used quite frequently, sometimes for marketing spin or to polish up a platform, let’s throw the name hybrid on it and make it maybe sound more different than it actually is. And so, again, I wanted to walk through what some of those are.

At its very core…and again, this is my interpretation of it, someone might give you a different definition, but I think this is the fairly universally held belief of what I’m going to talk about here.

At its core, a hybrid solution is basically saying….”Mr or Mrs Advisor, you’re wearing two hats. You are wearing a Series 7 hat under a broker-dealer, and you’re wearing an investment advisor representative, IAR hat, under an RIA.” For most of you, as I’m going to talk about here, most of you are wearing both of those hats in whatever setting you’re at, and I’m going to walk through some examples of what those are.

But again, at its core, keep in mind, a broker-dealer and an RIA are two entirely legally separate entities. Now, you might work with a firm that has both, as I’m going to get into examples of that, but technically, they’re different entities with different regulators that oversee them, with different rules and regulations for each, and in most instances, again, advisors wear both hats.

Being a Series 7 is what affiliates you with a broker-dealer. To become an IAR of an RIA typically requires either a 65 or 66. But depending on what state you are in, sometimes there’s exclusions. For instance, if you have a CFP, that could meet the requirement and then you formally still become an IAR registered with that RIA.

So, again, the term hybrid at its core is this idea that you’re operating under two different capacities, in theory, at the same time. Maybe for some clients, you’re only operating and wearing this hat, my Series 7 hat. And other clients, maybe I only use a fee-based account solution with them, so I’m wearing my IAR hat. And then with some clients, maybe you have both. They have two accounts, whatever the case may be, they have a commission account for part of the relationship and a fee-based account for the other part. So that’s where this hybrid idea comes together, that you’re under both of these scenarios.

Most of you watching this are already arguably in a hybrid situation, whether or not your firm actively uses that terminology. So I did want to walk through a couple of those examples.

The first one is if you’re at a more traditional captive employee broker-dealer, a wirehouse type firm. That wirehouse – and we won’t pick on any particular wirehouse – but generally, if you’re like most advisors there, you’re wearing both of those hats. So that wirehouse firm, we’ll pick on the wirehouse firms, has a broker-dealer, and they also separately have an RIA.

Now, you might think….”Oh, I’m affiliated with Wirehouse Firm X,” or, “I work with Wirehouse Firm X.” But technically, you’re under both of those different legal separate entities. They’re a “corporate”, as they say, broker-dealer and they’re a corporate RIA. So if you’re in that wirehouse setting now and you are wearing both of those hats, you have your Series 7, you have your 65/66, you use commission and fee-based accounts, you are arguably hybrid right now as we speak.

Another similar example is advisors that are at independent broker-dealers. Again, typically most all of those advisors have their Series 7 with that independent broker-dealer’s broker-dealer, to use the term, and that independent broker-dealer typically also has a corporate RIA alongside it, and you as the advisor are also affiliated with that corporate RIA.

So, again, a typical example, you could argue that any advisor at an independent broker-dealer, and we use that, and I’m guilty as charged, we use that term, independent broker-dealer, when, in fact, almost every independent broker-dealer out there is both an independent broker-dealer and an independent RIA. And if you are affiliated with that firm, you are operating under both. So arguably, anyone in that capacity could declare themselves a hybrid advisor or operating under a hybrid solution.

Then to take that farther, I’ve even seen…because oftentimes maybe you don’t see that terminology used for a run of the mill independent broker-dealer relationship or hybrid, even if arguably it is, but I have seen, for instance, one particular firm out there basically took that arrangement….”You’re under our broker-dealer, you’re under our corporate RIA,” and for different reasons, they changed the payout for certain advisors and next thing you know, put a “hybrid” name on it even though at the end of the day it didn’t really change the dynamic at all.

The advisor was still under the corporate broker-dealer and was still under the corporate RIA. And just because you changed a payout arrangement, how does that magically make that a “hybrid” solution all of a sudden? It’s not any malicious usage of it or ill intent to deceive, but it’s just….”Hey, let’s position it this way.”

It is what it is, the term hybrid is thrown out there quite often. Keep in mind, because you’re at a wirehouse firm, you’re arguably already hybrid. If you’re at an independent broker-dealer firm, you’re arguably already hybrid. And then certainly, if they give you some special payout arrangement and even call it hybrid, I guess you could argue you’re in that same camp as well.

The interesting thing about those examples I gave – that wirehouse environment, the independent broker-dealer environment – that historically, keep in mind, those firms were, and still are, but were historically primarily a broker-dealer that also had a corporate RIA alongside it. So essentially all of the advisors had their Series 7 with the broker-dealer and to the degree they did any fee-based business, they also operated under their firm’s corporate RIA. Again, essentially making that a hybrid solution.

Now, the interesting thing though is because of the prevalence of fee-based accounts now in the marketplace, and on a going-forward basis at most of these firms, you could argue these firms have morphed into…the better way to describe them is they are now an RIA that also happens to have a broker-dealer on the side. Because for many of them now, more than 50% of their client assets are in fee-based accounts.

And so some of the terminology, and I essentially misspoke myself a moment ago using this, is when we refer to an independent broker-dealer, that’s the common phrase used, and we all know what we’re talking about. But again, that independent broker-dealer is not only a broker-dealer, they’re also a corporate RIA. And not only that, most of them have reached the point where the majority of the assets are actually in the RIA and less and less is in the broker-dealer. But yet, we still call them broker-dealers or independent broker-dealers. So it’s interesting how that’s morphed.

As that trend continues – more and more going into fee-based – that’s why I’m such a believer in the RIA model. Any advisors that are either in that employee captive environment or even the independent broker-dealer environment, who have more and more of their practice shifting to fee-based, the RIA model becomes almost effectively what they’re already doing. They’ve already shifted into that. They simply haven’t taken that final step and gained all the benefits of having their own RIA.

A couple of quick thoughts on those arrangements, and then to dive into the actual, or arguably actual hybrid definition with respect to having your own RIA. And there’s two different ways that is put out there.

I did a whole separate video talking about how as an advisor, if you want to move into the RIA model, but yet you have a need or a want to still be able to maintain some amount of commission business, whether that’s new business on a going-forward basis or simply you have a large part of legacy commission business that you, for multiple different reasons, you might want to hold on to.

As an example, that could maybe be a sizable amount of variable annuities. Those are still perhaps good solutions for the client and they’re sitting in those variable annuities with that part of their assets and they’re paying a trail, and so you still want a place to accommodate that and receive that trail revenue.

In the RIA model, that’s absolutely an option. I would tell you, one of the biggest misconceptions about the model is that you have to be solely fee-based. Technically, under the RIA itself, if you have set up your own RIA, technically that is only fee-based. However, you do have the option to set up your arrangement to have an RIA, and then essentially alongside it, also work with a broker-dealer to do commission business. Which again, brings us back to that hybrid arrangement.

There are two typical “hybrid” arrangements when you have your own RIA. Again, I did a whole separate video on this, so if this is of interest to you, I go into much more detail on it. But it’s where you would set up your own RIA, and then for your commission business you would work with what’s commonly referred to as “RIA-friendly broker-dealers”.

These are often specialty broker-dealers that literally are in the business of saying….”You set up your RIA, you have all the benefits and upside and whatnot of having your own RIA, but we realize you do have a need or want for a place to put your commission business. As the broker-dealer, we will raise our hand and we will accommodate that portion of your commission business.”

Again, at that point, you’re wearing two hats. You are an IAR, under your own RIA. And you have your 7 with this broker-dealer on the side. And in that arrangement, that broker-dealer itself may or may not use the same custodian that you use for your RIA. Perhaps it just happens to be the same, or perhaps you strategically enter into which vendors you’re going to work with so that it’s the same, but there’s also circumstances where it’s not the same.

That’s the type of thing I help advisors think through and understand their options and why one might be worth considering over another. But just know it is possible to set it up that way.

Then the other, even more pure hybrid type solution, if you will, with having your own RIA is there are some solutions available out there that you set up your own RIA, you use a custodian, that custodian themselves has a broker-dealer and you can use that broker-dealer for your commission business.

The difference there versus what I described in the prior scenario, is it is all custodied on the same platform. Your clients see the same type of statement from the same custodian firm. You are used to the same platform of how you go in and pull up client information or perhaps place trades or things like that.

That’s arguably the purest of the hybrid definitions of….set up your own RIA, and not only can you have commission business, you can use a broker-dealer that itself clears through the same platform that your RIA uses for custody services.

My definition of, if someone says hybrid, they’re not referring to that wirehouse set up, they’re not referring to that independent broker-dealer set up, they’re referring to one of these solutions where you have your own RIA and yet you have a BD solution as well. And like I said, there’s differences in what those solutions are, and as with everything there are pros and cons to why you might consider one versus the other.

Again, if you want to dive deeper on that, I did do a whole separate video on how you can still have commission business as an RIA. If you have further questions and want to dive deeper, that’s the type of thing I help advisors with all day long, so I would be happy to have that conversation with you as well.

To wrap up, a couple of takeaways from this. I’ve talked about a lot of what this hybrid terminology applies to, but I also want to touch on some of what it does not apply to.

For starters, if you are 100% fee-based, and you start your own RIA and you have no need or desire for any sort of BD solution like we talked about, you are not hybrid at that point. Or at least no definition that I have come across of hybrid would apply to that. Again, you are 100% fee-based, you’re RIA only, you’re not wearing multiple hats. Pros and cons to that. I think universally accepted though, that is not considered hybrid. That doesn’t necessarily mean that’s a bad thing, but just as far as what that terminology is.

Now, likewise, you could be the exact opposite – and you see less and less of this out there – but if you’re an advisor, and some would argue you shouldn’t even call yourself an advisor, you should call yourself a broker, and you are 100% commission, no fee-based at all, generally, in every circumstance there, you only have a Series 7 with a broker-dealer. You don’t have any sort of RIA relationship, whether that’s your own RIA, or whether that’s a corporate RIA, you would not be hybrid.

A typical example might be an advisor (broker) that does all fixed income for clients. That is their sole niche and they buy individual bonds. The compensation to the advisor is that commission, and as those bonds mature at some point down the line, they reinvest it, it generates an additional commission, as it should, because the advisors helping with how to reinvest those funds. And so that advisor, and again, there’s fewer and fewer of those that are solely Series 7, that’s not hybrid either, because, again, you’re not under two different arrangements. You’re not wearing two different hats. So just something to keep in mind.

A third example, and we’re seeing more and more of this, is a lot of RIAs are coming along that don’t manage assets. They are solely financial planners and they might be paid some sort of retainer, or a subscription arrangement, which might be….$200 per month and it’s every month, and here’s the services I provide you and we invest your assets over here, and I help you get that set up, but I don’t actually manage the assets for you. I’m essentially exclusively a financial planner.

That person would not be hybrid either because while they might have their own RIA, they’d have no need for a broker-dealer, so they’re certainly not wearing both hats. Another example where hybrid would not be applicable.

And then moving on, like I said, most all of you that are watching this are arguably already in a hybrid arrangement. Whether it’s commonly referred to as that in your current arrangement or not could be debated. Like I said, you typically don’t hear hybrid when talking about a wirehouse arrangement, but in theory, because you’re under the wirehouse’s broker-dealer and the wirehouse’s RIA, you arguably are hybrid. So just something to be aware of.

When you do see the phrase hybrid RIA, or a hybrid RIA solution, that’s often positioning. I don’t want to say marketing spin, but it’s taking a platform arrangement and calling it something. I hope you’ve come to realize from watching this video, it could apply to a lot of different things.

Just because you see some advertisement and it says….”We provide a hybrid solution,” I would tell you that doesn’t mean anything at face value. You have to actually dig into….”Okay, what exactly are they referring to when they say a hybrid solution?” Because like I said, there’s a couple of different ways you could set that up.

The final takeaway is to point out again, if you are an advisor that’s currently at an employee model firm or an independent contractor firm and this RIA model sounds intriguing to you, just know that there is that possible solution where you can have your own RIA and can retain some amount of commission business as well. And in that regard, no matter how you set it up, if you do retain both of those options, you will be in a hybrid solution at that point.

It’s more a question of, which path do you take, which firms do you work with, etc? This is a typical thing I help advisors with. So just know options are there. Like I said, check out my video I did on how to retain commission business. I go into much more detail on it if you’re interested and I’m certainly open to connecting with you to have a conversation as well.

So with that, like I said, my name is Brad Wales with Transition to RIA where I work to help you understand everything there is to know about why and how to transition to the RIA model.

Today’s conversation, a typical type of thing I talk with advisors about….”What is this hybrid thing I hear about it? Can I do that? Do I want to do that? And if I do, who are the players involved, who are the various vendors, and why might I consider one versus the other?”

I help advisors walk through all of that. Then when we narrow down what might be the best path for you, then I can make introductions saying….”If you want to dive deeper into this firm, reach out to this specific person at the firm and they’ll walk you through their specific offering in more detail.”

I’m always of course also a neutral sounding board you can come back to and say….”Okay, this is how they’ve explained it to me. Could you walk me back through it? I’m not sure I’m following why they say if I do this, I have to in turn do that.” That’s a lot of the value I provide to advisors is really helping them understand how all of this works.

With that, I hope you found value in today’s video, and I’ll see you on the next one.

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