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Also available as podcast (Episode #124)
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What Is An RIA-Friendly Broker-Dealer?
TL;DR – If you aspire to have your own RIA, yet still have a need to accommodate legacy commission assets, there are several ways to potentially “solve” for those assets. One potential solution is to utilize a so-called RIA friendly-BD. In this arrangement, you start your own RIA and retain 100% of the fee revenue from your fee-based accounts. You then place your commission assets with the broker-dealer, where you receive a traditional payout on those revenues. There are several nuances to be aware of though as to whether such an arrangement is feasible for your particular practice.
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Full Transcript:
What is an RIA-friendly broker-dealer? That is today’s question on the Transition To RIA question and answer series. It is episode #124.
Hi, I’m Brad Wales with Transition To RIA where I help you understand everything there is to know about why and how to transition your practice to the RIA model.
If you’re not already there, head to TransitionToRIA.com where you’ll find all the resources I make available from this entire series in video format, podcast format. I have articles, I have whitepapers. All kinds of things to help you better understand the RIA model.
Again, TransitionToRIA.com.
On today’s episode we’re going to talk about what is an RIA-friendly broker-dealer?
This is a topic that comes up in a lot of conversations I have with advisors. But I also realize at times I perhaps am casually using the term, whether on these episodes or when I’m talking to advisors – that maybe everyone doesn’t necessarily know what it means, what that is referring to. So I wanted to make this episode to go over what that is.
We’ll start with a little backstory to understand what a friendly broker-dealer is.
As a financial advisor, unless you are already an RIA and 100% fee-only, you are likely wearing two hats right now. If you’re with a wirehouse firm, or regional firm, or an independent broker-dealer firm, you’re likely operating under two entities of that firm.
Historically we have referred to the types of firms I just named, a wirehouse, an independent broker-dealer, we refer to those as “broker-dealers.” The backstory there is because historically that’s what they were primarily and solely, they were broker-dealers. If you were a “financial advisor” that worked for a broker-dealer, you were technically a registered representative of the broker-dealer. A “broker” is what you might be referred to as, and everything you did for clients was on a transactional basis for a commission.
That still exists (being 100% commission based), but it’s not as prevalent as it once was.
Now, many of those large firms at some point in time, usually by now it’s been decades ago, added an affiliated RIA to their broker-dealer. Often referred to as a “corporate RIA.” Your firm possibly has a broker-dealer and an RIA.
In many situations, you as the advisor are under the broker-dealer as a “registered representative.” Again, that’s what allows you to do commission transactions.
You’re also perhaps wearing the hat of an “investment advisor representative”, an IAR, of the RIA. That’s what allows you to do fee-based business with clients.
Many advisors wear both these. When a prospective client walks in, that advisor can work with them on a commission basis if they choose to, fee basis, or possibly some of both.
Particularly in the independent broker-dealer space, because of the trend towards fee-based, there are now more client assets at those large independent broker-dealers under the RIA side of things, versus the broker-dealer side of things. So we arguably shouldn’t still be defaulting to calling such entities “broker-dealers”, because now they’re more RIA than they are a broker-dealer. But because that’s what we’ve called them for decades, we’ll probably continue to refer to them as such.
With the context that you’re likely wearing both those hats, that’s where the term “hybrid” often comes in. I did an episode on “what is a hybrid” where I noted an issue is the term is used in different ways, often based on who is saying it and what solution they are trying to sell.
Several years ago it was the sexy thing to refer to a platform as a hybrid solution. But there are different flavors of it. But at a high level it is your ability to offer both commission and fee based solutions for your clients.
Many of you are already in that situation, even if your wirehouse is typically not thought of as a hybrid solution. Arguably though, it is a type of hybrid solution because you’re offering both commission and fee.
While there’s no regulatorily defined definition of hybrid, I argue in its purest definition is if you were to start your own RIA – and because the RIA itself cannot offer commission solutions – you then lean on a broker-dealer solution for your commission assets. This is often referred to as an RIA-friendly broker-dealer. Which there are only a small handful of such firms to choose from.
Typically the way that works is, one of these RIA-friendly broker-dealers says… “You go start your own RIA. Put your fee-based assets under it. Use whatever custodian you want, use whatever technology you want. We, as a broker-dealer, will be your solution for your remaining commission assets. We’re not going to take any sort of override, any sort of payout on your fee-based assets. We’re going to essentially stay in our lane, and get a payout on your commission assets (production.)”
That is the setup in its most basic form, wherever you have your own RIA but can still accommodate commission assets.
The RIA-friendly broker-dealer in turn typically takes an independent broker-dealer level payout on your commission production. Where the more production you do through them, the higher the payout usually is.
Because of how the payout is done (only on the commission assets), another variable we have to factor is the minimums that the RIA-friendly broker-dealers typically require to do this arrangement.
Because they are only retaining a payout on the commission production, there must be enough meat on the bone. If they’re only taking a scrape, for example, let’s say they’re taking a 15% haircut, so you’re getting 85% (it could go more or less depending on your size.) But because they’re not taking any scrape of your fee business, that’s the only way they’re generating revenue.
So, you can’t just show up to them with $10,000 a year in commission production, and expect to be able to use them. It’s not worth it to them. There’s not enough meat on the bone. It doesn’t make sense for them considering the responsibilities they have.
Point being, there are minimum requirements to be aware of. Which typically start at around $100,000 a year in commission production. You might have $500,000, $1,000,000, $5,000,000 a year in revenue on the fee-based side, but the broker-dealer wants to know what you have on the commission side.
When you’re then evaluating such firms, there are two main topics you want to be asking them about.
First, what are the economics?
I just gave you an example. It’s typically in that independent broker-dealer style payout range, but you’d want to know what you could expect at your level of commission production. As well as there are other fees you should be aware of.
Second, because you are going to be a registered representative of their broker-dealer, they have a responsibility to “supervise” you as one of their registered reps.
Now, they would prefer to have nothing to do with the RIA, because they’re not taking any sort of override on the RIA business. That’s 100% for you. They’re not keeping any of that. They’d prefer to not have anything to do with that.
However, because you’re a registered rep with them, they still have some degree of supervisory responsibility over you, some of which could bleed into the RIA side. It might be as simple as disclosures or trading activity. But you would want to evaluate how they would supervise you both when you’re acting in a commission capacity, and then how much do they need to also look over the fence (to the RIA side?)
They’d prefer to not do that at all. But they have responsibilities. You would want to understand what that looks like as you evaluate a potential RIA-friendly broker-dealer partner.
The final takeaway I’ll leave you with, you might not need this at all.
As I talk about in several episodes, part of the exercise of exploring the RIA model is to say… “What does your practice look like now? What would it look like in the RIA space? What are the operational models you can choose from? Who are the vendors? Etc.”
A typical conversation I have with advisors is to say… “Tell me about the fee-based side of your practice. What’s that look like? How do you manage the assets, Etc. And then what’s the commission side look like?”
The latter is typically legacy variable annuity positions, that were sold on a commission basis. They’re still paying a trail. Sometime which in aggregate is significant revenue for the practice. It’s not something you want to try to walk away from.
Other times it could be, for example, concentrated stock positions. It could be A-share mutual funds.
I did a recent episode on how to solve for your remaining commission assets. There’s potential that you might be able to, as I call it, “solve” for those pieces in a way that you convert them, move them, etc. To the point where ultimately you might not need an RIA-friendly broker-dealer. Which if you can get to that point, your life would be simpler. It’s just a cleaner setup to not be tied to a broker-dealer.
But to the degree your commission production is a big enough part of your business, an important enough part of your business, and maybe some of these other solutions don’t make sense or not something you’d prefer to do, the RIA-friendly broker-dealer option is typically available. Provided the right size, product mix, that sort of thing.
That’s a typical conversation I have with advisors is to say… “Let’s understand what your book looks like, what do these pieces look like, particularly on the commission side.” And then we discuss the different ways you could potentially solve for it, with an RIA-friendly broker-dealer being one possible option.
I’m happy to have that conversation with you as well.
As I said at the top, my name is Brad Wales with Transition To RIA. This is the type of thing I help advisors with all day long. Looking at your practice, going through all these sorts of questions and scenarios.
First things first though, head to TransitionToRIA.com where you’ll find this entire series in video format, podcast format. I have articles, I have whitepapers.
At the top of every page is a Contact link. Click on that and you can instantly and easily schedule time to have a one-on-one conversation with me. Whether you want to talk about today’s topic or anything else RIA related, I’m happy to have that conversation with you.
Again, TransitionToRIA.com.
And with that, I hope you found value on today’s episode and I’ll see you on the next one.
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