Investment advisors and broker-dealers are often mentioned together when we’re talking about investing. While both could offer financial recommendations to help you invest your money, there are important differences between the two – like how they’re paid for their services and how they’re regulated.
In this article, we’ll go over some of those key differences to give you a better understanding of their roles. This way, you could decide whether using an investment advisor or broker-dealer makes the most sense for you. Remember, personal finance is, well, personal, and it’s important to find the right expert for your unique investment needs and goals.
Let’s start with the basic services they provide.
An investment advisor is a person or firm that can help you manage your investments. Not only could they help you buy and sell securities (think: stocks, bonds or ETFs), but investment advisors could also provide advice on things like portfolio management, asset allocation, market analysis as well as wealth planning. This is why, sometimes, you may hear investment advisors being referred to as wealth managers or asset managers.
You may also come across the term “registered investment advisors,” and that’s because investment advisors generally have to register with the Securities Exchange Commission (SEC) or the appropriate state securities authorities.
A broker-dealer, on the other hand, is a person or firm that largely focuses on buying and selling securities – both for its clients (that’s the “broker” part) and for itself (the “dealer” part).
Before there were online do-it-yourself brokerages (you know, “back in the day”), investors who wanted to trade on the markets had to call up a broker for help in facilitating their transactions. These days, with a number of DIY trading platforms available, you don’t have to wait around for a broker to execute your orders on the market.
But that doesn’t mean traditional brokers have been completely sidelined. There are full-service broker-dealer firms who could do more than just help you buy and sell. For example, you could look to them for recommendations based off of their investment research. And some brokers can offer personalized financial advice and support with additional services such as retirement or investment planning.
While some of the services they provide may overlap, there is a critical legal distinction between investment advisors and broker-dealers.
Investment advisors are required by law to act as a fiduciary when serving clients. In the simplest terms, this means they must put your interests ahead of their own at all times.
Brokers do not owe you a fiduciary duty. They’re held to a different legal standard known as the “best interest” standard (see: SEC’s Regulation Best Interest). The Securities and Exchange Commission (SEC) requires broker-dealers to act in your best interest when making investment recommendations and prohibits them from putting their financial interests ahead of the interests of their customers when making those recommendations.
While at the most basic level, the fiduciary and best-interest standards may sound similar, there are legal and ethical nuances between the two standards. The fiduciary standard is often considered the highest standard of care under the law.
You probably don’t work for free. And neither do investment advisors or broker-dealers. So let’s talk about fees. (Remember, fee structures are an important thing to pay attention to because generally speaking, the less you have to put towards fees, the more money you could keep invested.)
Investment advisors usually charge an advisory fee for their services. This fee can come in the form of an annual (or hourly) flat fee. It could also be based on a percentage of the size of your portfolio (or “assets under management”). This is sometimes referred to as a “fee-only” model.
Before signing up with an investment advisor, it’s a good idea to review their Form ADV. This is a disclosure document that registered investment advisors are required to file with the SEC, and it contains important information about an advisor’s business practices, including fees, conflicts of interest and disciplinary history.
Broker-dealers may be paid in fees and/or commissions. A commission-based model is one where your broker can be compensated based on the financial products they sell to you or the types of transactions they help facilitate on your behalf.
At the federal level, the SEC oversees both investment advisors (those who manage $110 million or more in client assets) and broker-dealers. Broker-dealers in most cases also have to register with the Financial Industry Regulatory Authority (FINRA).
If you ever want to look up a particular investment advisor or broker, both the SEC and FINRA maintain a database where you could get some basic background information on things like registration status, employment history and disciplinary actions (if any).
For investment advisors, visit the SEC’s Investment Adviser Public Disclosure Database.
For broker-dealers, you could use FINRA’s BrokerCheck.
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