How To: Understand Financial Advisor Contracts

Published September 23rd, 2020 

Reading Time: 5 minutes

Written by: The Zoe Team

What are financial advisor contracts? Understand what you’re getting into before signing anything is key. This blog will serve as a guide to everything you need to know about advisor contracts before signing. 

Once you’ve made it to the point of reviewing financial advisor contracts, you’re almost at the finish line of hiring the right advisor for you and one step closer to actively achieving your financial goals! Often, this step can be the most confusing part of hiring an advisor. Understanding how to navigate an advisor agreement is crucial, particularly if you’re not familiar with complex legalese. Advisors often refer to their contracts as “Advisor Agreements,” but if also managing assets, it’s an “Investment Advisor Agreement (IAA). Keep in mind that if your advisor is discussing your IAA or Advisory Agreement, they are referring to your financial advisor contract. A financial advisor contract is intended to outline the details of the agreement, as well as protect the rights of the client, but what is an advisory agreement?

What Are Financial Advisor Contracts?

A financial advisor contract, also known as an advisory agreement, specifies that the advisor is legally required to serve their client’s needs. This agreement outlines the legal relationship between the advisor and the client. It also offers protection to the client, as the advisors can be held responsible if they breach the terms of the agreement. As a client, it’s important that you carefully read this document before signing on to work with an advisor. If there’s anything that you don’t understand or agree with, it should be clarified or modified before being signed. These are specific topics that you should carefully review in your financial advisor contract before making the agreement official.

What You Need to Know About Financial Advisor Contracts 

1. Discretionary vs. Non-discretionary Agreements

Discretionary agreements allow the financial advisor to make decisions on the client’s behalf. Non-discretionary agreements, on the other hand, require the clients to approve any decisions before they’re made. This is a crucial distinction, as some people feel comfortable with their advisor making decisions for them, while others don’t.

2. Description of Services aka What You’re Paying For

Your financial advisor contract should specify which services are included, and which aren’t. This part of the contract should be very detailed, as you don’t want to have any false expectations of the services that your advisor will provide. Ultimately, you want to be as clear as possible about what you’re paying for. Examples include financial planning, insurance planning, and estate planning. If your advisor verbally stated the services they would be providing, review the contract to ensure that all the stated services are included in the advisor agreement. If there are services missing or you need to clarify what certain services entail, don’t hesitate to reach out to your potential advisor before signing. A true fiduciary advisor will be fully transparent regarding their services and what they are looking to accomplish.

3. Payment 

Every financial advisor will have a different payment schedule and expectation. This section is important because you don’t want unexpected fees to add up throughout your contract. Some advisors want their clients to pay for providing statements of advice, ongoing financial advice, annual fees, or even additional fees if the client changes their financial strategy. It should also specify if regular reports of your portfolio are included in these fees. Whether you work with an advisor on an assets under management basis, flat fee subscription model, or other payment type, it should align with what you are comfortable with as a client. 

4. Whether or Not They Have Your Best Interest

Fiduciary financial advisors are legally required to work in the client’s best interest. A red flag that your advisor isn’t acting in your best interest is if they work off commission. If they do, they may try to push sales on products or investments that don’t benefit you. For this reason, you should hire an advisor that is a fiduciary so that you don’t have to worry about any alternative motives. Determining whether or not they have your best interest may also affect if you want a discretionary or non-discretionary agreement.

5. Confidentiality

Your financial advisor contract should also clarify that all of your information is confidential.  Some confidentiality agreements have a broad prohibition of sharing confidential information. Other agreements, though, may have permitted disclosures of information in certain situations. Make sure that your contract has confidentiality rules that you feel comfortable with.

6. Dispute Resolution Clause

The dispute resolution clause will determine what should happen if the involved parties (you and your advisor) have a dispute. For instance, maybe you and your advisor will agree to attend mediation before taking any legal action. It’s important that this is agreed on before you and your advisor move forward with this contract. In the case of a disagreement in the future, you will be happy that you addressed this in the financial advisor contract.

 7. Limitation of Liability Clause

This clause limits the amount that the advisor will have to pay if the client suffers loss due to their financial advice. The contract should state which liabilities the client will take on and those that they won’t. This is important when you buy risky financial products or have a particularly aggressive asset allocation strategy.

8. Termination of Contract

This section should state how both parties are allowed to terminate the contract and what fees will be owed. There are different ways a contract can be terminated. Mutual discharge, for example, is when both parties agree to end the contract. A novation, alternatively, is when a new contract is replaced with an old contract. There are other options as well, so make sure that this section specifies the rules.

Understand What You’re Getting Into Before Signing 

The most important part of embarking on any partnership, particularly one tied to your finances, is having clarity and transparency. By reviewing the financial advisor contracts carefully, you’ll have a better understanding of the details of the agreement, as well as what to expect from your advisor. 

Disclosure: This material provided by Zoe Financial is for informational purposes only.  It is not intended to serve as a substitute for personalized investment advice or as a recommendation or solicitation of any particular security, strategy or investment product. Nothing in these materials is intended to serve as personalized tax and/or investment advice since the availability and effectiveness of any strategy is dependent upon your individual facts and circumstances. Zoe Financial is not an accounting firm- clients and prospective clients should consult with their tax professional regarding their specific tax situation. Opinions expressed by Zoe Financial are based on economic or market conditions at the time this material was written.  Economies and markets fluctuate.  Actual economic or market events may turn out differently than anticipated.  Facts presented have been obtained from sources believed to be reliable.  Zoe Financial, however, cannot guarantee the accuracy or completeness of such information, and certain information presented here may have been condensed or summarized from its original source. 

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