DOL and Small Accounts: Can You be Your Own Robo-advisor?

Apr 28, 2016

DOLMaybe it is my small town, Midwest upbringing, maybe it is just good business sense, but I do my best to not mix politics or religion in any business conversations or on this blog. This is especially true when we are dealing with how the DOL fiduciary rule will affect the people that the rule is supposed to protect – Middle America.

So politics aside, since the DOL announced its “conflict of interest” rule (the term used in the press conference) two weeks ago, there are two sides to the issue:

  1. The rule will protect small investors, making sure that everyone will have an advisor on their retirement account who has to put clients’ interests first.
  2. The rule makes it cost prohibitive to work with small accounts, so the very people who need advice will be left out.

Both sides are very vocal and their voices are filling up chat rooms, blogs and article comment sections. We may see a lawsuit or two; politicians are even threatening bills in Congress. Like many political fights, this one is going to go on for a while.

I think we should all look at it a different way – the practical way. The rule is what the rule is – how can we “own it” and how we service our clients, streamline our business and even create a feeder for new business down the road? How can we play the middle and put our clients’ interests first (which we’re probably already doing) and still provide advice to the little guy?

It’s a small world after all

If you are like many advisor businesses, you have a number of small (or “accommodation”) accounts. The accounts may be from a friend or relative, the kids of your larger clients, a COI, or even a legacy account from when you first got into the business.

You have to determine what a small account is to you, but I would guess we are talking somewhere between $25K and $100K. Whatever the value, they are on your books and probably in some combination of “A” or “C” share mutual funds or a variable product that is paying you some form of 12(b)-1 fee or compensation that will be deemed a prohibited transaction next year. So what do we do with them?

From a DOL regulatory perspective, you have a few choices (beginning next April):

  1. Keep the client “as is.” Choose to use best interest contract exemptions (BICs), notifying the client of the exemption. Each time there is a transaction or when you are providing advice on the account, you will have to notify them again, but “as is” is an option that many will take.
  2. Transition the client (before 4/10/2017 to avoid the one time BIC transaction exemption) to a fee-based account – as long as the account wasn’t sold recently or has a big surrender charge. But how do we do this profitably? Most advisors tend to over-service small accounts, and if you don’t over-service, how do you avoid reverse churning (not providing enough service to justify the fee)?
  3. Inform the client that you cannot work with them anymore and they should find another advisor or self-direct their account. I hope most advisors don’t go there. It just doesn’t seem right to tell a client, one that you previously agreed to work with, that their account is just too small or unimportant for you to continue to service.

Hope is not a strategy

Overall, I think many advisors are going to fall into the first category – using the exemption for as long as they can. This is the “hope as a strategy” approach:

  • Hope the exemption notices don’t annoy the client and wait until they ask, “Why aren’t you following the rule?”
  • Hope that, if the kids of your better clients inherit mom and dad’s estate, they will think of you anyway, because you promised you won’t use the exemptions when their account is bigger.

It could work, but hoping is not necessarily your best plan to deal with these accounts. So then the big question for many is: How do I service a fee-based account when the account is smaller than my business model allows for? Easy – change your service model.

Robo-ize yourself

The people who are excited about your small accounts and the effect of the DOL rule are robo-advisors – and that makes sense. They are a great, limited-service model offering for small accounts. When you break it down, a robo offers a few things:

  • A risk tolerance questionnaire
  • An asset allocation model
  • Implementation

They don’t compete with most high-end comprehensive financial planners and they don’t try. So why don’t you emulate them, instead of sending your small account TO them? Robo-ize your offering for small accounts and set yourself up to grow when your small accounts grow. Create a small accounts strategy.

The basics

If you want to build a small account strategy for your firm:

  • Determine what a small account is to you. In other words, what is your absolute minimum account that you will work with – $25K? $50K or higher?
  • Set up a limited service plan and agreement for these (typically) investment-only accounts that would include, for example:
    • One annual, face-to-face meeting regarding investment strategy, asset allocation and performance monitoring (something robos can’t offer)
    • Phone calls and access to the staff as needed
    • Mailings with economic updates, market trends and goal setting
    • Access to performance statements and online access to their accounts
  • Add a platform provider to your service model that can provide active asset allocation models, rebalancing and automatic manager changes to avoid reverse churning, while still leaving you the time to really service your larger clients. Don’t get stuck being “rep as portfolio manager” or having to pick from a menu of regularly changing managers or strategists – automate as much as possible.
  • Set a lower fee schedule of 25 to 50 bps (or as a rule of thumb, half of your full advisory fees) to show a limited-service model or investment-only approach (or match the robo pricing).
  • Communicate your full value (planning) and pricing in your meetings and mailings, letting them know there is a larger service when they have additional assets or needs – building a feeder program from these smaller accounts.

Will you own it?

If you look at the timeline, the rule becomes law in June of 2016, but doesn’t take effect until April 10th, 2017. That means you have just under 1 year to develop the plan, lay out the strategy, and execute before those pesky BIC exemptions come into play. You could hope, but you would be missing out on a great way to streamline your small accounts, create consistency in your revenue stream and set up that feeder system for potential larger accounts down the road.

I guess you could jump in the debates and argue. Or, you could also focus on growing your business, while everyone else is arguing the finer details of the ruling. I don’t think the arguing will help, but I know the focus will. What are you going to do?

John Anderson

John Anderson

John Anderson is the creator and lead author of Practically Speaking blog and Managing Director of Practice Management Solutions for the SEI Advisor Network.

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