On the trail of commission rebates

If you bought a new car, what would you think if the salesperson rang you up the next year – and the year after that – and asked you for more money just because they’d sold you the car that one time?

You would probably slam the phone down.

But this is what the investment fund industry effectively does each year through the practice of trail commission. Providers of most unit trusts levy a fee on the value of your investment fund every year and earmark it for financial advisers – even if you
aren’t getting any financial advice.

I bought a unit trust once – back when I didn’t know any better – through my bank. The in-house financial adviser charged me an upfront fee of 5 per cent. These days, I would never pay so much on an initial charge – there are plenty of brokers and platforms that do deals with providers to reduce this fee, or waive it altogether.

But it annoys me that my fund is also getting trail commission taken out of it every year in return for absolutely no advice. Of the annual management charge of 1.5 per cent on most unit trusts, 0.5 per cent is
usually the trail. These costs can seriously add up (just have a look at Richard Saunders’ column on page 6).

I phoned my bank this week to see what happens to that 0.5 per cent. “I’m not getting any advice relating to that product,” I explained. “We don’t pay our in-house advisers a commission,” the bank shot back. “So customers can’t claim it back because we don’t do it.”

But banks do, of course, pay commission to independent financial advisers, through whom their products are normally sold. And if they manage to sell the product to someone who is not yet a financial journalist, so much the better – they keep the trail for themselves.

I found myself sitting next to Edward Bonham-Carter, chief executive of Jupiter Asset Management, at dinner this week, so took the opportunity to ask him about trail commission (after I had answered his rather direct conversation starter: “You’re a hedge fund manager, what are you going to buy? Go!” I went long on property and short on gold but, then, it wasn’t my first glass of wine).

He said that their products were sold almost exclusively through financial advisers and only about 5 per cent went directly to the consumer. What if one of those consumers rang up and asked for the trail back? That hardly ever happened, he said.

But what would he do if they did? Not a lot – Jupiter, like all the other unit trust providers, pockets the commission itself if it doesn’t go to the adviser. Bonham-Carter admitted that it was an imperfect system – but that it would be seen as undercutting their main sales force – financial advisers – if they were to offer a better deal direct to the consumer.

To be fair, some advisers are open about the fact that they receive trail and don’t rebate it, on the grounds that they channel the money into making their advisory services better. Bestinvest, for example, uses trail to do in-house research on funds, a service it then offers to clients – which is at least going to be a better bang for your trail buck than the non-existent advice I have received from my bank since buying the product.

But fee-based advisers are generally scathing of trail commission. “The trail commission system was developed by providers to help advisers either get paid for ongoing advice and/or build up business (alleged) value. Several years ago, we rejected both of these bases of operation as fundamentally flawed, having decided that neither was relevant to providing totally independent advice,” Nick Fletcher at Saunderson House wrote to me recently.

Trail commission is also to blame for a number of “independent” financial advisers not offering their clients access to the full universe of products out there. These days most advisers use platforms – online tools from the likes of Skandia, Cofunds and FundsNetwork – for their clients’ investments. But because most advisers take commission, the platforms haven’t bothered to make non-commission products such as exchange traded funds, investment trusts and structured products available.

Of course, all this is more or less set to change come 2013 when commission is banned. Trail commission on new investment products will no longer be paid, which should make investment products cheaper.

But did you know that no changes are being made to existing trail commission?

A financial adviser I know – who is fee-based – tells me the Financial Services Authority (FSA) admitted to him that it would, frankly, be too much hassle to overhaul the system to that extent. Right. So, commission is banned – sort of, as long as it’s not too much bother, and some payments will actually, erm, continue.

Far better to take matters into your own hands. There are some financial advice firms and brokers that will rebate trail commission in recognition of the fact you aren’t getting any advice. These include Chartwell, Clubfinance and Saunderson House. Apparently it’s a very simple procedure. I’d like to think I might get round to it myself one of these days.
alice.ross@ft.com