08.21.24

Will There Be a Tectonic Shift for Financial Advisors' Compensation?

by: David L. Zimmerman, MSc, CPC

The financial advisory industry is on the brink of a significant transformation, driven by the rapid advancements in artificial intelligence (AI). As AI continues to revolutionize various sectors, its impact on financial services is becoming increasingly evident.

The Current Landscape of Financial Advisor Compensation

Traditionally, financial advisors have been compensated through three primary models: commission-based, fee-based and fee-only. Each model has its own set of advantages and drawbacks:

• Commission-based compensation: Advisors earn income through commissions on products they sell, such as mutual funds or insurance policies. This model can lead to conflicts of interest, as advisors may be incentivized to recommend products that generate higher commissions.
• Fee-based compensation: Advisors receive a mix of fees paid by clients and commissions from selling financial products. While this model balances client-aligned advice with product-based incentives, potential conflicts of interest still exist.
• Fee-only compensation: Advisors are compensated solely through fees paid by their clients, either as a percentage of assets under management, a fixed fee or an hourly rate. This model is often considered the most transparent and client-aligned, as it removes incentives tied to product sales.

The Role of AI in Financial Advisory

AI is poised to dramatically alter the financial advisory landscape by automating many of the analytical and planning tasks traditionally performed by human advisors. AI's capabilities include:

• Data analysis and trend prediction: AI can process vast amounts of data quickly and accurately, identifying trends and patterns that may not be immediately apparent to human advisors.
• Portfolio management: AI can automatically rebalance client portfolios based on predefined rules and objectives, optimizing them for risk and return.
• Personalized financial recommendations: AI can generate tailored financial advice based on individual client data, preferences and goals.
• Client service and communication: AI-driven virtual assistants can handle routine client inquiries, freeing up advisors to focus on more complex and strategic tasks.

The Shift Towards Hourly Rates, Flat Rates, and Fixed Charges

As AI takes over many analytical and planning functions, the value proposition of human financial advisors will need to evolve. Clients will increasingly seek advisors who can provide a human touch, offering empathy, understanding and personalized guidance that AI cannot replicate. This shift is likely to drive changes in compensation models, with a greater emphasis on hourly rates, flat rates and fixed charges for specific services.

• Hourly rates: Charging clients based on the time spent on their financial planning needs can provide transparency and align the advisor's incentives with the client's best interests. This model is particularly appealing for clients who require occasional advice rather than ongoing management.
• Flat rates: Offering a fixed fee for specific services, such as creating a financial plan or conducting a portfolio review, can make financial advice more accessible and predictable for clients. This model eliminates the potential conflicts of interest associated with commission-based compensation.
• Fixed charges: Implementing fixed charges for defined tasks or projects can provide clarity and simplicity for clients. This approach allows advisors to offer bespoke services tailored to individual client needs without the complexity of percentage-based fees.

Reinventing the Value Proposition

To thrive in this new landscape, financial advisors must reinvent their value propositions. Here are some strategies to consider:

• Emphasize human interaction: Clients value the human-to-human element in financial advice, particularly when it comes to understanding their unique circumstances and providing emotional support during uncertain times. Advisors should enhance focus on building strong, trust-based relationships with their clients.
• Offer comprehensive financial planning: Beyond investment management, clients increasingly seek holistic financial advice that encompasses retirement planning, tax management, estate planning and more. Advisors should expand their service offerings to meet these evolving needs.
• Credentialed expertise: As AI continues to transform the financial advisory landscape, the importance of advisors acquiring and maintaining professional credentials like Certified Financial Planner (CFP), Chartered Financial Consultant (ChFC) and Certified Investment Management Analyst (CIMA) cannot be overstated.
  
  While it might seem counter to the argument that AI is taking over technical tasks, these certifications can enhance an advisor's ability to communicate advice with greater breadth and depth of knowledge. Furthermore, they allow advisors to develop more human-to-human skills by focusing on life-centered issues and solutions with clients. In an environment where AI can handle many technical aspects of financial planning, these credentials help human advisors distinguish themselves by providing nuanced, personalized advice and maintaining client trust.
• Leverage AI as a tool: Rather than viewing AI as a threat, advisors should embrace it as a tool to enhance their capabilities. By integrating AI into their practices, advisors can improve efficiency, provide more personalized advice and focus on higher-value activities.

The Deloitte AI Perspective for Financial Advice

According to a recent Deloitte report, generative AI tools are expected to become a dominant source of financial investment advice for retail investors by 2027, with usage projected to reach 78% by 2028. This rapid adoption of AI-driven advisory services underscores the urgency for financial advisors to adapt their compensation models and value propositions. As AI tools become more sophisticated and accessible, the traditional reliance on commissions and fees may give way to more transparent and client-aligned models such as hourly rates, flat rates and fixed charges. This shift will not only address potential conflicts of interest but also cater to the evolving expectations of clients who seek both technological efficiency and human empathy in their financial planning journey.

For Your Consideration

The financial advisory industry is on the cusp of a tectonic shift, driven by the rise of AI. As AI automates many of the analytical and planning tasks, financial advisors must adapt by reinventing their business models, expanding offerings often categorized as added value and embracing new compensation models. By focusing on human-to-human interaction, offering comprehensive financial planning, and leveraging AI as a tool, advisors can continue to provide valuable services to their clients in this rapidly evolving landscape.