It is possible for an advisor to generate a $1 million bonus to themselves for relatively little work, and it probably happens more than it should.
A not too uncommon retirement plan for some financial advisors (I don’t want to lump all financial advisors together, but clearly there are those out there that are less than scrupulous), is to switch firms a few years before retiring. Why? Because they get paid a bonus to transfer their client assets and they can then sell their clients to another advisor at the new firm a few years later.
I’m going to use a hypothetical example, although I do know that a situation pretty much exactly like this has happened many times before. An advisor who has had a successful career has amassed a book of client assets totaling $100 million over about 400 families. The average gross commissions being earned are going to be in the $1 million range, and if he/she is at a bank-owned brokerage firm, they are probably getting about 50% of that after hitting “the grid“. This means that their net commissions are $500,000 and this is what they would report on their income tax return as their income (they may pay salaries for assistants, and other overhead expenses, but we will leave that out for now for simplicity’s sake).
Firms are always trying to recruit big producers. Depending on the profitability and business plans of the brokerages there are times when branch managers from competing firms can offer a recruiting bonus equivalent to the annual gross production of a broker. So from above, our financial advisor who was grossing $1 million in commissions could be offered $1 million to “cross the street”. There will usually be conditions included where “x percent of assets must be signed over in 12 months” or a pro-rating schedule applies. There may also be a clause stating that the assets and advisor must remain at the new firm for a minimum of 2 years, 3 years, or whatever, or there may be some sort of penalties.
After the assets and clients have been transitioned it is possible for an advisor to then sell their book to another advisor at the firm. They can negotiate the price, but for argument’s sake let’s assume they decide on “one-times gross commissions”. In this case, since the gross commissions are $1 million, the purchase price would be $1 million. The purchasing advisor can take a loan to pay the $1 million (in this case) and rather quickly pay off the loan with the commissions generated by the new assets under his/her name.
Selling a book of clients to another advisor is one thing because it doesn’t affect the clients from a purely monetary perspective. The fees they were paying will most likely stay the same. (From a non-monetary perspective, there are some other issues, but that is beyond the scope of today’s post). But with respect to the recruitment bonuses: that $1 million dollars comes from somewhere. Both advisors and clients should be asking “where?”. If these recruitment bonuses were not allowed, then commission grid payouts could be higher for advisors OR overall fees could be lower for clients (or net earnings could be higher for the brokerages).
Some might suggest that these are just investments from a brokerage’s perspective, they are paying now for a long term income stream. True, but they lose assets to other firms as much as they buy assets – so while there are some who are gaining more than they are losing, in many cases it’s just a costly game of musical chairs.