Broker-Dealers vs. RIAs: An Overview
Imagine that you are an investor who wants to avoid the wirehouses. You may be in the market for an independent financial planner or financial advisor who does not work for a large firm such as Wells Fargo or Morgan Stanley.
That covers a lot of territory, but ultimately all such planners and advisors who manage assets (other than annuities or life insurance) fall into one of two categories: They can either be registered investment advisors (RIAs) or registered representatives that work for an independent broker-dealer.Aside from falling under different regulatory purviews, there are several different ways these professionals can provide and charge for their services.
Key Takeaways
- Investors seeking an independent financial professional to help with advice and investments can choose between independent broker-dealers and registered investment advisors (RIAs).
- Independent broker-dealers function as full-service brokerage firms but remain free from the constraints and demands of a large Wall Street company.
- RIAs are independent fiduciaries who may associate with several broker-dealers, selling a range of products and services.
- RIAs are legally bound to serve the financial interests of their clients.
- Broker-dealers have more flexibility than RIAs, and their investments are bound by the lower "suitability" standard.
Broker-Dealers
Registered representatives who work for major wirehouses are often told what products to sell, what stocks to recommend, and how they can conduct their business. Representatives who work for independent broker-dealers do not have these restrictions, and they usually have a much wider selection of products and services for their clientele than wirehouse brokers.
Independent broker-dealers are equipped to offer a full range of investment offerings that can go far beyond mainstream vehicles such as mutual fundsand annuities. Many of them provide alternative investments such as hedge funds, tax credits, non-qualified plans, and IPOs, sometimes marketed in sophisticated investment or retirement programs that are tailored to specific groups or professions such as doctors or dentists.
Broker-dealers do not have to act in the best interests of the client, and they are only required to meet the lower suitability standard. Broker-dealers may receive commissions or other income by promoting certain products to their customers.
Planners who work as reps for this type of company will charge a commission to purchase an investment, but they may have some leeway in how much they charge for a given type of transaction. The biggest advantage of an independent broker-dealer is that there is no unnecessarybureaucracy.
RIAs
RIAs are considered to be acting in a fiduciary capacity, and so held to a higher standard of conduct than registered representatives. This fiduciary standard mandates that an RIA must always unconditionally put the client’s best interests ahead of their own, regardless of all other circ*mstances.
Depending on the value of their assets, RIAs must register with either a state securities regulator or the federal Securities and Exchange Commission. RIAs are also required to disclose any possible conflicts of interest to their clients and act in an ethical manner in all of their business dealings.
RIAs must register with the SEC if they manage more than $100 million in assets.
Some RIAs charge clients a percentage of their assets under management while others charge either an hourly or a flat fee to dispense advice. Advisors who choose this model for their practices must obtain a Series 65 license.
Special Considerations
When it comes to choosing a planner, it may seem like an RIA would be the obvious choice. But the fact is that many planners who work on commissions also act very ethically and put their clients’ best interests ahead of their own. Being an RIA also doesn’t guarantee a certain level of competence, as the Series 65 exam deals chiefly with federal securities laws and regulations.
And to further complicate the matter, many independent brokers also carry the Series 65 license so they can offer turnkey managed money programs that provide active professional management. Some RIAs are likewise affiliated with a broker-dealer so they can offer products such as variable annuities, which do not lend themselves to a pure RIA platform.
Can an RIA be a Broker-Dealer?
An investment firm can dual-register as both a registered investment advisor and a broker-dealer, allowing them to collect both fees and commissions. These "hybrid" RIAs have both a custodial partner and a broker-dealer partner through separate contractual arrangements.
Do RIAs Execute Trades?
A registered investment advisor can help their clients complete their trades, or execute trades on their behalf. However, RIAs are still bound by their fiduciary duty, meaning that they cannot execute trades without the client's knowledge and advance permission.
Can RIAs Sell Annuities?
RIAs can sell insurance products such as annuities, although there are additional regulatory hurdles in doing so. Variable annuities are considered investment securities, so the RIA would need a Series 7 exam or a relationship with a broker-dealer. For fixed annuities, the RIA would need a license to sell life insurance from their state regulator, as well as a relationship with a Brokerage General Agency.
Are Broker-Dealers or RIAs Better?
When choosing whether to work with a broker-dealer or an RIA, it is important for clients to consider what type of advice they are looking for and what type of fees they are comfortable with. RIAs have a fiduciary duty to their clients, meaning they can only recommend products that serve the client's interests and goals. A broker-dealer has more flexibility since their products only need to meet the suitability standard. In both cases, it is important to understand the fee structure and track record of a financial advisor.
The Bottom Line
RIAs and independent brokers both have considerable freedom in how they operate their businesses. RIAs are bound by a fiduciary oath, while independent brokers may have access to specific products or services that are hard to find elsewhere.
The right choice for you is most likely going to depend more on the person rather than the business model. When you find an advisor you feel truly comfortable with, the business model they use will likely be of secondary importance.
