RA debate issue, Money Marketing, June 2005

Dear Warrick,

I have been following the debate and letters to you surrounding the commissions, returns, costs etc regarding Life RAs as opposed to direct Unit Trust RAs. After reading the letters in the March, April, May and June issues, I have decided that I would like to offer my opinion on the debate, for what it’s worth.

After reading the letter on the subject in the May issue, my initial thoughts were that the debate was still going around in circles and was basically rubbish. We start with the March article where the letters of Rob Spendley and Gregg Sneddon are pitched against each other. In that issue we’re still nitpicking by spending time on the commission figures. Rob is trying to justify the Life product and Gregg is doing a good job of justifying the Unit Trust product.

Then in the April issue we have Shaun Ruth deciding that Rob Spendley’s commission calculations are the closest. He continues with trying to justify Life RAs because risk can be added to them, such as disability and premium waivers etc. We should be heading in the direction of modern financial planning where risk and investments are separated. The cases where the client must have them mixed are so few and far between that it doesn’t warrant bringing it up. He concludes by saying that it will depend on a financial needs analysis being performed and, let us always bear in mind, ‘what is best for the client’. I’m sick and tired of this point. If we stuck to this, the debate is also over.

Then John Wiliams (May issue) adds his opinions stating that even the professionals are confused about calculating costs and commissions and that the current levels of commissions received are well earned. We’re still skirting the issue here. Professionals are not confused, just not wanting to admit to the obvious.

In the June issue, Masthead joins the debate. I’ll pick up on two points from their letter. Firstly, they talk about short-term savings products being less effective for clients. We need to coach and teach our clients as to what a particular savings vehicle is for. A client can invest directly in unit trusts for the purpose of education in 15 years time and be coached into understanding what that is for. Then secondly, they say that the life office’s cost structures have played a huge role in the problems we’re dealing and that commissions are only a part of the problem. Well, these company’s costing structures have not dictated to me as to how I deal with clients. I have chosen not to be subject to their commission incentives. I have chosen to no longer offer these badly costed investment products to clients.

Let us establish once and for all which vehicle is best for an investor between life RAs and endowments and unit trust RAs and unit trust investing. The rest of the issues and the exceptions to the principle can follow. Now this is a no-brainer. It needs a simple understanding of some concepts, not scientific calculations. So please bear with me for a moment.

If, in the one product, an investor’s money invests from month one, properly invests from month one because there are no up-front loaded costs, invests directly into unit trust funds where the investor’s money is actually in unitised portfolios, if, in the same product, an allocation amount of about 95% of an investor’s money invests every month, from month one, if, in the same product, an investor’s money is able to experience real compound growth from day one of month one, if, in the same product, the costs are transparent and easily uncovered, if, in the same product, I can use listed unit trust funds where I am able to check on the mandate of the fund and understand it’s direction and lastly, if in this same product, I can increase or decrease my contributions at any stage without complications, month by month if I want to, stop them and then add a lump sum for tax deduction purposes, surely this product has a clear advantage over the other one. A clear advantage from an investment, flexibility and cost perspective. This one product would be, yes you’ve guessed correctly, the unit trust product. By the time the life product has dealt with costs and the fund value begins to grow, the unit trust product has already begun the compounding thing. Surely it does not require calculations of commissions and costs etc to realize which product must be better. Just a bit of simple logic can see this.

When we select products for ourselves and our own investing, I should hope that advisors look past commissions to find the best vehicle for themselves. I have two unit trust RA’s. The one is directly with an asset manager who has no entry fees. I obviously don’t pay myself the 3% as-and-when commission on the premium and so this product has a 100% investment allocation. I also do not pay myself the trail fee. The asset manager takes annual performance based fees, which are taken off the closing price of the units on a daily basis before the net asset value price is declared. No buy-sell pricing structure anymore in unit trusts. So again, this vehicle has very low costs with no units ever being sold to pay those costs and is therefore going to get off to a much better start than any, I say again any, life company’s RA product. The debate around choice of fund and fund manager is a separate one and goes to an advisor’s knowledge in a different field.

My second unit trust RA is through a LISP. A LISP that offers a RA from R150pm. They take on average 2% entry fee on each premium. Again, I don’t pay myself the 3% as-and-when or the annual trail fee. Why, because it’s stupid to pay yourself from your own investment. The LISP takes their annual fee monthly by selling units. The costs are still much lower than a life RA. Furthermore, whenever I do a unit trust RA for a client, including this one of mine, I select two to five percent of the premiums to go into a money market fund and I instruct the management company to pay any and all costs, commissions and fees from this fund. In this way they sell money and not units of a unit trust fund to pay the costs. You cannot do this with a life RA. The underlying Manco’s fees are built into the NAV unit price before closing and average 1 to 1.5% ex VAT per annum. Again, whichever way you look at it, this vehicle will be able to invest earlier and more directly and at a lower cost than any life RA.

Do I need to carry on? Can we agree, whether we like it or not, whether it suits our business model or not, whether is suits our sales machine or not, that a unit trust based RA and unit trust investing, as opposed to life product investing, is the better vehicle for the client? Whichever way you want to look at it, whatever your argument is, from an investment point of view, it cannot be beaten. Subject closed. Done.

Now, can you afford to sell such vehicles? That, I understand, might be a problem for you. But this is a separate subject and must not be confused with which vehicle is better.

For the last couple of years now – and since unbundling myself from tied agency and bank brokering commission targeting conditions, although I begun this even in the bank brokering world and told the bank I did not care about their targets – I have not done any investments with insurance companies. I have been building an annuity based income model through being paid the 3% as-and-when commission on retirement annuities or discretionary unit trust investments where someone else would sell an endowment policy. I have just decided that these are the correct vehicles for clients and then allowed my income to grow. I also take the 0.5% trail fee. Even when taking these commissions, the argument does not change. The products are still better. The client has flexibility, transparency, no penalties, real growth from month one.

Then I also offer my clients the option to pay me an ‘implementation fee’ to put such an investment in place. It’s a set fee scoped out again x hours at y rate per hour. If the client chooses to pay this fee, then I do not take the 3% as-and-when commission. Now if you cannot cope with changing your earnings model to that of as-andwhen, then simply share the issue at hand with your clients and inform them that if they would like the unit trust product, then you will need to charge them a fee.

Lastly, from a fund allocation point of view, most LISP’s or asset managers will ensure that your RAs are PIGS compliant. Insurers, to my current knowledge and past experience, do not do this. So through unit trust RAs you’re being forced to ensure that you’re keeping to the rulings on retirement fund portfolio allocations as well.

Let’s move on.

Kevin Murray CFP™
Independent Fee-Based Financial Planner
Pietermaritzburg