How RDR affects you

Rule changes resulting from the FSA's Retail Distribution Review (RDR) have now kicked in, with more to follow by the end of this year. How do they affect you?.

I've covered various aspects of this before, but now seems an opportune time to recap how the changes might affect you.

Let's look at each key area in turn:

Financial Advice

There are now just two categories of adviser: restricted and independent. Independent advisers must be willing and able to select products from the whole of the market. Restricted advisers are those unwilling/unable to do so (they used to be called 'tied' or 'multi-tied').

Both must work on a fee basis, hence can no longer receive sales commissions from product providers, e.g. insurers and fund managers.

However, the commissions ban only applies to new sales from 31 December 2012, so ongoing (trail) commissions being paid on products sold before then may continue. This means some advisers might be less inclined to recommend you switch/transfer older policies, as it could turn off the commission tap that feeds them and incur the hassle of trying to charge you fee. Read more about trail commission in our guide here.

Fees may be paid directly to an adviser or, with your permission, taken from the product you're buying (called 'adviser charging'). So, for example, an adviser might charge a 3% initial fee and ongoing 0.5% annual fee, to be taken from the fund you're buying. This looks very similar to the commission system, but the key difference is the adviser sets the amount he/she receives, not product providers - removing the temptation to use one provider over another because it earns them more (as happened under the commission system).

Of course, the new system is still open to abuse. An adviser might smooth talk their clients into paying excessive fees to be taken from products. And you'd be surprised how relaxed clients tend to be about fee levels when they're not having to write out a cheque directly to an adviser - it's somehow perceived as 'free' - which is why unscrupulous advisers/providers found the commissions regime so easy to abuse. But as adviser fees are supposed to be clearly disclosed to and agreed to by the client - this should hopefully be a big step forward in cleaning up a tainted industry.

As for the fees themselves, most advisers are charging either hourly fees or percentage fees on the amount invested. There's no right or wrong here, the bottom line is how much you actually end up paying. With hourly fees it's best to get the adviser to agree a fixed cost for the work, to avoid signing a blank cheque. Percentage fees can work well for investments, as it motivates the adviser to increase the value of your portfolio, but for larger sums you'd want some sort of cap to avoid the fees becoming excessive.

Regardless of fee type, even the most honest of advisers will want to charge you more the more you invest. This is in part because it might involve more work and also because it will increase the adviser's liability to compensation if things go wrong, i.e. it's more risky for them.

The key is to understand exactly what you're paying, how it'll be paid and what you'll receive in return.

The minimum qualification bar has also been raised for all advisers, to something called 'QCF 4'. There are various ways advisers can achieve this. I won't bore you with the permutations here, but in summary it's a good thing. Although not that difficult to attain it does require a fair amount of commitment, deterring fly by night salesmen. Some advisers take further exams to achieve 'Chartered' status. This is a serious qualification and while no guarantee of good or honest advice, suggests the adviser takes their career very seriously.

Execution-only transactions, e.g. discount brokers

If you don't take advice then it's business as usual, for now at least, as commissions can continue to be paid on both old and new business (allowing discount brokers to continue rebating them). However, it looks likely the FSA will ban commissions on non-advised sales too in due course, perhaps even by the end of this year. If/when that happens it's likely discount brokers will have to offer commission-free products (which should be cheaper) and levy an administration fee instead.

Fund Platforms

Since 31 December 2012 all fund platforms have finally been compelled to allow you to transfer your funds 'as-is' to other platforms (even Cofunds & FundsNetwork, who resolutely refused such ISA transfers before). Of course, this will only be possible when identical funds (down to fund class) are available on the new platform. While most platforms charge for this (typically between £10-30 per fund), Cofunds and FundsNetwork are not, for now at least.

Fund platforms who accept business via financial advisers have had to make some changes, primarily avoiding funds that pay commission and allowing advisers to take their fees via the platform (if that's want their clients want). The former has led to an increase in 'clean' fund classes being offered, more on that in a moment.

However, the biggest change has yet to come. By the end of this year platforms will no longer be able to accept payments from fund managers, meaning they'll instead have to charge customers directly. If you're a customer of Alliance Trust Savings or Interactive Investor this is what happens already, but it might come as a shock to those Hargreaves Lansdown customers not currently paying any explicit fees to use the Vantage platform. While the change might not affect overall cost, the transparency it brings will alert many to the costs involved of using fund platforms.

Funds

Funds sold by financial advisers can no longer have sales commissions built into their charges. In general this now means no initial charge and 0.5% trail commission being knocked off the annual charge. To accommodate this, fund managers have done one of two things, either let advisers use the 'institutional' class (i.e. version)of their fund (previously only available to big-wig investors like pension funds) or issue a new 'clean' fund class - neither includes commissions.

Fund classes all invest in the same fund, the only difference being charges, the letter after the fund name (e.g. A, B, C, I, X etc) and sometimes the minimum allowed investment.

Institutional fund classes seldom include fees paid to fund platforms, typically 0.25% a year. So a fund that charges 1.5% a year with 0.5% commission and 0.25% platform fee would usually be 0.75% for the institutional version (i.e. 1.5% - 0.5% - 0.25%).

Unfortunately, the new so-called clean fund classes aren't always that 'clean', because some still include platforms fees, so the annual charge is more likely to be 1% rather than 0.75%. This isn't a problem if you use a platform that takes fees from fund managers rather than charging you directly, but you'll lose out in favour of the fund manager when platforms that don't take fees from managers offer such fund classes.

The clearest example to date is Invesco Perpetual, who currently only offer unit classes which include platform fees, even if a platform doesn't take them. So Alliance Trust Savings customers ( who pay to use the platform) end up paying an annual charge of 1% on the Invesco Perpetual High Income fund while Invesco Perpetual keeps the c0.25% that would otherwise be paid to some competitors. It smacks of Invesco Perpetual playing hardball (the High Income fund is a 'must have' for all platforms). Let's hope platforms push them harder over the coming months to act more fairly for investors.

A new platform comparison tool

As you can see from the above, platform and fund charges are becoming more complex (at least in the short term), so comparing like with like can be very difficult. Because of this I've been busy building a dynamic fund platform comparison tool, allowing you to compare total costs between leading platforms for your chosen funds. To avoid further confusing this site, it'll launch on a standalone site, www.comaprefundsplatforms.com, on 21 January. I'll put up more details shortly.

Read this article at http://www.candidmoney.com/articles/264/how-rdr-affects-you