Revenue Sharing: Kicking the Hornet’s Nest?

Last week, I discussed my fair questions to ask your financial adviser or broker. The term that generated the most questions and anger was “revenue sharing.” Because many have never heard of this and how it works, it is time to get to the heart of the matter.

For years I have been telling students about revenue sharing, but many did not believe me. In 2007, nationally recognized financial planner and best-selling author Ric Edelman published the book, “The Lies About Money” and described it in detail.

Per Edelman, “Brokers can only sell funds that have been ‘approved’ by their brokerage firms. Regulators have discovered that retail mutual fund companies have paid tens of millions of dollars to get on the ‘approved lists’ of national brokerage firms — fees that have not been shared with (or even disclosed to) the brokers or their clients.”

Have you ever wondered, with more than 20,000 types and classes of mutual funds, why they sell the ones they do? In simple terms, this is how revenue sharing works. Our broker sells us a mutual fund. At the end of the year, the mutual fund company sends our brokerage house a check in relation to the amount of holdings they have of our mutual funds. While some classify this as a kickback, the actual term is called shelf-space payments.

Recently, author Ian Salisbury wrote a piece in the Wall Street Journal that sited what brokerage Edward Jones received from some large mutual fund firms in 2011 in revenue sharing payments. They received from the following firms: American Funds Distributors, $32.5 million; Franklin Templeton Distributors, $16.2 million; Hartford Invest. Financial Services, $13.9 million; Lord Abbett Distributors, $13.4 million; and Invesco Distributors, $10.4 million. Keep in mind that this is perfectly legal with our current laws.

Per the article, Wall Street firms say that because the payments go to brokerages rather than to individual financial advisers — who receive separate payment streams — they don’t affect advisers’ judgment in picking funds.

I am curious to what would happen to the individual adviser if they advised their clients to sell their funds and lock in their profits. After decreasing their book (the amount under management) I wonder how long the adviser would last.

John Freeman, an emeritus professor of business and professional ethics at the University of South Carolina Law School, says the payments should be disallowed. “It’s an unholy alliance between mutual-fund firms and brokerages to exploit their customers,” he says.

If you are wondering if your brokerage firm receives revenue sharing on your mutual funds;

1. Ask your broker,

2. Look at your statement. By law they must be listed.

3. Simply Google the name of your brokerage firm and revenue sharing. The documents are on the Internet.

Finally, it is my recommendation that if you own a mutual fund, be sure and read Edelman’s book, “The Lies About Money.” He goes into detail with a special section titled, “The Mutual Fund Scandal Timeline.” The timeline, which starts in 2003, focuses on three areas of abuse; market timing, late trading and revenue sharing. Check to see if your mutual fund company or broker is listed and how many times they are listed.

In full disclosure, there some mutual fund companies that do not participate in the practice. I hope your funds are on that list.

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