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Advisors, Despite Doubts, Sell No-Load Shares

Although many registered investment advisors are cautious about selling an advisor class of shares with a 12b-1 fee attached to a no-load fund because it poses a potential conflict of interest, no-load firms are having some success selling the class to registered advisors, according to industry executives.

"If you have a fiduciary duty to your clients, you have to keep business practices to reflect that idea," said Paula Hogan, ethics director for the National Association of Personal Financial Advisors of New York. "If you get paid by a fund company to move that product, there is a potential conflict of interest ... if you get added money for how much product you sell, there is a dual loyalty there and in a fee-only scenario, you work only for the client."

Still, no-load funds' advisor share class sales through registered investment advisors are a "part of the landscape" Hogan said.

The advisor share classes of Rydex Series Trust's funds has had "robust" sales through registered investment advisors, said Nancy McCarthy, marketing and communications director for the firm, based in Rockville, Md. The advisor share class makes it easier to sell through the broker/dealer and advisor channels because it offers them an added incentive to sell the products, she said. Rydex has a sales staff and national sales manager dedicated to the registered investment advisor channel, she said.

"It's the compensation issue that makes it more intriguing to those channels," she said.

While there is a conflict of interest in registered investment advisors selling an advisor share class of a no-load fund, registered advisors can eliminate that conflict by fully disclosing the price differences of the various share classes, said Robert Plaze, an associate director with the SEC's division of investment management.

But most registered investment advisors avoid selling no-load funds' advisor shares because there is a greater risk of getting sued, said Brian Hamburger, a lawyer who represents and is a consultant for financial advisors. At the heart of the issue is the advisor class' suitability for investors, he said. If there are two share classes of the same fund and one is cheaper than the other, the registered investment advisor has a fiduciary duty to the client to sell the cheaper share class, he said. Strong fund performance has kept clients happy, but if there is a downturn in the economy, there will be a spate of lawsuits filed, Hamburger said.

"If anything, there's going to be a client that can bring a claim that the advisor did not buy the product that was consistent [with their best interests]," he said. "It opens the RIA to greater liability or regulatory enforcement."

That potential liability prompted one of Hamburger's clients to stop selling no-load funds' advisor class shares and pay back the fees he had collected, he said.

Still, some registered investment advisors are enticed by the opportunity to collect a higher fee and sell no-load fund advisor class shares, he said.

"They don't see a clear breach of fiduciary obligation," he said.

As long as a registered investment advisor provides clients sufficient disclosure of the fund fees, there is not a conflict of interest, said Ray Copeland, president and CEO of Copeland & Associates of Edmond, Okla., a registered investment advisor that serves high-net-worth investors. Allowing a registered investment advisor to tack on his own fee to a no-load fund or sell an advisor share class of a fund gives the registered investment advisor greater flexibility in offering a product that is suitable for his client, he said.

"So long as you disclose it to your client, either way you shouldn't have a problem," Copeland said. "I don't have a problem with it." But, registered investment advisors should not charge a separate fee on top of a no-load fund's advisor share class, Copeland said. Copeland & Associates, however, attaches its own fee to no-load funds and does not sell advisor share classes of no-load funds, he said.