The truth behind securities payout offersArticle added by Jason Kestler on November 10, 2011
Jason Kestler

Jason Kestler

Leesburg, VA

Joined: August 15, 2009

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FINRA’s Notice to Members 05-50 changed the landscape forever. What used to be straightforward has become quite complicated. Let’s examine a few common situations.

It used to be easy. A broker/dealer would offer a registered representative a payout that was always a percentage of gross dealer concession. Whatever the B/D received on the transaction — say $1,200 — was multiplied by the payout — say 75 percent — and the rep received the commission — $900.

For the most part, the rep (and the client) knew what the gross commission was. It was published in the prospectus. On the other hand, most insurance products, including fixed indexed annuities were historically sold as an outside business activity and not subject to the B/D commission grid. All the cards were on the table. That’s simply not the case anymore.

FINRA’s Notice to Members 05-50 changed the landscape forever. What used to be straightforward has become quite complicated. Let’s examine a few common situations:

A broker/dealer offers you a 95 percent payout

Would you like the Brooklyn bridge to go with that? Unless you are running a multi-million dollar OSJ, be very skeptical. Remember the water balloon? You squeeze one place and it pops out somewhere else. Consider the payout the pop out. What is being squeezed in order to afford this?

Let’s face it, B/Ds need to make a profit. If they don’t make a profit and end up going out of business (or get purchased), was the extra few points worth the tremendous cost (in time, money and frustration) to change to another broker/dealer?

Consider the B/D's sources of revenues. The vast majority is traditional gross dealer concessions. You sell a $100,000 variable annuity with a 6 percent commission and the B/D receives $6,000. Stocks, bonds, mutual funds and variable annuities all work the same way — 100 percent of the payout is 100 percent of the payout. Or is it?

B/Ds often receive “marketing allowances” from vendors in order to get “shelf space.” This is also known as getting on the approved list or becoming a strategic partner. In the overall scheme of things, this is relatively small but adds to the bottom line.

Fees can generate a tremendous amount of revenue. Ticket charges, transaction fees and marked-up licensing fees all contribute to profitability. If a firm has an affiliation fee of $100/month and has 600 reps, that generates $720,000 in annual revenues.

If you are selling fixed indexed annuities, which aren’t priced like traditional securities, what is the gross dealer concession? Is it the street commission? Is it higher than the street level? What is actually passed through?
Here’s an example: A rep is offered a 95 percent payout if he transfers to a B/D. They also promise full street commission on his FIA business (the pop out). Sounds great, doesn’t it? However, the rest of the story is the B/D has cut a deal with a wholesaler to receive an additional 1 percent override on FIA business which never shows up as commissionable rep GDCs.

The broker/dealer keeps 100 percent of this override. Securities payouts are used to capture a large FIA producer who then finds out he can only submit business through their proprietary wholesaler. This would force the rep to leave the wholesalers they have a relationship with and contract with a new, unknown organization which may not even carry the products he wants to sell or offer the marketing support he’s used to getting (the squeeze).

You are offered a six-figure signing bonus to transfer to a new broker/dealer

These offers are also typically combined with commission offers like above. Nice pop out — where’s the squeeze?

First, consider the why. Once you put your ego in its place, seriously ask yourself, “Why would they do this?”

We’ve seen several scenarios here. In one case, the prospective broker/dealer, one of the largest in the country, was positioning itself for an initial public offering. They knew larger numbers of big producers (with corresponding big books of business) would tend to increase the stock price making money for the owners. In another situation, an insurance company-owned B/D was making similar offers to large FIA producers. Like the scenario above, the insurance company would subsidize the broker/dealer to capture the rep because they believed they could also capture (or hijack) his annuity business.

Once you understand the why, be sure you understand the how. These offers are not a gift. Be sure you understand where the strings are attached and get competent legal advice before signing anything.

Most of these deals are written as forgivable of semi-forgivable notes. The contract typically contains wording to the effect of, “if your annual production is $XX, we will forgive XX percent of the note.” Sounds reasonable up front, but what if:
  • You had some type of family emergency preventing you from producing at your current level?

  • The broker/dealer had a change in management or ownership with corresponding changes in operation? Could you guarantee consistent high production levels?

  • Suitability standards went from reasonable to insane?

  • Your preferred products were removed from the approved list?

  • Unforeseen industry changes affected your business? For example, dinner seminars became outlawed in your state.
Typically, these outside influences on your business are never addressed in the agreement. Once you sign the agreement and cash the check, you are their indentured servant for the next 5 to 7 years.

The bottom line is you must ask a lot of questions and obtain competent advice. Often, what seems like less at first glance is actually more.

If you are a $100,000 producer and lose 20 percent of your business due to poor B/D service or suitability nightmares, your 95 percent payout might net you $76,000 (80,000 x 95 percent). On the other hand, the 85 percent applied to all your business nets $85,000.

Your final decision should not be based on payout alone. Ask yourself, “Where can I best serve my clients and make the most money overall?”

Perhaps less is actually more — more product choices, more reasonable compliance, more training, more marketing support, more opportunities for growth, more flexibility to run your business your way. How much more could you make?

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