The last four years have been a rocky time to launch an investment advisory business. First, the stock market has been in the red for almost 30 months, and all advisors, it's safe to say, have had to soothe the nerves of more than a few clients. Veteran advisors agree most of their challenges have been with newer clients, and of course, those are the only clients rookie advisors have. Second, regulations affecting advisors have become more burdensome, creating added pressures, particulary for those who aren't as familiar with the profession.

Bear markets and changes in regulations usually spell rough weather for financial advisors. Still, many new advisors say the RIA license may have helped spare them from the storm, as they have scrambled to find creative ways to stay afloat.

Thanks to the toll the bear market has taken on broker income, more than a few registered reps have changed directions and become RIAs or RIA reps. For example, Clive Cholerton, a 36-year-old RIA and general securities principal of Spectrum Assets in Boca Raton, Fla., launched the advisory firm in 2000. He made a commitment to do more fee-based work while he had worked for a broker-dealer. Cholerton aligned with an area certified public accounting firm and obtained referrals from two CPAs who became minority owners of his advisory firm. Since the firm was launched, business has been skyrocketing. Revenues in 2001 almost tripled from the previous year. Six months into this year, he says, he already reached last year's revenue.

Cholerton says that the impact of the terrorist attacks of September 11 was a significant factor in boosting business. "It's almost embarrassing to admit it," he says. "It [September 11] created so much more of an environment of fear out there that people wanted advisors. They wanted someone as a sounding board-to tell them it would be OK."

With his newer RIA license, Cholerton switched from acting only as a registered rep for a broker-dealer to deriving the bulk of his income from annual fees based on assets under management. Clients are billed quarterly, and his fees are tiered,

ranging from .75% on $3 million in assets to 1.50% on $250,000 in assets. Cholerton believes that making the change to a more fee-based business has been his salvation in an otherwise dismal stock market. He also is planning to get his CFP.

Some CFPs have opened RIA practices that stay clear of asset-based fees. Doris "Casey" Rea, a 45-year-old CFP, and a partner founded Sound Futures Inc. in Columbus, Ohio, in May 2001. The partners target middle- to upper-middle-income clients. Rea, a member of the Garrett Planning Network in Shawnee, Kan., charges $150 hourly. Her company takes no assets under management. She provides advice to clients, who implement changes she suggests. Clients receive follow-up calls after six months for a portfolio checkup. Rea says that after a year in business, she is satisfied.

"One issue I have to think about is that realistically, only 50% of your time can be billable," she says. "That limits the maximum income you can make." A client's first visit, she says, is complimentary.

Yet she credits the bear market for generating interest in fee-only services. She gets referrals from her former RIA employer, Budros & Ruhlin Inc., also in Columbus. That firm, where she worked for five years, targets higher-net-worth clients, so they are happy to refer lower-net-worth prospects to her.

Lisette Smith, a 38-year-old CFP, has no complaints about her new business despite the bear market. In October 2000, Smith and a partner formed the advisory firm of Smith Rapacz LLP. Her business, which she operates in a space subleased from an accounting firm in downtown Boston, has no minimum net-worth requirement. Like Rea, she obtains referrals from other firms that have high net-worth requirements. The company, which also takes no assets under management, charges annual fees based on assets and the extent of work required.

Perhaps the most important lesson Smith learned is to choose clients carefully, a luxury many novice advisors can't afford. Prospective clients must be willing to buy into a philosophy of comprehensive financial planning. "Initially, it was hard to turn clients away," she reflected. "Because the market had just done so poorly, there were people who had just lost a lot of money and basically wanted us to get it back for them. We couldn't do that. We just said that we didn't think it was a good fit, and gave them the names of other people more focused on the investment piece."

Turning business away when you're a start-up can really hurt. One client the firm turned away would have represented 20% of the company's income in the first six months. "But since then, the way we've brought in clients has been pretty consistent, and we kind of hit our stride, so we don't regret it in retrospect," Smith explains.

Evolving Regulations Are A Challenge

Rookie advisors started their practices in a more challenging regulatory environment than planners who entered the business in earlier years. Since 1996, for example, all states except Wyoming have required most investment advisory firms that manage less than $25 million in assets to register. Most states also have begun requiring employees of all RIA firms in their jurisdictions to register. And a majority of states now require investment advisor reps to take the North American Securities Administrators Association (NASAA) Series 65 exam. Firms that manage at least $25 million and those in Wyoming are under the jurisdiction of the Securities and Exchange Commission.

In fact, Rea says her greatest hurdle has been deciphering state regulations.

She was exempt from having to take the Series 65 exam because she is a CFP. But she has a nagging feeling that she might have missed an important regulatory change. "As far as I know, I'm compliant," she says, noting she passed a state audit in January. "But there's just always this underlying concern that you've missed something."

She is considering hiring a compliance firm-which she anticipates could cost her between $2,000 and $5,000-because the state doesn't proactively notify her of any changes in state laws. The only way she learns of regulatory changes is by visiting her state's Web site. Deciphering that Web site's legalese is tough. It's even harder to get straight, reliable information by telephone from state employees. "You can ask them a question, but they usually will just refer you to the code," she said. "It's horrible! They don't want to be liable for any advice they might give you. I've had to preface my questions with, 'I understand that your answer will not be considered legal advice, but can you just give me some general information? Is my understanding of this correct?'"

It's not only firm owners who've been affected by regulatory changes. Employees, or investment advisor reps, are fast becoming subject to an evolving body of state laws. Six states confirm that they neither register investment advisor reps nor require a Series 65 exam. Those states are Wyoming, Michigan, Minnesota, Tennessee, New York and Georgia. Tennessee was planning to begin requiring registration and the exam in 2004. And regulations were being drafted in Georgia that were anticipated to start requiring reps to register and take the Series 65 exam in 2003.

But Patricia Struck, chairman of the NASAA's investment advisor section committee, says the regulatory situation is improving. If anything, she says, "laws are becoming more uniform rather than less so." She credits the Investment Advisor Registration Depository, administered by the National Association of Securities Dealers. This database, accessible at, makes information on RIA firms available to the public online. Nearly all states have committed to mandating that RIAs register through the system. This will allow advisors and their reps to file the same forms if they do business in more than one state. The database also has begun adding advisory firm reps. As more states buy into the system, Struck adds, filing fees are dropping.

Changing Relationships

Another challenge for advisors is that the relationship between broker-dealers and RIAs is changing. In part, this may be because many broker-dealers also have become registered investment advisors. That trend, says one RIA-broker rep who talked to Financial Advisor only on condition of anonymity, puts him in a bind. The advisor operates an independent RIA business, but was notified that the broker-dealer prefers the RIA to operate under the broker-dealer's RIA license. As a result, the advisor was debating whether to change brokerage firms, leave the broker-dealer and operate independently or comply. Only independent RIAs who were top-tier producers would be able to continue with the broker-dealer, the broker-dealer had indicated.

Initial phone calls placed by the advisor to other area broker-dealers revealed they would not even accept a broker rep who operated under an independent RIA license. They cited the potential liabilities they could face. Yet going under the RIA of the broker-dealer, the advisor fears, might upset the business he built up over more than a decade.

"Right now, I can write a (financial) plan and have a client come in five minutes later and deliver it," the advisor says. If the advisor moved under the broker-dealer's RIA, advertising and financial plans likely would be sent to another state for review. "They would tell me words I have to change on it, based on their interpretation, and it could take weeks."

This advisor was uncertain how compensation would be affected by a move under the broker-dealer's RIA umbrella. "When I operate under my own RIA, the client writes checks to me," he says. "If I operate under the broker-dealer's RIA, I would have to have the client write a check to that RIA, and they would give me a percentage of that fee."

The best bet, Cholerton strongly believes, is to control as much of your own business as possible-provided that you build the right back-office infrastructure. "If you're [an RIA] running a fee-based business through a broker-dealer, they're going to take a large cut of it."

New RIA regulations are another factor that makes affiliating with the right broker-dealer critical, Cholerton says. With his initial Florida registration, he had to file three or four amendments to get it right. It took away precious time he could have used to attract more business.

Part of the problem was that his previous broker-dealer failed to cooperate in the process, despite the fact the state required the broker-dealer to complete certain paperwork. Causing another problem was a requirement for an advisor to clearly specify when he or she acts as an RIA or a registered rep of the broker-dealer. Again, Cholerton's previous broker-dealer was of little help. "It got to the point in our filing where I had to explain to the NASD that I would hold meetings in one separate room. If I found out it was going to be a fee-based client, I would switch to another room."

Now, he says, his musical chair games are over. He uses Next Financial Group of Houston as his broker-dealer for commission trades and gets total cooperation. "[The delineation] is basically inherent in the paperwork I fill out," he said. "If they're an RIA client, they sign my ADV Part 2, saying they're a client of Spectrum Assets. If they're a client of the broker-dealer, they sign off on the broker's separate paperwork."

Others, besides Cholerton, have found a way around the dilemma of acting both as an independent RIA and registered rep for a brokerage firm. John Kingston, 57, a partner with the advisory firm, Investment Insight Inc., Fort Myers, Fla., recently launched his own RIA, Custom Financial Planning Inc.

He also is a registered rep with Raymond James Financial Services in St. Petersburg, and has no problem. "I've always done financial planning as part of money management service," Kingston said. "This new RIA is specifically for financial planning and providing fee-only advice."

Kingston uses Raymond James primarily for smaller clients-persons with $50,000 in assets who cannot afford the high fees of a fee-only planner. "As a matter of fact, I think it's [Raymond James' program] a little bit better than Schwab," he said. One advantage is that with wrap accounts, the brokerage credits mutual fund administrative-service fees to his client's account. "It helps offset the fee I charge."

Raymond James permits the crediting of administrative service fees on wrap accounts to the client for certain retirement accounts, such as 401 (k)'s and IRAs. On other wrap accounts, the RIA-broker rep has the option of receiving the credit or paying it to the client. If the broker absorbs the credit, he or she also must absorb the client's transaction charges.

"This provides flexibility to the financial advisor and client to best tailor the account for them," says Michael Di Girolamo, senior vice president for Raymond James Financial Services. Di Girolamo says a handful of firms have similar arrangements on wrap accounts, but he believes Raymond James is the largest one to do so.

As for concerns by broker-dealers over the liabilities they face by affiliating with an independent RIA, Di Girolamo says his company provides errors and omissions insurance to cover the activities of independent advisors. It oversees all securities activity as its own, and it does not permit advisors to use their own RIA license to conduct transactions at another broker-dealer. "That's where there's liability," he says.