There are all kinds of different titles for financial services professionals, and even more credentials to complement said job titles. This can make it difficult for consumers to tell the difference between the kinds of professionals offering financial advice, products, and services. One of the easiest ways to wade through all the nuance is to ask how your financial professional is paid. Just like any other service provider, you should understand how they are compensated and decide if that method of compensation is the best thing for you and your family. By the end of this blog post, I hope you’ll see why a fee-only financial planner is the best choice for you.
How Do Most Financial Advisors Get Paid?
Simply put, a fee-only financial planner is strictly compensated by the client. And we’re a rare breed. The compensation is transparent and agreed to in advance. This is quite a bit different and better for the client in my opinion, than a commission-based or fee-based financial advisor.
A commission-based advisor is compensated when you buy or sell something. That could be a stock, mutual fund, insurance policy, annuity, etc. They are compensated when you take action. Or at least, most of their compensation is based on you buying something. There could be some ongoing, additional compensation later, but it is likely to be negligible compared to the commission they earn when you buy something.
Why does this matter? These professionals “eat what they kill.” They need to sell products and services in order to make any money. This isn’t necessarily a bad thing, and I’m not here to disparage the method of compensation entirely. I have no doubt most of the advisors that operate under this compensation model are good at their jobs and do the best thing for their clients. But, there’s no denying the fact they have a pretty big conflict of interest. Some of the commissions on insurance policies, annuities, etc. can be pretty large. And the client probably won’t ever know how large the commission is because it’s baked into the cost of the insurance policy, for example. So, it is hard to ignore that the advisor might be acting in their interests and not yours because those commissions might be pretty tempting. Basically, the advisor gets a big fat commission check all at once. The advisor could potentially steer the client into something that benefits themselves more than the clients. I think it has the potential to invite bad behavior, and I believe consumers would be better off, in most circumstances, avoiding financial professionals that are commission-based.
The next iteration of compensation that a consumer may want to think twice about is a fee-based advisor. Basically, this kind of financial services professional can accept commissions on the aforementioned products, just like the commission-based advisor. But, they have the ability to charge a fee on investment management, for example, in addition to accepting commissions. A common fee for this service is 1% of the assets being managed by the advisor. For example, if the advisor manages a $200,000 portfolio for you, they would bill you $2,000 for the year, with adjustments made for the fluctuations of the account when the fee is billed. This could be viewed as an improvement over the commission-based model. And that’s probably a fair assessment. But aside from accepting commissions, this kind of advisor charges to manage your investments for you, and will probably say their interests are aligned because if the account grows, so too does their compensation. The problem with this method of compensation, as I see it, is that it can invite bad behavior too. If you want to take money out of your portfolio to pay off your house, buy a second home, pay for college, etc. that means the pool of money the advisor can manage, and charge fees on will go down. Due to the fact that their compensation is directly related to how much money they manage for you, they have a strong incentive to try and get you to keep that money in the accounts they manage. Again, I have full confidence most of the advisors operating under this method of compensation do the right thing for their clients. But, I think it is fair for clients to wonder if they’re getting objective advice if the advisor’s paycheck is going to go down when they take money out of their accounts.
This leads me to why I’m a fee-only financial planner. Being a fee-only financial planner minimizes the conflicts of interest and provides the client with a better experience.
Why I Think You Should Work With A Fee-Only Financial Planner
As I mentioned before, a fee-only planner is only getting paid by the client. No commissions. No back-end compensation. It’s all right there in the open, and the client is the only master the financial planner serves. You may be familiar with the term “fiduciary,” and that’s my favorite industry f-word. It means I have a legal obligation to act in the client’s best interest. Other advisors cannot make the same claim, at least not without exceptions. The bottom line is a fee-only financial planner can offer you objective advice for a transparent fee. And since the fee is based on a client’s entire financial picture, I am able to provide comprehensive advice. This is in stark contrast to advisors that only offer advice relative to the sale of one product or service made in a vacuum, with little or no regard for the rest of a client’s financial picture. Advisors that sell products are only required to make sure the product is suitable for the client. Which is bullshit. Suitability is not the same thing as what’s best for a client, and I’m damn proud to offer advice that I can stand behind as what’s unequivocally best for the client.
Shoot me an e-mail at brendan@meaningfulwealthmanagment.com to learn more about how I work with clients, or if you’d like a second opinion about your existing advisor.