Finding a financial advisor isnâ€™t as easy as it sounds. Most of the advisors you meet with are actually either insurance salespeople or registered representatives (mutual fund salespeople). If you want to make sure youâ€™re getting objective financial advice, here are a few questions you need to ask.
How (and How Much) Do You Earn Your Money?
Knowing what your financial advisor makes isnâ€™t necessarily the most important thing in the world, but it can be an important data point to consider. Another important thing is knowing how he or she makes money.
For example, this humble financial adviser is a fee-only financial planner. Thatâ€™s important. If your advisor earns a commission on the sale of a product, there can be an incentive to sell you the highest commission product available, regardless of the benefit to you.
This puts the salesperson in an adversarial role against you.
Of course, even a fee-only advisor can be improperly incentivized. For example, an advisor might charge a flat fee for assets under management, but might not be the person you want to ask about divesting. Why? Because the advisor makes money so long as you keep money invested.
If you want to spend your savings on something, he or she loses income because youâ€™re no longer keeping your money under management.
At the end of the day, you want full disclosure: How much does your financial advisor make, and how does he or she make money?
If you know that a commissioned salesperson is only making 11 percent commission on a product, where the industry average is 50 percent, youâ€™re getting an amazing deal.
If, on the other hand, heâ€™s making 100 percent commission on an insurance premium, that deal isnâ€™t so good.
Likewise, if a financial advisor is charging you a 1 percent management fee for assets under management, thatâ€™s a great deal for small dollar amounts.
But, when you hit the $1 million mark, youâ€™re paying $10,000 a year in fees. Even with a discount of 0.50 percent, youâ€™re shelling out $5,000 a year for those investments – a hefty sum.
To illustrate the impact of fees on your investment, assume that you have $1 million invested and are making no more contributions.
If your investment earns 7 percent compounded annually, you will pay over $140,000 in fees over 10 years. Over 20 years, you will pay almost $400,000 in fees. At the end of those 20 years, you will have nearly $2.9 million in savings. Those fees took a substantial amount of money away from you.
Knowing how your adviser will be paid, and how much he is likely to make from you over your lifetime, could make a dramatic difference in the amount of money you have for your future.
Are You A Fiduciary?
Your financial planner may not be legally obligated to do whatâ€™s in your best interest. Only fiduciaries are required to place your interests above their own when it comes to your money.
Unless you sign an agreement with your financial advisor, indicating that he is acting as a fiduciary, you can have no legal assurance that he or she will do everything possible to act in your best interest, nor will you have any recourse if he or she doesnâ€™t.
How Much Experience Do You Have?
An experienced advisor is obviously better than an inexperienced one, but what you want to know is how much experience the person has in the types of products and services theyâ€™re recommending.
Be aware that advisors canâ€™t be an expert in all things, either. A fee-based or fee-only life insurance consultant, life insurance agent, or broker, will know a lot about life insurance, but probably wonâ€™t have the expertise youâ€™re looking for if you want to invest in stock options or forex.
Likewise, a mutual fund salesperson, or an RIA, will know a lot about investments, but may not know much about comprehensive financial planning or insurance.
A CFP (certified financial planner) is process-driven. He or she will understand the â€œbig pictureâ€ and how to create a financial plan, but may not have the in-depth product knowledge you need for each recommendation he or she makes.
Do You Know How To Break Down Costs and Benefits For Various Strategies?
Knowing how much a product costs over its lifetime is important. Knowing this is not the same as knowing how much your financial advisor makes, however.
For example, how much does it cost to buy a whole life insurance policy versus buying term and investing the difference in mutual funds? Itâ€™s not obvious. Your adviser must calculate the annual stream of costs embedded in the whole life policy, the net amount at risk (insurance) and then calculate the cost per $1,000 of coverage.
Next, the advisor must calculate the cost per $1,000 for term life plus a mutual fund investment, including the costs for the mutual fund investment along with the pure insurance costs).
Who Is Your Ideal Client?
Finally, ask the advisor straight-up: who is your ideal client?
This usually either ends the conversation really quickly (if he requires a minimum of $1 million investable assets) or opens the door for negotiations on a fee arrangement.
Matt Schwegman is the founder of Composed Financial Management, PLLC in Humble, Texas. Matt obtained his Certified Public Accountant (CPA) license from the State of Texas in 2008. He worked as an associate with a Big 4 Accounting Firm for 3 years from 2006-2008. He then joined a privately held aviation company as a Senior Regional Accountant. He was selected to head up the clean-up of accounting for their French locations and traveled to Paris frequently during his first 2 years in their accounting division. After 2 years, he was promoted to Senior Financial Analyst in the Strategic Planning & Analysis division. Matt likes to share his insights online through blogging.
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