Searching for the right financial advisor can be a daunting and frustrating task. There are issues regarding the competence and qualifications of the advisor. These are critical, but we cover these issues in another article.
Rather, this article will address the issue of understanding how much a financial advisor will charge you and how to go about getting at this information. Understanding how any financial advisor is paid is critical and should be understood before engaging their services. Besides impacting how much their advice will cost, their compensation structure can point to potential conflicts of interest in terms of the advice they provide to you.
Please note that this article is the result of a recent reader question we are sure many of you share.
Financial Advisor Compensation Structures
There are three basic models for financial advisor compensation.
Fee-only means the advisor is compensated by fees paid by you, the client. These can take the form of a percentage of assets under advisement, a flat retainer fee, an hourly fee or a flat one-time project fee.
Fee-only advisors may work with clients on an ongoing basis, which likely includes ongoing investment advice. In other cases, the engagement may be on a one-time or infrequent basis.
Commission-based financial advisors receive their compensation exclusively from the sale of various financial and insurance products. These can take the form of upfront sales fees, or loads, on mutual funds, commissions from the sales of annuities or insurance policies, level loads on many Class C mutual funds and all sorts of trailing commissions including 12b-1 fees and surrender charges on certain products if you sell out of them before a specified time period.
Fee-and-commission or fee-based advisors are compensated via a combination of fees and commissions. This can work in several ways. Under one common scenario the advisor would charge a fee for a financial plan and implementation of any recommendations via the sale of financial or insurance products.
Another increasingly common form of the fee-and-commission compensation structure involves the use of fee-based accounts, also known as a brokerage wrap account. Under this arrangement the broker or registered rep would invest your money in a managed account for which you would be charged a fee based upon a percentage of the assets in the account. The commission part comes into play in that many of the underlying mutual funds used in these accounts provide 12b-1 fees or other sorts of revenue-sharing commissions to the brokerage firm.
Following are average percentage of asset fees based on AdvisoryHQ’s 2016 random survey of a variety of asset managers and wealth management advisors. These fees may be for investment advice only or may encompass a full range of services. These fees represent a sampling of fee-only advisors.
|Assets under management||Percentage Fee|
Note that these fees do not include the expense ratios of the underlying mutual funds or ETFs used by the advisor to implement their investment strategies.
According to AdvisoryHQ, the average hourly fee for a financial planner ranges from $120 to $300 per hour.
Conflicts of Interest
All forms of financial advisor compensation carry conflicts of interest in some form.
Fee-only advisors who charge a percentage of assets could face a potential conflict of interest when providing advice to a client about withdrawing money from the account. The withdrawal could result in lower compensation for the advisor, and there could be a temptation for them to advise the client to find the money elsewhere.
Advisors who are compensated via commissions have an inherent conflict of interest in terms of the financial products they recommend and even the financial planning solutions they suggest.
Ask Questions and Do Your Research
If you are looking for a financial advisor or even if you have been working with one for a while, be sure to ask questions and do you own research.
Ask the advisor how much they will make in compensation from all sources by working with you. This goes beyond any fees you pay to the advisor. It includes sales charges and commissions on any products they might recommend. It also includes fees imbedded in the products they are recommending.
Be sure to review any disclosure documents you are given. If the advisor is a registered investment advisor with either the SEC or your state, review their Form ADV, as this requires the advisor to disclose all sources of revenue.
If your financial advisor suggests you buy any financial product for which he or she receives compensation, insist on full disclosure of all associated fees and expenses, as well as all sources of compensation involved for the advisor. They will probably provide disclosure documents on products such as annuities. These are boring and written in legal-type language. None the less, they are important and you should read them. There will typically be a section on fees and expenses.
The Fiduciary Rule
The Department of Labor (DOL) recently unveiled the final version of its fiduciary rules for financial advisors who provide advice to clients for their retirement assets. These rules will mostly impact IRA accounts and will begin to take effect in April 2017.
These rules mean financial advisors now must put your interests first in providing advice on retirement accounts. These rules are along the same lines as the ERISA rules enforced by the DOL regarding company retirement plans such as 401(k)s.
A key feature of these rules are the Best Interest Contract Exemption, or BICE, disclosures that are required for products or services that could be construed as not being totally in the client’s best interest. This could include commissions on various financial products, as well as the difference in expenses between leaving your money in an old 401(k) versus rolling the money over to an IRA account. It will remain to be seen if these disclosures truly add additional transparency to the client-financial advisor relationship.
The Bottom Line
It can be difficult, for investors to get a handle on all the fees and expenses involved in working with a financial advisor. Many top-notch financial advisors are transparent about their fees; in fact, the level of disclosure you receive without asking should be a factor in your decision whether or not to work with a particular advisor.