Selecting A Retirement Advisor: How Are Advisors Paid
Warning: This is a long series of posts about selecting the right financial advisor. If you have no interest in financial advisors, how they work, or if they make sense for your situation then this series of posts isn’t for you. But if you’ve been pitched by or work with a financial advisor (of financial adviser), financial planner, broker or insurance agent but want a 100% independent, objective thoughts on working with one – then you’re in the right place.
How To Select The Best Financial Advisor For You
Nearly every affluent person today will consider if they should pay a financial advisor to help them with their planning, accumulation, tax and investment strategies. Most experts would agree that this really isn’t an if question. Comprehensive planning, tax and investment strategies are more than a hobby and given the significant range of potential financial outcomes, professional help is imperative to proceed on the most confident path while maintaining your peace of mind (and a bit of your free time). Not convinced an advisor can add value STOP READING NOW and read here.
Why this series of post about financial advisors will help you.
Assuming you believe an advisor can add value, the question every person must ask is, “How can I hire the best advisor for me?” Keep reading for all the information you’ll need to make that decision, plus some helpful tips on how financial advisors work so you can be successful as you forge a crucial partnership with an advisor.
How are Financial Advisors Paid?
To understand the dollars and cents discussed below, you must understand fee models used by financial advisors. Financial advisors are typically compensated for the work they do (which can vary widely) in one of five different ways:
- Assets-under-management fee: In this model, clients pay a yearly percentage of assets under management/advisement (“advisement” may include assets held away (in your 401k for example) that you do not move to the advisor’s custodian). Typically these yearly fees are broken into 4 quarterly payments calculated and billed in advance (or in arrears) of each quarter in exchange for an agreed-upon array of services. The asset-under-management fee is the most common compensation model for advisor. Asset-under-management clients may receive asset management services. Other advisors provide ongoing communication with clients related to accumulation strategies, tax strategies and long term planning. The creation of a financial plan may or may not be included as part of the underlying fee.
- Quarterly retainer fee: In this model, clients pay a set fee each quarter in exchange for an agreed-upon array of services. The monthly retainer is growing in popularity. Again, clients may only receive asset management services. Other advisors provide ongoing communication with clients related to accumulation strategies, tax strategies and long term planning. The creation of a financial plan, once again, may or may not be included as part of the underlying fee.
- One-time financial planning fee: Some financial advisors (they often refer to themselves as planners) offer a one-time financial planning fee option. Some planners/advisors ONLY do this type of work though one can see how long term outcomes will vary significantly depending on the client’s follow through on the plan created. This is a great 1st step before engaging an advisor full time. Why? Limited time invested. Limited cost. Limited effort. Try before you buy. What better way to test drive a new or replacement advisor before handing over the full “reins of influence” to your financial future. Advisors that offer one-time financial planning services may (should!) advertise a price estimate directly on their website.
- Brokerage/trailer fees: Brokerage/trailer fees are probably the most antiquated ways of working with advisors but some clients prefer this method. If you’re simply looking for point-in-time investment advice and want to compensate someone for ideas, this might be the right way to go. Problem is, when you work with an advisor that get’s paid to bring you ideas, there is an inherent conflict of interest built into your relationship. More ideas = more compensation regardless of the quality or the success of those ideas.
- Hourly consulting: Just what is sounds like. Need someone to check your work, short term expert advice or just a second opinion, hourly consulting in exchange for services or information might be the plan for you. Generally speaking, successful advisor’s don’t allocate much of their time to this, instead, focusing on their most important clients in-lieu-of inconsistent one-time payments.
Many advisors focus on one of these models for the bulk of their work. Likewise, clients may work with an advisor using more than one model. For example, a client may choose to pay a one time fee for a comprehensive financial plan, enter into a monthly retainer for ongoing planning & asset management, and engage the advisor on the purchase of insurance (commission), thus compensating an advisor in three different ways.
Typical Financial Advisor Costs
Obviously the financial advisor you work with should cost less than the value they add. That said, not all value is easily quantifiable (what is confidence and peace-of-mind worth?) but Vanguard does a great job in estimating the tangible value that can be added under their advisor framework model. So, assuming you are receiving good value (read about value here), what should you expect to pay? Here’s a guide to the range of the costs according to the fee models described above.
- Assets-under-management fee: A client with fewer $500,000 in assets under management may pay anywhere from .8% to 1.25% per year depending on services provided. Clients with $3,000,000 in total assets will generally pay at the lower end of that range on a blended basis (managed and advised funds). Generally, the larger the client the lower the percentage but it’s key to consider the breadth of services provided.
- Quarterly retainer: $250-5,000 per quarter (and more!). Within this range, the amount that a client pays depends on the amount of their assets, complexity of their plan and the breadth of services retained. On the lower end of this spectrum are smaller clients with straightforward financial plans needing a limited amount of services. On the upper range are clients with higher complexity plan, more significant communication needs and interests in strategies off the beaten path.
- One-time financial planning fee: Here the price is variable as well. Planning only may range from $500 to $25,000 with the cheaper plan including only rudimentary financial planning to the higher end which may include complex estate planning and lifetime allocation glidepath services. Clients testing the waters with a new advisor are wise to engage an advisor in this manner first before committing to a full engagement.
- Brokerage/trailer fees: costs are variable but yearly brokerage commissions can often exceed costs charged by many asset under management advisors yet still include an inherent conflict of interest, of often leaving the client wondering if the transaction is good for them or more so for their advisor/broker. Brokerage fees don’t really work with long term plan guidance and administration either.
- Hourly consulting rate: $100-300/hr or more. Not a bad investment if you are looking at a one-time insurance purchase or sale of assets. That said, the best work done by advisors isn’t usually done piecemeal, it’s done as part of an overall plan.
Things You Should Be Suspicious Of
Any discussion of financial advisors and pricing isn’t complete without a few warnings. To help you guard against indiscriminate financial advisors with unethical business practices, read and heed. Be suspicious of the following:
- Advisors acting as brokers vs acting as a fiduciary: Brokers follow a more lenient set of rules and have an inherent conflict of interest. That said, just because someone is a fiduciary doesn’t mean they are competent!
- The offer of products or advice without a plan: You might want it but it’s not in your best interest. If you’re going to do something, do it in the context of a well thought out plan.
- Guarantees: No advisor can guarantee a rate of return. Many annuity products appear to offer a guaranteed rate in truth, they are only offering the guaranteed growth of the income bucket which then may provide a guaranteed rate of income against that bucket for life. Got that? The one exception is a fixed annuity. Fixed annuities are high fee, low-return, commissioned products. There are more cost effective ways to allocate your money to create reliable retirement income.
- Market predictions: All of “Wall Street” and the financial media are trying to predict what the market is going to do next. Everyone is sharing what they expect to happen. No one can predict what the US market, let alone the global markets, are going to do.
- Individual stock picking: Monkeys with darts, mutual fund management teams with ultra low fees, index funds and evidence based investment firms have all historically outperformed the average stock picker. Your stock picking advisor is not the exception. It’s impossible to determine what the crowd (the markets are just people) will do on any given day let alone any given stock. If you’re going to invest, you might as well invest in via well researched methods.
- There is no cost for my services: There is always a cost. Yes, advisors can be paid by hidden commissions and fee trails that you never see on your statements. But those same “free” approaches sometimes entangle you with exit fees and embedded fees which significantly reduce your investment results.
- You don’t understand what they are saying: All advisors should take the time to educate you. You just trusting them isn’t enough.
- The answer to every question is an annuity: Product salespeople sell annuities. Advisors provide advice, coaching, planning, tax strategies, allocation and investments strategies, income strategies, and legacy strategies.
- It is unclear what the service process looks like going forward: Ideally you don’t purchase products but engage an advisor in services. If there’s is no description of how you will continue to work together in the future, your “advisor” will most likely just move on to sell “the product” to the next person.
Things to Keep in Mind
As you begin searching for a new advisor, be mindful of the following points:
- Everyone without a plan ends up somewhere. Starting with a financial plan is best. Think of the plan as a major long-term investment. Jumping in and allocating your assets without considering your long term objectives can often end in frustration as the gyrations of your investments and the markets become a short-term focus, rather than part of the long term plan. The real value of planning is, generally, not realized in the first month(s) of the effort. It’s true. Advisor don’t wave a magic wand and get instant results. Instead, they should help you create a long term plan to execute against and adjust for factors and opportunities that arise as you prepare for and transition into retirement.
- Allocating investments without creating a comprehensive financial plan is a no-no. Investigating social security decisions, pension options, Roth conversion strategies and other legacy strategies is often key to maximizing your income in retirement . Your portfolio need to compliment your other income streams in retirement.
- Not all advisors have achieved equally. Some are flat broke. Others have accumulated some wealth through the services they provide. Still others have accumulated wealth via their own long term planning and investing process. Know how your advisor got to where they are.
- Find someone that can clearly articulate their introductory, planning, investment and ongoing service process. Look for an advisor that defines his/her scope of services, and takes the time to educate you. Talk to more than one advisor if necessary.
- Financial planning is important. Do it. The point of your working and saving is money is (usually) so you can achieve an attractive lifestyle in retirement. Saving is good, but without your money working it’s hardest for you, goals may remain elusive if not unreachable.
- Engaging an advisor is best. You may be thinking, “Can’t I just create and execute my plan on my own?” A tiny percentage of people have the time, patience, knowledge, interest, access to tools and experience to do their own planning and investing. Comprehensive planning can yield you better overperformance, save significant time and increase your retirement confidence exponentially. Even a person who “knows a lot about investing,” will be hard-pressed to outperform a good advisor if they try to go it alone, and they’ll never achieve the same level of confidence.
People of all ages that engage a competent advisor should have a high return on investment, not limited to financial results alone. The benefit of selecting an appropriate and competent advisor can provide many years of benefits both now and down the road. Those approaching retirement may have the most to gain, given the significant number of decisions and determinations necessary as they make a significant one-time transition.
Please Note: Speak to your tax, legal or financial advisor for specific advice about your particular plans and situation.
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