How are you compensated for your work? If you are like most working professionals, your main form of compensation is a weekly or bi-monthly paycheck dropped into your bank account. Other forms of compensation may include benefits like health care and vacation time, overtime, bonuses, stock options, or 401(k) matching programs.
For financial advisors, the compensation structure works a little differently. Certain types of financial advisors might still collect a paycheck if they’re working under the umbrella of a larger firm, but most advisors are compensated based directly on the work they perform for the clients they serve.
If you’re looking for a financial advisor to plan your retirement or manage your wealth, keep an eye on the structure of their compensation. How an advisor gets paid gives you a hint on how they’re likely to advise you on your financial affairs. If you’re looking for an advisor that will only act in your best interests, you’ll want to focus on the type of payment they expect from you.
Different Structures for Different Types of Advisors
It would certainly simplify matters if all financial advisors were compensated in the same manner, but that’s simply not the case. Financial advisors have two main ways of receiving payment for their services – fees and commissions. But of course, not all advisors charge their clients the same fees and/or commissions.
Some financial advisors will charge both fees and commissions, while others will charge a fee based on the type of service provided, length of time spent on the service, or the amount of money they handle for the client. The type of advisor you employ usually goes a long way toward determining their compensation structure.
For example, fiduciary financial advisors are held to a very strict ethical standard regarding investment advice and decision-making. It’s unlikely a fiduciary advisor will charge a commission since they can only recommend investments and products that are in your best interest. Conflicts of interest are big-time no-no’s in the world of fiduciary advisors.
On the other hand, non-fiduciary financial advisors must only meet a suitability standard. Investments and recommendations must still fit the clients’ goals and risk tolerance, but they don’t necessarily need to be the cheapest or most liquid option for the investor.
And if two funds are presented and one earns the non-fiduciary advisor a higher commission, you can bet on which will be recommended. How do financial advisors charge their clients? A good question to ask your advisor.
Fee-Only and Fee-Based Financial Advisors
A fee-only financial advisor is often your best bet for sound financial advice and the peace of mind that comes with knowing your money is in the proper hands. Fee-only advisors charge fees for their services and only fees – no commissions are earned from recommending certain investments or products to the client.
Fees do come in different shapes and sizes, however. Here are the three most common types of fees advisors charge for services:
- Flat Fee – The client is charged a single fee per service used through the advisor. For example, a CERTIFIED FINANCIAL PLANNER™ (CFP®) may charge a flat, one-time fee for developing a financial plan for an individual client. Or they may charge a one-time fee to review an already established portfolio and make investment recommendations.
- Recurring Fee – Some financial advisors will charge an hourly rate, much like a psychologist (there may be some overlap in these professions). If you meet with the advisor for four hours discussing a financial plan, you’ll be billed for four hours of service. Another type of recurring fee arrangement is a retainer fee, where the client has the advisor on standby just in case a financial situation arises.
- Percentage of Assets – If you want a financial advisor to handle your investments and buy/sell on your behalf, they may not charge a flat or hourly rate, but instead charge a percentage of the assets they will control.
For example, an advisor who handles a portfolio for a client may charge 2% on the assets under management (AUM). AUM fees are a good way to keep client and advisor goals aligned because the better the portfolio performs, the more the advisor takes home.
A fee-based advisor can charge similar fees to these, but also make money from their firm or outside company by recommending certain funds or investment products. Fee-only advisors are almost always fiduciaries, but fee-based advisors may not be. Be sure to understand whether your advisor is held to a fiduciary standard or not before hiring them.
Commission-Based Financial Advisors
Commission-based financial advisors sometimes charge fees, but usually, their income derives from the commission they earn for recommending specific investments or products. Naturally, the first thing that comes to mind when thinking of commissions is CONFLICT OF INTEREST and it’s true that most commission-based financial advisors don’t need to recommend the best possible options, they just need to recommend suitable ones.
For example, a financial advisor who works on a commission-based structure will likely earn compensation for recommending investments from a specific fund family or insurance carrier, even if a similar fund at a different fund family has a lower expense ratio. It may not cause direct harm to a client’s nest egg or financial well-being, but it could shave a little off the returns that compile over the years.
Why would a client choose a commission-based advisor over a fee-only advisor? The overall cost is the main concern. Commission-based advisors on average take home less pay than their fee-only brethren, so the upfront costs to clients could be lower.
Fee-only financial advisors often cater to higher net worth clients and can charge more for their services due to their education and background. A commission-based advisor often deals with clients who have limited financial knowledge and simply want help getting started.
If you can afford the services of a fee-only fiduciary advisor, you should go that route. The advice you receive won’t just be free from conflicts of interest, but it’ll provide you with the peace of mind to sleep easy at night knowing your hard-earned money is incapable and trustworthy hands.
Certified Financial Planners™ at Advanced Retirement Strategies
Working with a Certified Financial Planner™ is an excellent investment of your time and money. With the high standards for CFP® certification, you’ll know you’re getting the expertise and knowledge of a highly-trained and educated professional who will always act in your best interests and with the loftiest ethical standards.
The team of retirement planners and investment advisors at Advanced Retirement Strategies in Bountiful, Utah includes two Certified Financial Planners™ who specialize in helping diligent savers with $250,000 or more of investment and retirement assets (not counting your primary residence) prepare for and then transition into retirement.
If you’re looking for a CFP® to help you live the retirement you have dreamed of, contact us today.