We all want to hire the best financial advisers. The hardest part about hiring a financial adviser is determining how the adviser compares to other financial advisers. There are a number of ways to compare financial advisers.
Financial Adviser Compensation
Perhaps the most telling way to assess a financial adviser is to determine how he or she is compensated.
Financial advisers are compensated in a number of different ways. The financial profession can be divided between fee-only, fee-plus, and commission advisers.
Fee-only financial advisers
Fee-plus financial advisers
- Hiring a Financial Advisor
- Financial Planning Financial Ratios
- Diversification of Investment Assets
Fee-only financial advisors typically charge a flat hourly rate, a flat quarterly retainer rate, or a fixed percentage of investment assets that their firm manages.
The fixed percentage of investment assets under management (AUM) arrangement is most common. AUM advisers believe that they “sit on the same side of the table with clients,” in that the adviser makes more money each year if the client’s portfolio increases in value each year.
While this may be the case, it may also creates some incentive for the AUM manager to invest in traditional investment assets and in high growth investment assets.
Traditional investment assets are those that are managed by the financial adviser, such as stocks, bonds and mutual funds. Traditional investment assets do not include real estate and small business ventures because these assets are typically not held by the adviser’s brokerage company and not managed by the financial adviser.
The flat hourly rate is the second most common fee-only payment arrangement. Flat hourly rate advisers feel that they are truly unbiased because they fully disclose their rate up front.
The problem with hiring flat hourly rate advisers is that they may misstate (either intentionally or unintentionally) the number of hours that a project will take. Thus, clients may end up with larger bills than they expected due to the project requiring more work.
The flat retainer adviser is relatively rare. These financial advisors say that they are in the best position to help clients because they do not have to worry about making less money if the market declines and they do not feel pressure to work through client issues fast so that the client’s bill is lower.
Yet, the flat fee adviser is in business to make money. As such, they will often have to over estimate how much their fee will be so that they know that they will be able to remain profitable.
Commission advisers make money by selling financial products. Financial products include mutual funds, stocks, bonds, insurance, etc.
Commission advisers say that they provide the best fee arrangement because the large financial companies pay them directly for their sales efforts, fees which the financial companies would simply have kept if the adviser worked with a fee-only adviser.
The problem with commission advisers is that the commissions are often very large in proportion to the time and effort that the adviser puts into selling the product. In addition, commission advisers may be biased in selling some products where they are not needed or selling higher priced (and higher commission) products when they know of better lower price (and lower commission) products.
Fee plus financial advisers charge a combination of the fee-only arrangements and commission-only arrangement as previously discussed.
Fee-plus advisers say that they provide the optimal fee arrangement because they charge flat fees, but waive those fees if they earn commissions from financial products clients purchase from them.
The problem is that most commissions are not disclosed and clients have no way of knowing whether the adviser has in fact earned a flat fee and a commission.
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