When shopping for a financial advisor, it can be overwhelming trying to narrow down all the available choices. There are so many options – should you go with a big-name bank, a small firm, or maybe an individual advisor with their own business? There will be many differences between the kinds of advisors you will encounter but I think the most important considerations are how they are compensated and what their education / experience is.
When it comes to compensation, most advisors will fall into two distinct compensation models – fee-only and fee-based. Many people are confused about what the differences are between the two because they sound so similar, but there are some key distinctions.
Fee-only financial advisors are compensated strictly in the form of fees charged directly to the client. The fees for financial planning or consulting services are often in the form of a flat fee or an hourly rate. Investment management service fees are generally based on a percentage of investments under management calculated using a graduated table. Fee-only advisors are Registered Investment Advisors at the state level or with the U.S. Securities and Exchange Commission (SEC). They are generally not associated with broker/dealers and or insurance companies.
Fee-based financial advisors also receive payment using the same methods as fee-only advisors and are also Registered Investment Advisors, however they are affiliated with broker/dealers and or insurance companies. This relationship allows them to also earn commissions from selling products such as insurance, annuities, mutual fund shares, and other securities. This distinction between the fee-only and fee-based compensation models raises some additional questions you will want to think about when deciding which type of advisor to work with.
One question I would ask myself is – are you receiving the financial advice without any conflicts of interest? One of the major advantages of working with a fee-only advisor is due to their compensation model they have no inherent conflicts of interest and can therefore provide unbiased and objective advice. In contrast, a fee-based advisor may have difficulty providing this same level of advice due to the potential conflict of interest their compensation model creates. A fee-based advisor may be inclined to recommend the purchase of a specific product to get a commission even though there may be better choices available for the client. Since fee-only advisors don’t receive any commissions, this scenario would be very unlikely to occur.
Another question to ask is – does the advisor act with a fiduciary duty? Many people mistakenly believe that financial advisors are always operating as fiduciaries, which means that they are acting solely in their clients’ best interest. Fee-only advisors typically uphold only a fiduciary standard. Fee-based advisors also uphold a fiduciary standard, however at times they do operate under a suitability standard instead and it is not always apparent which standard they are using. The suitability standard does not obligate the advisor to put the client first if the advice is suitable for the client based on their specific situation. This does not mean that fee-based advisors do not care about their clients, but their compensation model increases the likelihood of them taking more risk to get a commission, with the client being the one who will bear the cost of the additional risk.
The other difference between advisors that I would consider is the kind of educational background and professional certifications the advisor has. Does the advisor have a degree in finance or something related? What professional certifications do they have? Financial advising has become a very popular second career for people and you will want to make sure your advisor has the necessary knowledge in order to provide you with proper advice. There are many designations you will see but some are better than others. The ones I consider the best include:
CERTIFIED FINANCIAL PLANNER ™ (CFP) – This certification is the gold standard for professionals working in the financial advising profession. In order to obtain this mark, one must complete educational coursework, pass a 6-hour long exam administered by the CFP Board, fulfill an experience requirement, and one must follow a code of ethics. Continuing education is required to maintain this certification.
Certified Public Accountant (CPA) – This well-known designation also requires specific educational accomplishments, passing a 2-day exam, an experience requirement, as well as adhering to a code of ethics. The CPA exam includes many areas that are also on the CFP exam such as tax, financial statements, and investment topics. Once licensed, individuals are required to obtain continuing education to maintain their licensure.
Chartered Financial Consultant (ChFC) – This designation is like the CFP but the avenue to obtain it is different. It requires education and experience but does not include having to pass a comprehensive exam. It does require the consultant to receive continuing education to maintain it.
By asking the right questions, it is possible to ensure you will find the right advisor to work with. There are also several online resources available to help you in your search.
The SEC has a section on its website where you can search for specific firms or individuals. The database will provide the firms’ Form ADV which is required to be filed by most investment advisors and contains information you can review about the firm. The address is https://www.sec.gov.
Another site you can visit is the Financial Industry Regulatory Authority (FINRA) which is an independent organization that works with the SEC to provide oversite of the brokerage industry. You can use their BrokerCheck tool to research firms or individuals. The address is https://www.finra.org.
If you are interested in finding a fee-only financial advisor, you can check Fee-Only Network (https://feeonlynetwork.com) or the National Association of Personal Financial Advisors (NAPFA) https://napfa.org.
Deborah Hobart, CPA is a Financial Advisor at Blue Water Capital Management, LLC, a fee-only financial advisory firm in Apex, NC.
