Lots of smart people are still pretty confused by financial advisors. Often they don’t know what questions to ask the advisor to get the information they need. You may receive phone calls asking about financial goals, but which may really only be cover for sales pitches designed to generate commissions for selling a mutual fund or other product.
This article will outline questions to ask a financial advisor, help to evaluate robo advisors, and help you identify a red flag or two to make the task of finding a financial advisor easier, whether you want to work on personal finance, estate plans, explore your risk tolerance, or just focus on your financial situation or building your net worth.
For a more detailed whitepaper on this subject, along with other questions and a simple assessment to score your current or a potential advisor, click here.
While some financial planners will work for a flat fee or hourly rate, many others work on a commission or fee on assets under management basis. Most if not all financial professionals have conflicts of interest, but the best will try to minimize them and make sure you know about them.
Certified Financial Planners (CFP®’s) – many of whom work for commission broker dealers – are multidisciplined professionals who specialize in general financial planning. Chartered Financial Analysts® (CFA®s) are investment specialists.
As you search for an advisor, make sure you ask about their investment philosophy to make sure it resonates with your own, and also make sure you ask the important question – and get the answer in writing! – “please tell me exactly how much you get paid and all the ways you can make money on me!”
In a field every bit as complicated as medicine or law, it is still pretty amazing that the only regulatory requirements to “practice” financial advice are basic licenses which can be acquired in only a few weekends of study without any background in finance required.
Financial advice is one of the most confusing services consumers purchase. Sadly,
it remains very difficult to tell the difference between highly trained, ethical and effective advisors, and charming salespeople who may or may not be able to effectively grow and protect your family’s wealth.
This post is intended to help to clear the mystery and share some easy guidelines to ease your decision, and help determine which advisor can best suit your needs, and whether your existing advisor makes the grade, or if you should consider replacing them. We believe there are eight critical factors, which we call the 8 Keys to a Great Advisor. They are:
1. Do they put you – or themselves – first?
2. How expert? Are they highly trained and educated in wealth planning?
3. Are they tax savvy to conserve your wealth?
4. Is compensation clear and fair?
5. Do they offer quality advice and planning, or just products?
6. How severe and obvious are conflicts of interest?
7. Is there regulatory disciplinary history of fines, suspensions, complaints, or other misconduct? ?
8. Do they have any respectable third party recognition of excellence?
For a more detailed whitepaper on this subject, along with other questions and a simple assessment to score your current or a potential advisor, click here.
Avoid Mistake #1 – Make sure they’re a fiduciary
Fiduciaries are legally required to put your interests ahead of their own, and to have a sound basis for all of the advice they give you.
“Suitability” standard advisors – and this includes the vast majority of stockbrokers, bank reps, insurance agents, financial planners, and others who use the term advisor – typically do not!
Most people don’t know the difference, and many “advisors” are happy to let investors think their interests are first when really they are not. Make sure the advisor is acting in a fiduciary capacity on all investment advice they give you – and get it in writing!
Avoid Mistake #2 – Don’t deal with the poorly trained!
Perhaps surprisingly, it is very quick and easy to become a financial “advisor.’ The government licenses required can be obtained quite rapidly, with very little depth of study or knowledge required. These can typically be passed by a person of average intelligence with just a few weeks’ preparation.
To my mind, the first basic step on the long road to financial expertise is the Certified Financial Planner™ (CFP®) or the Chartered Financial Consultant® (ChFC®). This is not the be-all, end-all, but the very first exposure to fundamentals – financial planning procedure, investments, income tax, retirement planning, estate planning, and insurance/risk management – which must be refined and internalized with later, more advanced study.
After the basic credential, truly expert knowledge can by gained via specialized, and more advanced designation programs.
For tax, the CPA, E.A. (an IRS credential requiring three advanced tax exams) and some masters in taxation (such as the MTAX) hone this area; but note that only attorneys, CPA’s and E.A.’s may represent taxpayers before IRS.
The bottom line is you want someone who is very extensively trained in multiple areas to help coordinate the extremely complex decisions you face to make the best financial moves.
The FINRA licenses like Series 6, 7, and 65/66 teach very little.
The CFP® or ChFC® is a start. The CFA® is very good for investments and nearly academic-grade. And there are beginning to be enough folks with Masters and even Doctorates in Financial Planning that you should consider seeking them out.
Avoid Mistake #3 – Make sure they’re tax savvy!
For many people, taxes are the single biggest obstacle to building wealth faster, which stands to reason since a huge percentage of annual income, that could be saved and invested, often evaporates to taxes instead.
Unlike much else in life, with taxes it’s not who you know, but what you know! And there’s a lot to know – so much that various studies conclude that even IRS employees only understand between 55% and 83% of basic tax facts.
Great complexity can breed great opportunity, and “sophisticated taxpayers take advantage of the complexity to find loopholes that lower their tax liability.”*
Unfortunately, many financial advisors do not understand taxes – or even care to – well enough to find the ideas that can help capture some of the huge drain on your family’s wealth potential. This is unfortunate, since the opportunities to legitimately save enormous dollars can be profound, if you know what you are doing and where to look.
No matter how good they may be in other areas, if your financial advisor is ignorant of the best ideas to keep more of your wealth in your pocket, they are making you miss the boat.
*Joel Slemrod, Harvard PhD and Economics Professor University of Michigan (UM), and Jon Bakija UM PhD and Economics Professor Williams College, from the book Taxing Ourselves, MIT Press.
Avoid Mistake #4 – Be crystal clear on what you pay!
Sadly, most investors don’t know how they pay their advisors, and many can even make it look like they work for free. Even when clients know they must be paying something, the human mind will discount what is not obvious, and let itself believe things are better or cheaper than they are.
Make no mistake, however: financial advisors usually make a lot of money. Even when you see a “reasonable” fee of 1% or less, there can be much higher additional costs that are hard to spot and rarely talked about by advisors.
Some common products may charge as much as 5% a year or more in fees that are nearly completely hidden, but perform no better than index funds costing less than 0.2% a year. This is important! The difference in wealth after 20 years with an average return of 7% starting with $500,000 is over one million dollars! (end value of $1,864,000 vs $743,000.)
Also sadly, disclosure – getting stacks and stacks of small print so intimidating that few people read it – often satisfies the legal requirements for a buyer beware marketplace, but leaves consumers almost completely uninformed.
To protect yourself, demand a statement in writing of the various fees, costs, commissions, markups/markdowns, charges, insurance assessments, and other items that may be dragging your wealth down. Don’t accept a box full of disclosure documents – demand a simple one-page explanation of everything you pay, and be very suspicious of those who give you excuses instead of real information.
Avoid Mistake #5 – Buying financial planning, getting sold products
It seems as never before, consumers are concerned about future financial security, confuse by the complexity, and interested in financial advice and planning.
At the same time, the financial/investments industry is still dominated by commissionable investment and insurance products. It seems like advisors and their firms know this, and will typically pitch planning as a way to sell products, sometimes even generating elaborate, colorful financial plans and other (often boilerplate) documents. Unfortunately in far too many cases such plans and planning are cunningly designed sales pitches, intended to promote an understated (or even hidden) product sales agenda.
As above, your best defense is to get it in writing. Get a signed document of exactly what planning services will be performed, and when, and what you will pay. A good time to do this would be when you get the compensation declaration we talked about in Mistake #4.
Avoid Mistake #6 – Avoid fatal conflicts of interest!
Conflicts of interest are inevitable. The key is to try to minimize them so your interests and those of your advisor are reasonably aligned. A good start is to insist on someone who pledges to act as a fiduciary for you – and make sure that what you hire them to do is what you actually need to advance your financial goals!
What I call fatal conflicts occur when:
1. The advisor does not have an obligation to put you first, and can legally make as much money on you – at your expense – as they can by convincing you to buy products you are allowed to believe are best for you.
2. The advisor actually pushes the most profitable products on you to maximize their compensation, often at the request or demand of their employer (which, by the way, is who the owe a fiduciary duty to, not you).
Avoid Mistake #7– Not checking up on the advisor!
We all like to work with people we like and trust. But the untrained look just as nice in a suit as those who have studied for years, and Bernie Madoff was no doubt very charming.
You need to run a background check. Fortunately, this is pretty easy since FINRA maintains a site called broker check (http://brokercheck.finra.org/), and because most (though not all) financial advisors are registered with FINRA, if they are not licensed by FINRA they are probably not licensed to sell or advise on securities, and that itself can be a red flag.
Avoid Mistake #8– Are there 3rd party indications of quality?
Testimonials – client’s comments on satisfaction, etc. – are illegal for investment advisors since 1940 (but legal for suitability investment salespeople – so beware). If they do (like on LinkedIn), this can be a big red flag and you should ask carefully if it is subject to the SEC prohibition on testimonials – if they don’t know what you mean, that’s a concern.
Which means that in many cases, any outside evaluations of advisors may be all you have to go on.
While “best advisor” list rankings and things of that nature are far from perfect, they can at least give you a starting point to screen who you want to talk to and check for other “Mistakes.”
For instance, either me or my firm has been recognized by Barrons, Forbes, the BBB, and a number of other third parties, but it should be noted that even these are generally based on information largely provided by the advisor themselves, with sometimes some additional spot checking by the authority in question.
So in the end, third party recognition is just one more thing to factor into your opinion – in addition to all the others discussed here.
For a more detailed whitepaper on this subject, along with other questions and a simple assessment to score your current or a potential advisor, click here.
