Do You Need a Financial Planner: The Pros and Cons
The financial services industry – the guardians of your money, the protectors of your future hopes and dreams – is largely controversial. Some advisors are salespeople with an agenda. Some are pure scam artists. Some are decent planners with good ideas and honest information.
Below is my take of the financial services industry. I work on a daily basis with financial planners. I’ve seen the good and the bad. I personally work with several advisors in different capacities and will touch on that below. Before I get into the details of the different types of advisors and how they’re compensated and what legal liability they have to their clients, let me start by asking you a question.
Advisor Titles
Do you want to be a (and have the title of) Financial Advisor? Or what about Investment Manager, or Financial Consultant, or Wealth Advisor or even Senior Financial Advisor? If you do, I’ve got some great news for you – it’ll only cost you about $10. I just saw a promo from Vistaprint for 500 business cards for $9.99. You see, there’s no requirement or consistency in titles in this industry. So even if you have zero experience and zero educational background in investments or finances, you can legally go out and market and promote yourself as a Senior Financial Advisor.
Now, in fairness, you do have to pass certain exams and have specific licenses to sell insurance products or actual stocks or mutual funds, but just to go out and call yourself a financial advisor? Not one single thing is needed – no tests, no credentials, no specific education or training, no apprenticeship.
There are several insurance companies that have become known as churn-and-burns. They’re basically a revolving door for recent grads. The insurance companies bring on new graduates, tell them they can make a lot of money and show them the flashy suits and cars and all-expense paid trips they can win, and then tell them to make 100 calls a day and within a week they’ve gone through all of their personal contacts 2 or 3 times over. Within 9 to 12 months they’re out of the industry having been completely burned out and not producing enough revenue for the company to keep them on. These are usually the “advisors” who are so desperate they use unsavory / borderline harassing sales tactics.
I’ve had these people reach out to me and I’m sure you’ve had them reach out to you as well. They use Linkedin and Facebook to search your contacts for future people to contact. They contact you every six months even after you say “no” to their initial pitch. They make commission based on selling insurance.
(Obi Wan Kenobi Voice)
“These are not the financial advisors you are looking for.”
Let’s stick with titles for a minute more and then I’ll move on to other inside scoops on the industry. Essentially there are 2 types of “financial advisors”.
One of them receives commissions for selling you a product. See above. The other gets paid a fee for providing advice. The former legally does not have to do what’s in your best interests – they only have to do what’s suitable. The latter will serve as a fiduciary and be legally bound to put your interests first. This is a key difference.
As a side note, there is actually a Department of Labor rule that would require all advisors working with retirement assets to legally have to serve as a fiduciary and put their clients interests first.
You essentially have salespeople and advisors, but you will never be able to tell them apart based on their titles. Oh, and over 85% of “financial advisors” are salespeople and not advisors… makes you feel good, doesn’t it? Now in full disclosure, not all salespeople are bad just like not all fee-only advisors are good. And really, even fee-only advisors have to go out and sell their services and generate new clients, but again, they’re getting paid for their advice, which kind of makes them have to put the clients’ best interests first in order for them to stay clients. The people I work with are all fee-based advisors. Before you sign up with anyone, make sure you understand the fees for your account. If the advisor explains the fee up front, I usually feel good about following through with this type of advisor. If the advisor is murky on fees, put your guard up.
I truly believe people need life insurance and health insurance and those are products bought from someone who is licensed to sell insurance products. So just because someone is a salesperson does not mean they don’t care about their clients or won’t do what’s in the client’s best interests. Many of the advisors tied to an insurance company are highly incentivized to push specific insurance products – whole life policies and annuities in particular – regardless of whether or not it’s the right thing for the client. If you work with these individuals, you will see the same products come up over and over again. Check out policy genius to compare ALL policies instead of policies being pushed by a specific company.
Once again though, you’ll never know what type of advisor you’re talking to based on their title.
Advisor Compensation
Now that we’ve talked about titles, let’s talk about compensation.
The minority of advisors are fee-only meaning that they charge by the hour or per project for financial planning or assets under management (AUM) for investment management. They do not sell insurance or insurance-related products such as permanent life or annuities. For investment management services, the fee is usually 1.0-1.5%, although larger portfolios (those over $1 million in investable assets) typically see a reduced fee.
Again, it’s the minority of advisors that are fee-only. The majority of advisors receive some or all of their revenue by selling products that pay commissions. For instance, a fee-only advisor may charge 1.0% of AUM a year to manage an investment portfolio. They will invest the client in whatever funds they think are best because they won’t be receiving any payments from the funds. A commissioned-based advisor will sell an investment product and typically receive a 5% upfront commission and a 0.25% trailing commission – think of A share class of mutual funds. In these situations, the advisor is usually only going to be able to recommend a limited number of funds – only those that will be able to pay them a commission.
Or they may push for a whole life insurance policy or annuity and receive up to 110% of first year’s premium. If you’re wondering why they’re pushing a $500 a month premium whole life policy, it’s because they could be making $6,600 for selling you that policy.
Some advisors are known as a hybrid, whereby sometimes they get paid for their advice and sometimes they get paid for selling you a product. This allows them to get paid for their advice but still receive commissions for insurance products if and when it makes sense for the client. If you’re working with a hybrid advisor, you just need to ask questions and make sure that what they are recommending is truly in your best interest and not because they may be making 10 or 20 times what they would make if they recommended a different product.
Annuities especially are a very large money-maker for insurance companies – hence their rapid growth the past couple of decades.
The Good
Now that I’ve told you the bad and ugly of the financial services industry, I do want to leave you with some of the good – because this industry serves a legitimate purpose.
True financial advisors, the ones who know what they’re doing, do provide a very valuable service for their clients.
Advisors can provide sound investment advice and craft a diversified portfolio to help a client reach their goals. They can also serve as a behavioral psychologist and prevent the client from moving to all cash when the stock market tanks. There’s a reason the S&P 500 has averaged 10% a year in returns while the average investor averages less than 4%. The average investor usually buys when the market is at all-time highs and sells when it tanks…absolutely the worst investment timing ever.
The good advisors can help clients save on taxes and prepare and overcome obstacles that the client might not even know exist. Advisors can help with Social Security timing, different ways to save for children’s education expenses, or ways to set up a proper estate and minimize taxes and legal fees when they do pass away. Many times, the advisor will help having those difficult financial discussions with elderly parents or ungrateful kids. Advisors can help point you towards life insurance and estate planning.
My biggest piece of advice if you’re looking to work with a financial advisor is to just ask questions. Ask what their background and experience is. Ask how they’re compensated. And if you ever feel like the advisor is not doing what’s in your best interest – find another advisor. It’s your money – not theirs. In fact, when you switch advisors, you don’t even have to contact your old advisor to move the funds!
Stay rational
-B&T