Hiring A Financial Consultant
Hiring A Financial Consultant
A WITI member wrote me asking when it might be most appropriate to use a financial planner so I thought I'd offer some suggestions.
Almost anyone can benefit from the advice of a financial advisor just as anyone could benefit from the advice of a seasoned expert in any field of concern.
There are a few specific times when contacting a financial planner is especially important.
- If your situation is complex i.e. you have children from a previous marriage, homes in different states, rental property and/or a high net worth (over 5 million). A CPA and attorney are essential in these situations and a good financial advisor will coordinate their services and make sure everyone and everything is in accordance relative to your set of goals.
- If you donít have the time and/or interest in dealing with all of the complexities of investing. While you can put investing in your 401K plan on automatic, it's helpful to meet with a financial planner to assist you in looking at the big picture. You want to make sure that the amount you're investing today will provide the type of future you want tomorrow. According to the Women's Institute for a Secure Retirement, nearly 40% of older women living alone depend on social security for almost all of their income. You want to make sure you are not part of that statistic.
- Even if you enjoy the work, objectivity can be lost in your own situation. It can be useful to talk to someone who has experience and whose emotions are not involved in decision-making.
Finding the right financial consultant can be a challenge and it's important to understand the common forms of compensation. The vast majority of advisors today still work on a variation of the commission basis which, by definition, presents a potential conflict to interest.
Most insurance products including annuities carry commissions which are sometimes not easy to uncover. Frequently, an agent will tell you that the company, not you, is paying the agent. This is misleading at best. While it's true that your entire check is sent to the company, the agent is compensated out of that money and your final investment is diminished by that same amount or a surrender fee is imposed.
Stock brokers are moving away from getting a commission on every stock or bond you trade and are moving more to "wrap" fees or asset under management (AUM) fees which are a percentage, generally 1.25% - 2.5% of the amount invested. Mutual fund prospectuses must now disclose the amount of "sales charge" involved but it can be difficult to decipher. If you are working with a broker charging AUM fees and are using actively managed mutual funds, you are paying two layers of fees. The vast majority of new clients who come to see me say their previous agent wouldn't clearly outline the costs. If your current advisor tries to skate around the question of costs, (or any questions, for that matter), deal with someone else.
Some financial advisors who are "fee-only" also charge an asset under management fee. While this is a common (and lucrative to the advisor) method of compensation, I think it contains a number of dangers.
When an advisor is compensated in this manner, the focus in the financial planning process becomes the investment portion instead of providing advice on your entire financial picture including cash flow, insurance (risk management), estate planning, tax planning and retirement planning, college planning etc. In other words, the financial planning conversation can be much broader and richer than just numbers.
Your financial planning should include your personal system of values, criteria for spending, the role money plays in your family, and effective methods to handle financial decisions including disagreements. Unfortunately, if the compensation is based on the investment section only, then there is little incentive for the advisor to become skilled in the other important areas of the investigation. It may also inhibit their interest in building skills in financial coaching and other communication skills.
The other major disadvantage to working with an advisor who charges "assets under managementí"fees is that the advisor has to justify their fees or "look as though he/she is doing something" and might want to move an investment more often than prudent. This can be costly, confusing, and wasteful.
I strongly believe in the benefits of investing in index mutual funds (which I will discuss in detail in a future column). These funds have extremely low fees, and when a portfolio is properly diversified the funds shouldnít be changed frequently. There is no reason to pay an advisor 1% or more a year when the investments do not need to be reevaluated or moved. Consequently, some fee-only financial consultants often don't work with index funds for reasons that are not truly in the best interests of their clients.
Fortunately there are a group of fee-only financial planners who work on an hourly basis or a flat retainer basis. This is the most appropriate form of compensation and is the way most professionals in other fields are compensated; you know exactly what you are paying for and exactly what you are getting for your money.
The financial advisors' compensation can make difference in the perspective of the advisor and has a direct impact on your investment's return. You want someone who not only says he/she is working in your best interest but demonstrates it clearly through the definition of your working structure and agreement.
About the Author:
Judi Martindale, (www.judimartindale.com) who has been named as one of Americanís top 250 financial planners for three years in a row by Worth magazine, is the co-author of No More Baglady Fears: A Woman's Guide to Retirement Planning and 52 Simple Ways to Manage Your Money. Her office, a Financial B&B, is located near San Luis Obispo, CA.