Financial advisors can be categorized based on several factors. Some advisors work independently, while others are employed by firms or banks. Some financial advisors may only extend their services to high-net-worth or ultra-high-net-worth individuals. In contrast, others may take on all types of clients. But the real difference often lies in how a financial advisor gets paid. Many financial advisors charge based on your Assets Under Management (AUM) and take a percentage of your portfolio’s worth each year. Other professionals may operate on a fee-based model where they charge a flat fee with commissions from the products they recommend. Some only stick to a fixed fee charged by the hour or according to the services they offer.
This article breaks down what fee-only financial advisors are and how they work to help you decide if they are the right fit for you.
What is a fee-only financial advisor?
A fee-only certified financial planner earns their income solely from the fees they get from their clients in exchange for their professional advice on different aspects of financial planning. These types of financial advisors differ from commission and fee-based financial advisors as they do not charge a commission or referral fee for recommending financial products like investments, savings accounts, brokerage accounts, etc.
While they do not charge commissions, the way fee-only financial advisors earn money can vary from professional to professional. Some financial planners may charge an hourly rate for the services they provide. In this case, you can pay the professional for every meeting you have with them. This is similar to hiring a tutor or a psychologist, where you simply pay for the time spent with the professional. Some types of fee-only financial planners may charge a flat fee for a specific service, such as retirement planning, investment management, or budgeting. For instance, an advisor may charge $3,000 to create a comprehensive retirement plan. This would be a one-time fee that you would pay for the service with no recurring costs for every meeting you have with them. In many cases, fee-only advisors also charge a percentage of the assets they manage for you. This can vary based on your portfolio’s composition but generally ranges around 1% to 2% annually. For example, if your portfolio is worth $100,000 and the financial advisor charges 1%, you would pay $1,000 per year for ongoing professional guidance throughout the year.
Unlike other types of financial advisors, a fee-only financial advisor does not receive any commissions, referral fees, or additional compensation from their clients. There is no commission fee for recommending a product. There are also no bonuses from the company whose products they recommend. This makes fee-only advisors stand out for their transparency. There are no hidden charges that clients need to worry about. This, in turn, lowers conflicts of interest between both parties and leads to a more stable and honest professional association.
Fee-only financial advisors also carry a fiduciary duty. They are legally bound to act in the best interests of their clients at all times. This ensures that the money you invest with them is put towards your financial goals. It does not serve the financial planner or any other third party’s interests. Fee-only financial advisors offer trust and clarity, and you know exactly how much you are paying and what you are paying for. Most fee-only financial advisors are Registered Investment Advisors (RIAs), registered with either the U.S. Securities and Exchange Commission (SEC) or a state-level regulatory body. They may also have other certifications and professional credentials like Certified Financial Planner (CFP) or Chartered Financial Analyst (CFA), both of which require adherence to fiduciary standards.
Pros of hiring a fee-only certified financial planner:
1. Simplified cost evaluation: Hiring a fee-only financial planner ensures a transparent fee structure. They charge straightforward fees for their services. Clients do not have to worry about hidden fees or agendas and can avoid overpaying for services they might not want or need. For instance, with a commission- or fee-based financial advisor, you might never be entirely sure if a recommended product genuinely fits your needs or simply benefits the advisor’s bottom line. Clients working with a fee-only financial advisor rarely have this doubt. Their earnings are generated from the fees you pay, which are pre-fixed. Their recommendations are generally not biased, and they are not driven by a financial incentive to sell a specific product or service. This clarity and transparency simplify the process of evaluating costs and gives you peace of mind.
2. Assurance of fiduciary duty: Fee-only financial advisors are bound by fiduciary duty, which mandates them to put your financial and personal interests above their own. So, the advice you receive from them is unbiased and based solely on your financial goals, risk appetite, age, and income. Unlike other types of financial advisors who may receive commissions for recommending products, fee-only financial advisors operate independently and are not influenced by personal agendas. This helps create a more balanced and fairer fee model where your individual interests are prioritized. You are less likely to pay for products that do not add value to your portfolio. This ultimately saves you money in the long run.
3. Possibility of a long-term association: With fewer conflicts of interest, this financial advisor compensation model is more likely to result in a long-term association with their clients. Clients are likely to stick with the same financial advisor, knowing they are being offered a transparent and just fee structure. Working with the same financial advisor for years can result in better advice tailored specifically to you. You will also feel more comfortable sharing your personal financial details with someone you know more intricately. This results in genuine, long-term professional partnerships where both the financial advisor and the client benefit equally.
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Cons of hiring a fee-only certified financial planner
1. Not suitable for clients with smaller accounts: Clients with small portfolios may find it hard to find fee-only planners. Since these planners usually take a percentage of the assets they manage for the client, they find it more lucrative to hire clients with big accounts. Fee-only wealth management for high-net-worth individuals turns out to be more financially rewarding for these advisors.
Imagine a scenario where a fee-only financial advisor charges a 1.5% annual fee to manage a portfolio of $500,000. In this case, the yearly fee would amount to $7,500. This fee typically covers ongoing portfolio management, regular meetings, etc. It may also include additional investment management services like tax planning. Managing an account of this size is financially viable for the financial advisor because the fee compensates for the time and expertise required to provide personalized financial guidance for such a big account. Now, consider a different scenario where the client has fewer assets. If the portfolio is only $100,000 and the financial advisor still charges the same 1.5% fee, the yearly cost would be $1,500. While this fee might still seem reasonable to the client, it may not provide the financial advisor with enough money to justify the time spent on the client with a smaller account.
2. Limited focus: A fee-only financial planner may sometimes have a narrow focus on managing your assets. Since they charge a percentage of the assets they manage, their primary focus tends to be on growing and preserving your portfolio. This can sometimes lead to a conflict of interest. For example, if you want to sell some of your investments to pay down debt or make a large purchase, a fee-only financial advisor may be against such a move. Selling investments will reduce the assets they manage, which could result in a loss of income for the financial advisor. So, their financial interests might not always align with your immediate financial needs. Another limitation is that fee-only financial advisors may not be well-equipped to offer product recommendations, such as insurance products. They will not be able to provide guidance on things like life, health, long-term care, or disability insurance. If your financial plan requires such coverage, you may need to seek a different professional for that advice, which can lead to increased costs.
How do you select the right fee-only financial planner?
Even if you decide to hire a fee-only financial planner, you still need to choose from three types – the AUM model, the hourly rate model, and the flat-fee model. Each of these can suit different people and purposes. Here’s how you can select the right one for your needs:
1. AUM model: If you select this model, the financial advisor will charge a percentage of your investable assets. This can typically range between 1% and 2% annually. However, as highlighted above, financial advisors who follow this model may prefer taking on clients with bigger portfolios as it helps them earn more. This makes this model ideal for individuals with significant portfolios who require ongoing investment management and comprehensive planning. For example, a high-net-worth individual with a $1 million portfolio can work with a financial advisor charging 0.75% of AUM. In this case, the client would pay $7,500 annually, which would cover various areas of investment management, such as asset allocation, risk management, and tax planning. This model may not be suitable for those with smaller portfolios or limited needs.
2. Hourly rate model: The hourly rate model can be suitable for those who need assistance with specific issues and are looking for a more affordable option. For instance, if you need a financial advisor to review your debt reduction plan, you can simply hire a professional for a two-hour session. Say the financial advisor charges $200 per hour. You can pay $400 to have the professional look over your plan and offer their professional insights. Once your concerns have been addressed, you may not need to see them again for many months. This can be cost-effective as well as convenient for busy individuals.
3. Flat fee model: The flat fee model can be suitable for people who prefer to pay a pre-fixed fee. This model offers a one-time payment for ongoing guidance. However, it is not fixed to your assets’ value as in the case of the AUM model. If you need consistent assistance for goals like retirement planning, budgeting, family financial planning, etc., this can be an ideal choice. The fee, even though flat and pre-fixed, can be negotiated depending on the number and type of services you select. You can pay a monthly fee, similar to a subscription model. This can make it easy to budget for your monthly expenditures. This type of compensation model can also be suitable for young individuals who are starting out and need ongoing assistance on multiple matters. For instance, you can pay $200 monthly for guidance on budgeting, debt repayment, and investment planning, all together. Over a year, you would end up spending $2,400, which turns out to be relatively easier on the pocket.
To conclude
It is essential to understand that while a fee-only financial planner can provide many advantages like transparency, fewer conflicts of interest, and peace of mind, they may not be suitable for everyone. If you are looking for a professional to manage a small portfolio, you may find it hard to find a fee-only planner. Additionally, these types of advisors may lack expertise in specific products like insurance plans. Nevertheless, they can be suitable for young individuals who require hourly assistance, people with large portfolios, or those looking for affordable and streamlined options. Having said that, you must understand the various compensation models and select an advisor you can comfortably accommodate in your budget.
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