Choosing a Financial Advisor: What to Look for

As your income and net worth increase, it’s important to surround yourself with a team of professionals with expert knowledge in areas complimentary to your career path. One of those professionals is a financial advisor. Of all the team members, these cost folks the most money. Or certainly have the greatest potential to. And it’s not a “spend money to make money” or “get what you pay for" situation. It’s a cost for the wrong reasons. It’s predatory at times.

There are three primary considerations: Type of advisor, fee structure, and reason for the advisor.

At the end of this entry, I’ll provide a list of questions to ask a potential advisor. Let’s get into the checklist.

TFC CPA Checklist:

• Fiduciary Status

• Fee Structure

• Comprehensive Services

• Communication

• Reputation and Trustworthiness

Credentials – Fiduciary vs Suitability

There are two types of advisors, fiduciary advisors and suitability advisors. Fiduciary advisors have a legal obligation to do what is in your best interest as a client. This is a MUST.

Seek advisors with top-tier certifications indicating fiduciary status such as Certified Financial Planner (CFP), Chartered Financial Analyst (CFA), or Accredited Investment Fiduciary (AIF). Being a fiduciary is a big deal. If they aren’t clearly advertised as a fiduciary, they probably aren’t. These credentials indicate a high standard of expertise and ethical commitment.

Suitability advisors do not have the same standards. Commonly found at Edward Jones, Merrill Lynch, and the similar, suitability advisors resemble commission salespeople. Their recommendations must be suitable for the client.  Suitability is not optimization. Recommendations to invest in proprietary funds may be suitable, but the high fees don’t make this optimal. I won’t drone on about the importance of your team having your best interest at heart.

Prioritize advisors with a good track record. Find advisors accustomed to working with those in your situation. One that takes the time to understand your situation – present and future. This is crucial for self-employed and high net worth individuals.

Fiduciary advisors possess the required knowledge to give you the solutions you desire.

Fee Structure

Advisors commonly charge 1 of 2 ways. A percentage of Assets Under Management (AUM) or a fee-based model. If your advisor charges based on AUM, find a new one.

AUM advisors commonly work at large firms such as Edward Jones and Maryl Lynch. Sound familiar?! Expect fees of 0.5 to 1.5% of AUM. This is significant enough to significantly alter your investment returns.

Not only are you charged a high advisory fee, but these advisors also commonly push proprietary products. This is a commission play by the advisor. Proprietary funds may have an expense ratio of +/- 1%. This equates to an annual cost of 2%.

Here is an image I created for the online course showing the cost of AUM advisors. All 3 portfolios noted market returns (10%) over 40 years. The blue line shows a self-managed account growing to $4.43M over 40 years.

The orange line accounts for 1% fees. This could be a combination of advisor and fund fees that are no longer compounding. This portfolio tops out at $3.38M. A 24% decrease in portfolio over a career thanks to your 1% annual advisor.

Finally, the green line shows a 1.5% fee. This portfolio tops out at $2.95M. A 33% advisory cost.

Portfolio size with 0%, 1%, and 1.5% annual fees

But the expertise of the advisor!? An account managed by a professional would surely outperform. Unfortunately 80-90% of these actively managed funds underperform the market index over a given 10 year period. Try doing that over a career. Don’t think you will get lucky and find the outlier.

Some of the best long-term returns are held by people who forgot their password and those who passed away.

Here is the graph I made for myself. I assumed a combined 1% fee for an advisor and their proprietary funds. The difference of 1% annually is $13.9M and $10M. All over a measly 1% fee.

And $3.9M over 40 years. Age 68 based on when I started my journey. $4M dollars is too significant of a difference for me to stand idly by. What about age 78? Or 88? It’s insane. I just won’t do it.

High Income Portfolio with and without Advisory Fees

I trust my discipline to create and execute a plan. Such as plan can be created by a fee-only Fiduciary advisor.

Fiduciary advisors commonly charge a flat fee unlike their counterparts. It may be $150 per hour all the way up to $500+ per hour depending on their expertise and client load. This sounds significant for a single meeting, but it’s far lower than AUM fees over a career.

A fiduciary advisor does not stand to gain from commission sales. Their recommendations are products that perform well over time and have low fees. Think low-cost, passively managed index funds such as VTI, VOO, and VUG.

They will work to gain your trust and repeated business from the results of their guidance.

It's far superior to spend $500-1,000 on a financial advisor every 5 or 10 years. Hire an advisor to create or adjust your financial plan as you encounter significant financial changes. Events like a windfall income, the sale of a business, or retirement. No need to pay someone to invest in a bunch of fee-heavy mutual funds each month that equate to VTI.

Comprehensive Services

As with every expert, ensure they have conquered their domain and are knowledgeable in complimentary fields. Use this blog or any other reputable source to achieve basic financial literacy. If your advisor encourages universal life insurance, fixed-income products, or mutual funds, know the questions to ask. I have presented data supporting my recommendation of the topic, but everyone’s situation is unique. Basic financial literacy will prevent blind trust.

You likely have a CPA managing the taxes in your life. Ensure your financial advisor and CPA are giving you similar recommendations.

Consider the various tax-advantaged accounts and traditional vs Roth Contributions. Ensure all parties know your retirement plan including income, required minimum distributions, and philanthropic intentions.

Your financial advisor and estate planning attorney need to be cohesive with all things estate planning.

Build your team around managing the complexities of your individualized situation. Your financial planner doesn’t need to be an expert in these other areas, but they should know enough to provide considerations to discuss with the other experts on your team.

Communication

Select an advisor who takes the time to hear your situation and provides multiple avenues for your consideration. Major considerations are net worth, income, cost of living, retirement timeline, future expenses, etc. They will likely inquire about many aspects of your life such as personal aspirations, values, and family dynamics.

Look for an advisory firm that is responsive to your inquiries. It’s ideal to have timely responses to any follow up questions to address concerns quickly.

A popular advisory firm may not have openings in the next day or two. Good firms likely have a significant client load. If so, get a meeting on the books and use the interim to prepare. Preparation will accomplish more during a meeting ultimately saving costs.

Reputation and Trustworthiness

A fiduciary is legally obligated to uphold your best interest. They will recommend investment products they likely have in their portfolio. A great sign of trustworthiness. Check for a clean disciplinary record and strong references. Word of mouth among peers is strong for all professional assistance. Watercooler talk goes a long way here.

Ask about their experience with clients similar to you. You don’t want to be the first high income professional, small business, or multimillionaire to use their services. Be wary if they disclose confidential information about current clients.

Summary

For most readers, it isn’t essential to run out and hire a financial advisor. I would actually argue against advisors early in your career. Seriously, I write this blog as a service to the community. My way of giving back. Of all professional help, a financial advisor is my least recommended advisor.

If you need help managing your finances, read more of this blog or take the online course. A selfish plug when I say the cost of the TFC course is less than you would likely pay for either type of financial advisor. The financial literacy within the course will give you the confidence to manage the day-to-day operations of your personal finances.

It bothers me how many new grad professionals hire an AUM advisor for thousands of dollars annually instead of spending a few hours becoming financially literate. Again, predatory.

The difference in managing $10, $10,000, and $1M is very little. Same strategy, more zeros. If someone is truly determined to remain financially illiterate for a lifetime, any advisor would likely serve you well. Not a strategy I recommend.

I’m not against financial advisors. I’m against financial advisors that cost me $10,000+ per year to underperform the market.

If you are experiencing a unique situation such as the sale of a business, a windfall income, or dealing with an estate, it may be beneficial to speak with a fee based fiduciary advisor. Probably $2,500 well spent.

Avoid AUM advisors in favor of fiduciary fee-based advisors. Find an advisor who is knowledgeable and has your interests as priority number 1.

Use these questions to find an advisor who is proactive, client-focused, and capable of evolving your plan as your financial life changes.

• Fiduciary status and fee structure may be posted online, but if not, ask.

• How do you tailor your recommendations as my life circumstances, goals, and risk tolerance evolve?

• Can you provide an example of how you’ve adapted a client’s plan after a major life event or market shift?

• How often do you proactively review and update client financial plans?

• What is your process for communicating with clients about changes in their goals or circumstances?

• Will you coordinate with my other advisors if my needs change?