What Are "Fee-Only" Financial Firms and Why You Should Use Them
If you’re considering hiring a financial advisor, I’m sure that you’ve seen the words, “fee-only” more than a few times. Those firms that are fee-only are quick to point it out, and most do an adequate job of describing what exactly that means, albeit in a brief, difficult-to-find-on-their-website manner. Just the other day, a friend of mine was telling me about this great firm he found, but he just couldn’t understand why it was such a big deal to work with a fee-only financial firm. Allow me to give a brief explanation:
Fee-only financial firms are companies that are compensated only by the fees they charge directly to clients. These fees can be hourly, be based on a percentage of your assets they manage, or be based on a flat retainer. In most cases, firms are quite transparent about the means by which they are compensated, and would be most willing to discuss it with you were you to inquire. In the off chance they are not willing to discuss it up front, check their website for their Form ADV Part 2. This document will have methods of compensation on it.
To some, this might seem like a fairly straightforward method of compensation, and you may ask yourself, “What other forms of compensation are there?” That’s when we flip to the other side of the coin, and get to commission based compensation. Firms that are compensated in this manner do not get a fee for your business; instead they receive commissions based on the amount of assets they place in a particular investment vehicle. As an example, let’s say that you have $500,000 to invest. You visit with a commission-based advisory firm (they may advertise they are fee-only), and they recommend investing in A or B - share mutual funds or a fixed or variable annuity to grow your assets and hopefully provide for a secure retirement. It seems like a great plan, until you realize (after the fact) that the advisor is getting a decent percentage of your assets as a commission for investing in specific funds or products, again like annuities and front-end commission mutual funds. Here’s the rub; the advisor is torn between placing your money in the funds or products that earn him or her the highest commission, or placing them where they do you, the investor, the most good.
Obviously, there is a glaring conflict of interest here that you may not be aware of until it’s too late. Can you trust a commission-based financial advisor to place your assets in the right places, even if that means he gets a smaller commission? Are you trusting him or her to only recommend products or services you need, or that are in your best interest, and not his? The answer to this question is, maybe. You might find a good, honest financial planner that owns his own small practice and works directly for the benefit of his clients. Or, you could find yourself working with a huge outfit, speaking to an advisor who is under extreme pressure to meet outrageous sales goals or to boost his own revenue.
To be clear, I’m not saying that all commission-based financial planners, advisors, or their companies are evil corporations that are only focused on making the biggest profit. I am saying that financial advisors are humans, prone to impulses like greed, ambiguity, and corruption, and exposed to pressures to perform well and provide for themselves. To limit the impact these impulses and pressures could have on you and your assets, it seems to us that the most logical path would be to hire the financial advisor, or Certified Financial Planner®, that stands to benefit the most by making sure you, the investor, benefits the most. Fee-only advisors have no angle or ulterior motive when advising you on where to put your money. It is in their interest to make sure that your assets are invested in the manner that best aligns with your goals. Keeping you happy and making sure your goals are achievable should be the chief concern of the fee-only advisor, because his compensation comes in the form of a small percentage of your assets that he manages. While fee-only based advising has pressures of its own, it is in our opinion that it is the most viable and profitable option for potential investors.
If you have any questions about how fee-only or commission based firms are compensated, reach out to us! We’d love to help you understand more about the compensation structure of financial advising firms.