There exists a simple but undeniable truth in the financial consulting and wealth preparing industry that Wall Street offers kept as a “dirty little secret” for years. That dirty little, plus nearly always overlooked secret is THE WAY YOUR FINANCIAL ADVISOR IS PAID DIRECTLY AFFECTS THEIR FINANCIAL ADVICE TO YOU!
You want, and deserve (and consequently SHOULD EXPECT) unbiased economic advice in your best interests. But the truth is 99% of the general investing general public has no idea how their economic advisor is compensated for the guidance they provide. This is a tragic oversight, however an all too common one. There are three basic compensation models for financial advisors – commissions dependent, fee-based, and fee-only.
Commission Based Financial Advisor – These experts sell “loaded” or commission paying out products like insurance, annuities, and loaded mutual funds. The commission rate your financial advisor is earning on your transaction may or may not be disclosed for you. I say “transaction” because which is what commission based financial advisors do – they facilitate DEALINGS. Once the transaction is over, you may be lucky to hear from them again because they’ve already earned the bulk of whatever commission they were going to earn.
Since these types of advisors are paid commissions which may or may not be disclosed, and the amounts may vary based on the insurance and expenditure products they sell, there is an inherent conflict of interest in the financial advice given to you and the commission these financial experts earn. If their income is dependent upon transactions and selling insurance and investment products, THEY HAVE A FINANCIAL INCENTIVE TO SELL YOU WHATEVER PAYS THEM THE HIGHEST COMMISSION! That’s not to say generally there aren’t some honest and ethical commission based advisors, but obviously this identifies a conflict appealing.
Fee Based Financial Advisor – This the real “dirty little secret” Wall structure Street doesn’t want you to know about. Wall Street (meaning the companies and organizations involved in buying, offering, or managing assets, insurance and investments) has sufficiently blurred the particular lines between the three ways your own financial advisor may be compensated that 99% of the investing public believes that hiring a Fee-Based Financial Consultant is directly correlated with “honest, ethical and unbiased” financial advice.
The reality is FEE-BASED MEANS NOTHING! Think about it (you’ll understand more when you learn the 3rd type of compensation), all fee-BASED means is that your financial advisor can take charges AND commissions from selling insurance plan and investment products! So a “base” of their compensation may be associated with a percentage of the assets they deal with on your behalf, then the “icing on the cake” is the commission income they can potentially earn by selling you payment driven investment and insurance items.
Neat little marketing trick correct? Lead off with the word “Fee” so the general public thinks the payment model is akin to the likes of lawyer’s or accountants, then add the word “based” after it to cover their tails when these advisors sell a person products for commissions!
FEE ONLY Financial Advisor – By far, the most appropriate and unbiased way to get financial advice is through a FEE-ONLY financial advisor. I stress the word “ONLY”, because a truly fee ONLY monetary advisor CAN NOT, and WILL NOT accept commissions in any form. A Fee-ONLY financial advisor earns FEES by means of hourly compensation, project financial preparing, or a percentage of assets handled on your behalf.
All fees are in monochrome, there are no hidden forms of payment! Fee-Only financial advisors believe in FULL DISCLOSURE of any potential issues of interest in their compensation and the financial advice and guidance provided for you.
Understanding the conflict of interest in the economic advice given by commission based brokers enables you to clearly identify the conflict of interest for fee-based financial experts also – they earn charges AND commissions! Hence – FEE-BASED MEANS NOTHING! There is only one true way to get the most unbiased, honest and ethical advice possible and that is through a financial advisor who believes within, and practices, full disclosure.
Commission payment and Fee-Based financial advisors typically don’t believe in or practice full-disclosure, because the sheer magnitude of the the particular fees the average investor/consumer pays would certainly surely make them think twice.
Consider for any moment you need to buy a truck specifically for towing and hauling heavy a lot. You go to the local Ford dealership plus talk to a salesperson – that salesperson asks what type of vehicle you’re interested in and shows you their line of vehicles. Of course , to that salesperson who earns a commission when you buy a pickup truck – ONLY FORD has the correct truck for you. It’s the best, it is the only way to go, and if you don’t purchase that truck from that salesperson you’re crazy!
The fact is Toyota can make great trucks, GM makes excellent trucks, Dodge makes great trucks. The Ford may or may not be the best truck for your needs, but the salesperson ONLY teaches you the Ford, because that’s All of the salesperson can sell you and make a commission from.
This is similar to a commission based financial advisor. If they sell annuities, they’ll show you annuities. If they sell mutual funds, almost all they’ll show you is commission spending mutual funds. If they sell insurance coverage, they’ll tell you life insurance is the means to fix all of your financial problems. The fact is, when all you have is a hammer… everything appears like a nail!
Now consider for the moment you hired a car buying advisor and paid them a flat fee. That advisor is an specialist and stays current on all of the new vehicles. That advisor’s only incentive is to find you the most suitable truck for you, the one that hauls the most, tows the best, and is clearly your best option available. They earn a charge for their service, so they want you to be happy and refer your family and friends to them.
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They even have special preparations worked out with all of the local car dealerships to get you the best price on the truck read that right for you because they want to add value to your relationship with them.
The analogy of a “car buying advisor” is similar to a Fee-Only financial planner. Fee-Only financial advisor’s use the best accessible investments with the lowest possible price. A Fee-Only financial advisor’s only incentive is to keep you happy, in order to earn your trust, to provide the perfect financial advice and guidance using the most appropriate investment tools and planning practices.
So on one hand you have a vehicle salesperson who’s going to earn the commission (coincidentally the more you buy the truck the more they earn! ) to sell you one of the trucks off their lot. On the other hand, you do have a trusted car buying advisor who shops all of the vehicles to find the most appropriate one for your specific needs, and then because of his relationships with all of the car dealers can also get you the best possible cost on that vehicle. Which would you prefer?
Truly unbiased financial advice plus guidance comes in the form of Fee-Only financial planning. You know exactly what you’re paying and what you’re getting in come back for the compensation your Fee-Only economic advisor earns. Everything is in monochrome, and there are no hidden agenda’s or conflicts of interest in the tips given to you by a true Fee-Only financial advisor!
The fact is unfortunately less than 1% of all financial advisor specialists are truly FEE-ONLY. The reason for this particular? There’s a clear and substantial disparity in a financial advisor’s income created through commissions (or commissions and fees), and the income a financial advisor earns through the Fee-Only model:
Example #1 – You just changed employment and you’re rolling over a $250, 500 401k into an IRA. The commission based advisor may market you a variable annuity in your IRA (which is a very poor planning approach in most cases and for many reasons) and earn a 5% (or many times more) commission ($12, 500) and obtain an ongoing, or “trailer” commission associated with 1% (plus or minus) equal to $2, 500 per year. The Fee-Only financial advisor may charge you the fee for retirement plan, an hourly fee, or a percentage of your portfolio to manage it. Let’s say in this case you pay a $500 pension plan fee and 1 . 25% of assets managed (very typical for a Fee-Only financial advisor with this situation). That advisor earns $250 plus $3, 125 ($250, 500 * 1 . 25%) or COMPLETE COMPENSATION of $3, 625 : FAR LESS THAN THE $15, 000 THE COMMISSION (or Fee-Based) financial consultant earned! In fact it takes the Fee-Only financial advisor over four years to earn what the commission (or fee-based) advisor earned in one year!
Example #2 – You’re outdated and managing a $750, 000 home egg which needs to provide you revenue for the rest of your life. A fee-based economic advisor may recommend putting $400, 000 into an single premium immediate annuity to get you income as well as the other $350, 000 into a fee-based managed mutual fund platform. The annuity may pay a payment of 4% or $16, 000 and the fee-based managed mutual finance portfolio may cost 1 . 25% for total compensation of $20, 375 first year (not including the “trailer” commissions). The Fee-Only advisor would possibly shop low load annuities for you, possibly put the entire profile into a managed account, possibly look at municipal bonds, or any other variety of options available. It’s hard to say just how much the Fee-Only advisor would generate as their largest incentive is to keep you the client happy, and provide the best preparing advice and guidance possible for your circumstances. BUT , in this case let’s just assume that a managed mutual fund profile was implemented with an averaged cost of 1% (very common for that degree of assets), so the Fee-Only financial advisor earns roughly $7, 500 each year and it takes that financial advisor THREE YEARS to earn what the fee-based financial advisor earned in ONE 12 MONTHS!
The prior examples are very common in the current financial advisory industry. It’s unlucky that such a disparity in income exists between the compensation models, or even there would likely be many more really independent and unbiased Fee-Only monetary advisors today!
Now consider to get a moment which financial advisor works harder for you AFTER the initial consultation services an planning? Which financial advisor must consistently earn your believe in and add value to your economic and investment planning? It’s obvious the financial advisor with the most to reduce is the Fee-Only advisor. A Fee-Only financial advisor has a direct lack of income on a regular basis from losing a client.
The commission or fee-based economic advisor however has little to shed. You can fire them after they have already put you in their high commission products, and as you can see from the good examples they’ve already made the majority of the income they’re going to make on you as a client. They have little to gain by ongoing to add value to your financial plus investment planning, and little to reduce by losing you as a customer.