Hiring a financial advisor can be a smart move, from both a financial perspective (optimizing your financial life and building wealth) and a general life perspective (freeing up time while gaining confidence and peace of mind). Unfortunately, the process of finding the right financial advisor isn’t as easy as it should be. In a world where there’s no shortage of options and the bar for being able to call yourself a “financial advisor” is set embarrassingly low, it can be hard to tell the qualified advisors from the unqualified ones. Getting the right information is often about asking the right questions, and in this post, we discuss some of the most important questions to ask when hiring a financial advisor.
1. How are you compensated?
This is the first question you should ask, since it helps you understand what motivates an advisor’s behavior and whether their interests are aligned with yours. Financial advisors are compensated in one of three ways:
- Sales commissions – The advisor receives a commission, either from selling a product (insurance, mutual fund, annuity, etc.) or from trading your accounts. This model increases potential conflicts of interest since the advisor has a financial incentive to give advice that maximizes his or her sales commissions, but not provide ongoing support and advice after a product is sold.
- Fees for advice (fee-only) – The advisor does not sell financial products or receive commissions, but instead is compensated through a fee paid directly by the client. Fee-only advisors charge in different ways, but some of the most common are percentage of the assets being managed, an annual retainer, or an hourly rate. This model reduces conflicts of interest since the advisor is able to give unbiased, objective advice, without a financial incentive to recommend a certain product or strategy.
- A combination of both (fee-based) – It’s important to note that fee-only and fee-based are NOT the same thing. Fee-based advisors can receive sales commissions (in addition to receiving fees for advice).
Any reputable financial advisor should be able to explain clearly, in a couple sentences, how they are paid and how much (in dollar terms) it will cost you to work with them.
2. Are you required to act as a fiduciary 100% of the time?
Fiduciary is a word that gets thrown around a lot in the industry, but in simple terms a fiduciary is someone who is required by law to put your interests ahead of their own. While this may seem like a minimum standard, unfortunately many financial advisors and brokers are not fiduciaries and instead follow what’s called a “suitability” standard. This means they can sell a financial product that may not be best for their clients, so long as it doesn’t actually do their clients any harm. Yikes. Further complicating things, many advisors, including those at almost every big brokerage firm, are only required to act as fiduciaries at certain times but not at others (even though they may say “yes” when you ask them if they are a fiduciary). Be sure that any advisor you consider working with acts as a fiduciary at all times in all situations.
3. Tell me about your education and credentials?
Is someone allowed to call themselves a doctor and practice medicine if their education and professional training is in meteorology? No. Is someone allowed to call themselves a financial advisor if the same is true? Yes. Unlike many other professions, including attorneys and accountants, all that’s required to call yourself a financial advisor is passing a simple licensing exam to sell insurance or investment products. You don’t even need a college degree. Because of this, it’s important to understand a financial advisor’s background and training.
For someone who holds themselves out as a financial professional, at the very least you would expect them to have an undergraduate or graduate degree in finance or accounting, as well as meaningful professional designations. The financial planning industry is an alphabet soup of credentials, but most of them mean little. The most meaningful designation is the CERTIFIED FINANCIAL PLANNER™ professional (or CFP®). Obtaining this credential requires completing a financial planning education program, passing a comprehensive exam, and maintaining a commitment to professional ethics and continuing education. Other significant, but more specialized, designations are the Certified Public Accountant (CPA) for accounting and the Chartered Financial Analyst® (CFA®) for investments.
4. Do you work with people like me?
Everyone has a unique set of circumstances that’s shaped by things like occupation, family situation, and life stage. For younger physicians, your advisor should understand things like student loans, the right type of disability insurance for your specialty, and how to optimize your cash flow across competing needs (investing for retirement, paying back loans, saving for a down payment, etc.). For people approaching retirement, your advisor should run detailed retirement projections, have a strategy for minimizing your tax bill in retirement, know how to create a “paycheck” from your investments, and understand how to make important decisions about things like Medicare and Social Security. Before considering working with an advisor, you should be confident that he or she has experience working with people like you who have similar challenges, opportunities, and needs.
5. Tell me about the financial planning you do?
There’s a broad spectrum of financial planning that advisors do, and many of them who say they do financial planning either do it at a superficial level or with the objective of selling a certain product. True comprehensive financial planning starts with asking a wide range of questions about you, your unique financial situation, and your goals. It involves developing a holistic financial plan that covers all important areas of your financial life, then updating and adjusting that plan with you over time.
True financial planning goes well beyond just addressing investments, so be sure to ask enough questions to understand where an advisor’s focus lies and what they do for financial planning (both now and on an ongoing basis). And when it comes to investments, be extremely wary about any advisor who talks about consistently “beating” the market as their value to clients. Decades of academic research show that it’s just about impossible for anyone to consistently outperform the broad stock market indexes and attempting to do so requires taking on unnecessary risk that often backfires.
While not everyone chooses to hire a financial advisor, for the people who do, it’s important to find the right one. Unfortunately, the industry has done a great disservice to consumers in terms of muddling the picture and making it difficult to tell one advisor from the other. We hope this post helps bring clarity to the process and equips you with some of the important questions you’ll need to cut through the noise and find the qualified financial advisor that’s right for you.
About MD Wealth Management: We are an Ann Arbor financial planner that specializes in providing financial planning for physicians and retirees. We are CERTIFIED FINANCIAL PLANNER™ professionals and fiduciary financial advisors who operate on a fee-only basis, which means we do not sell financial products or collect commissions. As an Ann Arbor financial advisor, we enjoy working with clients both locally and remotely.