I think anyone can come to the conclusion that financial planners who are paid on a commission model are probably the worst choice for savers. But once you get past the idea of a financial planner paid on commission, what’s the right choice – fee only advisers or asset-based advisers?
Pros and Cons of Fee Only Financial Planners
Fee only advisers have distinct advantages and disadvantages:
Pro: You pay for only what you need – A fee only adviser charges you only for the services you consume. Need a simple portfolio and a well-written will and estate plan? No problem, there’s a price for that.
Con: You get what you pay for – The downside is that you only get what you explicitly pay for. If you pay an annual fee, the planner has incentive to do the bare minimum to continue receiving flat annual fees. If you pay by the hour, the financial planner has incentive to push other services that you may or may not need. Think of it like a shady car mechanic – the more hours the better.
Pros and Cons of Asset-Based Financial Planners
The advantages and disadvantages of an asset-based financial planner are not as clear as a fee only planner:
Pro: If you have a smaller portfolio, you get more than you otherwise might – Financial planners who work on an asset-based model have account minimums for a reason. If you’re right on the line for this minimum, you’ll likely get way more on a dollar-for-dollar basis than other clients who have significantly more assets than you do.
Con: The costs scale even though your needs probably won’t – The fact is that people who have $1 million and people who have $5 million have virtually the same retirement needs. Portfolios are just as complicated, wills are just as long and time-consuming, and there won’t be that much difference in the work required, but the total cost will.
Pro: The planner has some incentive to see your assets grow – Financial planners can’t be compensated on performance, but this is the closest that they can get. Seeing as a financial planner’s earnings are essentially a derivative of your growing wealth, you could make the case they have reason to work for juiced returns and minimized taxes.
Con: Planners may have incentives for riskier investments – If we’re to include the fact that an asset-based fee encourages financial advisers to make decisions to grow your wealth, we should also consider that they may prefer riskier investments. Planners can hide .5-1% management fees in the higher long-run returns of stock portfolios but asset-based fees stick out like a sore thumb in low-yielding short-term bond portfolios.
How Much Hand Holding Do You Need?
People hire financial planners to save them time and money. If you’ll need a lot of hand holding and require a lot of face time with your financial planner, the asset-based fee schedule will likely work in your favor. Don’t expect an entirely free lunch, though. I spent time with a planner who admitted that the firm was thinking about dumping a time-consuming client even though he had $500,000 invested with them at a fairly young age. The client made for tremendous life time value, but not if he was going to tie up the phone lines for a quote with each change in a stock’s price.
If you’re a hands off person who won’t pick up the phone for a stock quote every few hours, you’ll likely benefit from an hourly or annual fee schedule, seeing as the costs won’t scale with your growing wealth.
Bottom line: As a completely generic and general rule, an asset-based planning would likely work best when you’re young, contributing to a retirement account, and simply have more questions that need less specific answers and solutions. However, as you start thinking about retiring, taxes, and estate planning in your older years with a colossal retirement balance, the hourly fee service wins hands down. Luckily for you, most financial planners offer more than one fee schedule.
If you aren’t in a position just yet to engage a financial planner, there’s a great step to take now, which is to organize all your financial holdings in one spot and get a full analysis within minutes for free with this Personal Capital tool (reviewed).
What’s Your Experience Been with Financial Planners?