[Editor's Note: The following guest post was submitted by Steven Podnos MD CFP® a fee-only advisor and principal at Wealth Care LLC. I found it ironic to see this post in the queue as I just received some criticism on the forum recently for not writing enough about the difference between fee-based (i.e. paid on commission) and fee-only (no commissions) advisors. It made me think that it's been a long time since I wrote much about advisors on the blog. Dr. Podnos has done me a favor and now I don't have to write yet another blog post explaining the difference and warning readers about the common error most of us have made of mistaking a commissioned salesman for a legitimate financial advisor. Dr. Podnos and I have no financial relationship.]
I have some fond memories of my medical residency. I enjoyed the camaraderie and joint efforts to both improve our own knowledge and skills while at the same time making patient care the best we could. My drill weekends as a Reserve military physician are similar—we are all working together on a “mission” to provide the best care to our deserving patient population.
5 Reasons to Choose a Fee-Only Fiduciary Advisor
1) Incentive
The fee-only advisor isn't incentivized to sell products. They make their living by providing advice in the best interest of the client.
2) Client First
The fee-only advisor works for the client, not for the brokerage or bank whose sign they live under. The average individual or family does not understand that the nice “advisor” sitting in front of them at a bank or brokerage is not working for the client, but instead for the “advisors” employer. They do well by selling the highest cost products regardless of quality or any other ethical guideline. Insurance agents are paid to sell high cost commissioned whole life insurance and usually find a reason to do so to fit almost any client problem.
Banking and Brokerage Malfeasance
The press has reported a constant stream of malfeasance by banks and brokerages in ways that maximize their profits and hurt clients. We hear about “fake” accounts being opened, fees tacked on without permission, high fees and commissions in general. We hear about “sales contests” being used to induce brokers and bank employees to push high-cost products to the uninformed public.
Being in the financial world has taught me that this behavior is the norm and not the exception. The salespeople who survive the initial training process in these industries are highly skilled at convincing the naïve customer that they are being well served. Usually, they are just being fleeced. In over fifteen years of dealing with clients that come from the dark side of commissioned sales, I can count the number of families well served on two fingers.
3) Fewer Conflicts of Interest
Fee-only advisors have very few conflicts of interest in achieving their goals with the families they serve. The only conflict of interest I can think of would be situations in which a client has a choice between using funds for an action that does not increase their managed portfolio size (such as, pay off debt vs. investing).
4) Knowledge
If you could hover over a peer group of fee-only planners, or attend one of their meetings, you would hear a variety of topics: academic discussions of the best investing techniques, how to deliver better client communications, how to find the lowest cost vehicles that achieve the client’s investing goals, the latest information on tax law, estate planning, asset protection, educational and retirement planning and how best to use this information on behalf of the families that hire us.
In contrast, you would not hear about how best to “motivate” the client to buy your expensive product or “how to overcome objections to your sales efforts.” Those are the topics you’d hear instead at a meeting of stockbrokers, bank employees and insurance agents.
5) Full-Time Fiduciary
Steven Podnos, MD, MBA, CFP
Understanding exactly how your “advisor” is paid, and whether or not they will sign a statement that they are a full time fiduciary to you, is what most people need to stay out of trouble. You can find these advisors at Napfa.org [or on the WCI recommended advisor page-ed]. Napfa screens planners carefully for both educational standards and adherence to a fee-only practice. Beware of terms like “fee-based,” for it means anything goes. Consider asking your advisor to sign a Fiduciary Oath.
As mentioned earlier in the article, if most people could hover over a meeting of fee-only planners, there would be long lines outside their offices of people clamoring to become clients. Think about it, and then maybe we’ll see you in that line!
What do you think? Have you used a fee-only fiduciary advisor? What is the best way to find a knowledgeable advisor that has your best interest in mind? Comment below!
Fee-only and fiduciary are non-negotiable in my mind for people who require the help of a financial advisor. It’s important to educate people on the difference, and I am glad that WCI keeps a list where you cannot make it on if you don’t meet those metrics. I am a big fan of this kind of advising, and appreciate your post.
To be clear for those reading, both fee-based and fee-only advisors can work under an Assets Under Management (AUM) model, which produces many more conflicts than a flat-fee structure. You mentioned that paying down debt versus investing is the only conflict you could think of. Here are some other examples to round out the discussion on conflicts provides by an AUM model. Essentially, anything that decreases the account size that the client is investing in provides a conflict to an advisor (of any kind) that uses an AUM model. This includes deciding to do any of the following instead of investing in the market:
1) Investing in real estate
2) Paying off your mortgage faster instead of investing
3) Paying off student loans faster
4) Taking social security at age 70 (where you’ll receive a greater benefit) instead of age 62 or 65.
5) Investing in a personal business instead of investing in the market
6) Increasing charitable donations
7) Transitioning jobs and keeping money in prior employer’s 401K or new employer’s 401K where those assets don’t count towards the AUM (instead of investing in a rollover IRA which would preclude someone from doing a backdoor Roth IRA, but would allow the AUM advisor to get paid more).
I am sure there are more. These are simply the ones that I came up with off the top of my head.
The gold standard boxes to check are: fee only, fiduciary, flat-fee, and extensive experience working with physicians.
Fee-only and fiduciary should be a place to start the conversation these days.
TPP
For sure. I had a portfolio sent to me from an “advisor” who was charging a 1% AUM fee AND put the client into loaded funds!
Thanks for writing this out so I don’t have to!! AUM advisors have many conflicts of interest as well!!
Unfortunately, you can’t make money without conflicts.
Paid on commissions: Incentivized to recommend the products that pay the highest commissions (usually the worst products) and churn them
Paid via AUM fees: Incentivized to recommend against anything that reduces the AUM – paying off student loans, paying off mortgages, taking a higher withdrawal, investing in anything they don’t manage like real estate etc. Also incentivized to recommend over saving
Paid via flat annual fee: Incentivized to do as little work as possible, perhaps doesn’t care as much as an AUM advisor about your performance
Paid via hourly fee: Incentivized to do as much work as possible, perhaps doesn’t care as much as an AUM advisor about your performance
Conflicts abound. Be aware of them and choose the ones you want to deal with. Personally, I’d avoid general financial advice from anyone paid on commission and I’d be careful about AUM fees, especially as your account grows.
I’d like to politely and respectfully push back on the idea that all business models have conflicts. While theoretically true, it creates the perception of an equivalency. Let’s be honest, not all conflicts are created equal. If an “advisor” makes money by selling you financial products like insurance, you cannot get unbiased advice from that person. Run, don’t walk, away.
You are much better off with an AUM-fee-only advisor, but you and TPP eloquently highlight the inherent conflicts in that business model.
We think flat- or hourly-fee business models avoid most serious conflicts. I’m not sure I believe flat-fee advisors are going to work less or care less than an AUM advisor. In fact, if you believe the overwhelming academic evidence that assets are efficiently priced based on their expected risk-adjusted returns, an AUM advisor “trying harder” to improve your performance is likely to do more harm than good. Hourly rate advisors could theoretically extend engagements to pad their billable hours, but we think that risk can be negated by setting a flat fee, based on an agreed upon scope, before starting a project. Most importantly, flat-fee and hourly-rate advisors can make truly unbiased recommendations.
We would rule out getting advice from any commission-based broker. Beyond that, clients should just consider the overall value proposition. Self-educate—read the White Coat blog and listen to the podcast—so you can ask smart questions. DIY if you have the time, interest and aptitude. If not, shop carefully for an advisor—consider their education, credentials, experience, fees, conflicts, planning process and investment strategies.
I agree, they’re not equivalent.
I agree that every fee structure has potential to create conflict.
Then I consider everyone I know who is compensated either by what they sell or the volume of what they sell. Is my lawyer pushing me to get a Will because that’s how he puts food on the table? Does my accountant want me to incorporate so I can pay the annual fee? Is my favourite coffee shop owner pushing a pastry so he can move his inventory?
Once I trust a professional I spend minimal time worrying about these things.
When I became an advisor, I purposefully didn’t pay attention to how I got paid and decided to just do what I considered to be best for my client and that the results would be good. I ended up with happy clients and a profitable business.
Last year there were some tax changes around some of the strategies I was using to help my clients save taxes in their corporations. Big ones, clients that were on track to retire at 60 would now likely have to wait until 64.
Basically now I can flip a switch for a new client to move that 64 back to 60, but my pay gets cut in half. Or I could make more, but they’d take a hit. They’d never know, but I’d know I didn’t do what’s best for them.
I’d be lying if that didn’t hurt. My kids swimming lessons aren’t half off, gas isn’t half off, but now I’ve got half as much money to pay for it all.
I called all the other advisors I trust most and they all agreed with what I was doing, “take the hit, it’s best for the client.”
Is there a potential conflict of interest there, absolutely. I’m happy to discuss with all my clients how I get paid for everything I recommend. Full disclosure, I don’t sell a single thing I don’t own and I didn’t implement my plan just because I got paid to do it. I did it because it makes sense for me and my family.
Count me as one of the young docs (at the time) that got fleeced when I the CPA that was doing my taxes referred me to a financial “advisor” that I now know was commission based.
I got promptly placed into high expense ratio, front loaded funds. Luckily the amounts we are talking of were quite low, however they were quite a significant portion of my income at the time in residency..
I held onto these funds for a decade or so before I saw the beauty of index funds. Even then I held onto these funds for a little longer being subject to the sunk cost fallacy (I also figured since I paid a big front load %, the only thing that was eroding my earnings was the higher expense ratio). Soon I couldn’t ignore it, took the capital gains hit and sold them to buy index funds.
Fee only advisors would be the only way to go if I did need financial advice at some point. The AUM model never did sit well with me. It just seems ripe for conflict of interest (why would an advisor with an AUM model suggest paying off debt which would lower the amount of money subject to his fee?). I also find it hard to believe that just because you add a zero or two to your portfolio that it all of a sudden is harder to manage and requires a significant bump up in fees.
Not a huge fan of AUM fees either, but I don’t mind it if you do the math and it adds up to a 4 figure amount.
https://www.whitecoatinvestor.com/my-two-least-favorite-ways-to-pay-for-advice/
If you must use an advisor, I’d go with fee-only. Everyone else is trying to push some instrument on you where they get a commission.
That said, the fee-only guys also need to make money, so they often will push other things: I’ve talked to several local guys here around Denver and they always want to sell you an advising package that involves a recurring fee: “we need to rebalance every 6 months” or “you have to take care of estate management first, then we look at life insurance, then investment portfolio” but you can’t just get a la carte advice or simple questions answered with these folks.
I get it: they’re running a business. But it’s pushed me to become self-taught, largely by reading WCI and similar resources. I’d buy “Fire Your Financial Advisor” instead of hiring a fee-only if I were starting at this stuff today.
At least if you don’t like FYFA you can get all your money back (for 7 days.)
I agree that there isn’t much of a source for the financial advice people really want (just help me pick my 401(k) investments really quickly.) Part of that is advisors want/need to be paid too. But a big part of it is simply that a lot of those questions can’t be answered without making a comprehensive financial plan.
I agree that the quickie questions (how much can I put in an HSA etc) are best answered at reputable places on the internet like blogs, forums, IRS.gov etc. But the tougher questions (should I invest or pay down my debt) require a lot more work, either on your own or with an advisor. We shouldn’t minimize that.
excrement
Found my advisor like most young and impressionable attendings, via word of mouth in the doc’s lounge. A more senior physician with all the trappings of financial success – glamorous German sportscar, fancy clothes worn at the annual hospital gala, undergoing a major remodel of her home – suggested I go see her husband’s sailing buddy who was an advisor. “He netted us 18% last year!”
I met with him, and he was a personable and generally ethical guy, but having looked at a decade of 1% AUM plus some high ER actively-managed funds with “genius” managers at their helm, I regret not having moved to a simple DIY Bogleheads portfolio much sooner.
I don’t think he wronged us (my ignorance is every bit as responsible as his delusions of grandeur), we just paid far too much for his advice, and he thought he could beat market returns – it was folie a deux.
He sent Christmas gifts each year with a holiday card. My final year with him, it was a bottle opener. I estimate that what I paid for that bottle opener over the years was between $40-50,000.
To fire your “advisor” on the cheap, listen to Paul Simon’s 50 Ways to Leave Your Lover, except substitute advisor for lover: “Slip out the back, Jack, make a new plan, Stan, ……..and just set yourself free.”
I definitely agree that the best type of financial steward assisting you with your money is a fee-only fiduciary. The AUM compensation scheme creates conflicts of interest and complications. However, if you must use an advisor employing an AUM model, it should be structured in a declining block fashion (the % fee decreases as certain AUM thresholds are hit). This would go some way toward guarding against unfair compensation for the advisor but still does not eliminate the conflict of interest entirely. It only lessens it.
The AUM scheme’s glaring conflict of interest skews how the financial advisor guides you to make financial decisions: sometimes the best decision for you is decreasing your liquid financial assets (or not growing them as quickly) and instead targeting debt repayment. This course of action increases your net worth but not the advisor’s fee income. Most advisors wouldn’t enjoy that outcome despite it being the best decision for their clients.
Fee-only is the best way to go if you have your own best interests in mind. If you’re looking to be generous and line someone else’s pockets, a “fee-based” advisor might be your best choice.
I agree that fee-only and fiduciary are important. I also agree AUM fees should be negotiated down as your assets grow, especially since you can get your assets managed for a four figure flat fee per year. If you’re paying 5 figures in AUM fees, time to negotiate.