By Dr. James M. Dahle, WCI Founder
I find it astounding to realize just how much a financial advisor can cost you over the course of decades. I suspect you will too by the end of this post. For the purposes of this post, let's assume an advisor provides no value above and beyond what you could do yourself. Now, this probably isn't true. Most advisors provide at least a little bit of useful financial education to their clients. They may teach them a little about investments, or the markets, or budgeting. They encourage the client to save a higher percentage of his income, and when the inevitable down markets come, they may keep the client from selling out at the bottom.
This service, even if the advisor does nothing else, may be worth their high fees. Not to mention the benefits of “not having to worry” about your finances, not having to spend the time to do little portfolio management tasks, and not having to learn anything about investing (if only this were the case). There is a certain value there. If you want to make sure you're getting good advice for a fair price we have a list of recommended advisors that won't rip you off. Of course, many “advisors” give such poor advice that you may be better off without it, not including their outrageous fees. We'll ignore that as well.
The Cost of Using a Financial Advisor
1% Advisory Fee Isn't Much, Is It?
For our first example, let's consider a quality advisor who charges just 1% of the portfolio a year. Let's compare him to a do-it-yourself investor who holds the same portfolio and achieves the same after-tax return of say, 5% real (after-inflation). Let's say they both invest $50,000 a year for 30 years. How much more will the do-it-yourselfer have after 30 years?
We see that at the time of retirement, the do-it-yourselfer has $3,488,039. The doctor using the advisor has only $2,916,417. Using an advisor has cost the doctor almost $572K, or about 16% of his retirement stash. Divide that out by 30 years, and we're talking about $19K a year for advisory services.
Fee-Based Advisory PLUS Commissions
Now, let's say the advisor is “fee-based,” meaning he takes 1% AND sells you loaded mutual funds. So 5.75% of every dollar the doctor invests goes to the advisor right off the bat. Loaded funds tend to also be high expense funds, so let's assume they perform about 1% worse a year than the funds the do-it-yourselfer chooses. Now, what is the difference after 30 years with a fee-based advisor and loaded funds?
Now we see that the financial advisor has cost the doctor $1.2 Million dollars ($40,000 a year), or about 34% of her retirement nest egg. And this makes the rather weighty assumption that the advisor never churns the account. If he swaps out loaded mutual funds every couple of years as many do, this physician is never going to get anywhere. That's basically the equivalent of paying the advisor ANOTHER 3% of your portfolio a year.
What About the Advisor's Account?
Well, let's assume the advisor is smart enough to invest his earnings from you. Since he doesn't have to pay an advisor or use the crappy funds he's recommending for you, he can make 5% a year, just like the do-it-yourselfer. How does he make out?
Now you can see what's going on. Money is being gradually transferred from your retirement portfolio to his. Although he has “helped” you grow your portfolio to $2.28 Million, he has also grown his to $724K. How many clients like you does he really need? Not very many. Remember, this assumes that after the initial purchase, all funds are held until retirement so no ongoing loads other than the new money invested.
Paying the Advisor Throughout Retirement
To make matters worse, you don't stop investing at retirement. Let's see what happens if you keep on investing with this guy (or likely his son) throughout your retirement, say, another 30 years. Now let's say you need $100,000 a year from the portfolio to live on during retirement.
The doctor using the advisor got to spend $3 Million in retirement and left his heirs $645K. Not too bad. Of course, in the end, it looks like the advisor ended up with more of the portfolio than he did—$4.35 Million. Meanwhile, the do-it-yourselfer was able to spend that exact same $3 Million, and leave his heirs a whopping $8.1 Million. Alternatively, he could have spent TWICE as much in retirement each year, and STILL left his heirs $1.1 Million—almost twice the inheritance. The cost of advice can be high indeed.
So when you make the decision about whether to use an advisor, or whether to do it yourself, realize that this decision could cost you millions of dollars over your lifetime.
More information here:
An advisor anyone? Maybe if we head out wakeboarding the pile will just go away?
What do advisors think about doctors?
12 Things You Should Know About Choosing a Financial Advisor
12 Questions to Ask When Hiring a Financial Advisor
What Is a Financial Advisor? How to Choose the Right Fit
If you still prefer using an advisor, check out the list of recommended advisors to find someone who gives good advice at a fair price. If you'd prefer not to spend millions for financial advice over the course of your lifetime, get started learning how you can easily do this yourself with a good investing book or two.
What do you think? Are financial advisors worth the cost? How much do you think you should pay for good financial advice? Comment below!
First of all, this site is extremely well-done. I hope it’s ok that I’m taking advantage of this resource even though I’m not a doctor. I’m a lawyer (no, I don’t sue doctors – I’m a corporate M&A lawyer), and I think that I’m similarly situated in many ways to your doctor readers. Your points in this post are well-made, but as I know you realize, hiring a financial advisor may make a lot of sense in some cases. I pay 35 basis points per year and get access to DFA funds – and if I was trying to do this myself I doubt if I would have recognized and executed on the opportunity to do major tax loss harvesting back in late 2008. Because I had a good advisor who pointed out the tax loss harvesting opportunity, I now have several hundred thousand dollars in loss carryforwards that I’ll eventually be able to take advantage of when I need to realize capital gains. That – and DFA access – is well worth 35 basis points, in my view. Good advisors (who will agree as a legal matter to have a fiduciary duty to you – to put your interests first) are not that hard to find if you know that you want a passive/DFA-oriented approach.
An excellent post. In my recent post on selecting a financial advisor I made three important points that you have taken into consideration. First- don’t pay too much for financial advice. I think 35 basis points (0.35%/year) is a fair price. Second, get an advisor with DFA access- which you have done. Third, be sure you have an advisor that knows what he is doing rather than a salesman. Tax loss harvesting is a good example of something an a good money manager should be all over.
Despite all the negative things I write about financial advisers, I do realize there are good ones out there available at fair prices and that many, if not most, people probably ought to use one.
I pulled this post up to show some co-workers the graphs and unfortunately they are not displayed. I tried to pull up the page in both chrome and IE and no luck. Let me know when you have them up again. Thank you.
The code for the tables shows up but none of the nice charts.
Thanks for the heads-up. I had deactivated a plug-in that I apparently never used except on this post!
Thank you for patching that!
Love your site. The charts again are not showing up, just the code for them. Any chance of fixing it, or should I consider using a different browser (I’m currently using Firefox).
Thanks.
Sorry, had to disable a plugin used to create them. It sacrifices posts like this one, but keeps the entire site running faster and in a more stable manner.
Most people (even if they’re smart enough to be a doctor or a lawyer) don’t have the discipline to invest properly.
I went to b-school the same time one of my friends went to Harvard b-school. Though he specialized in operations, he studied the same introductory finance course which taught MPT, the benefit of uncorrelated asset classes and how stocks and bonds are inversely correlated.
His portfolio was abysmal last year. This year he’s trailing the s&p by 30% and he’s really happy that it’s up! I talked to him yesterday and I found his investment philosophy is “performance chasing”. He just bought a 20 year T-bond mutual fund and some other emerging market small cap fund as his core portfolio.
Even if he paid 2% to a money manager (not a salesman), he’d better off!
Sad, but true. In fact, I sometimes wonder if the average investor would be better off in nothing but CDs. It’s frightening to look at how much the average mutual fund investor underperforms the mutual fund he is invested in. Performance chasing at its finest.
Have you any experience with Larson Financial Group from Chicago? They aimed a dinner at graduating MDs to provide services at $1500/ year but also charge a % on the portfolio. Half way through the dinner and discussion, I had a sense he was a very good salesman as my colleagues were “buying” into what he had to say…. saving us on life insurance with discounts, etc. But when a specific question was asked I noticed his go to statement was not an answer but rather “well I’d have to sit down with you, I don’t know your specific situation”. Advice?
I reviewed a book written by some of the folks at Larson, you can read about it here:
https://www.whitecoatinvestor.com/doctors-eyes-only-a-review/
In my opinion $1500 a year is enough to manage the portfolio too without an additional AUM Fee, but lots of my patients probably think $10 is enough to place a couple of stitches too. These guys manage portfolios for $1000 a year:
https://www.whitecoatinvestor.com/an-interview-with-a-fee-only-planner/
but that’s the lowest flat rate I’ve seen. I’ve seen portfolios managed for as low as 0.15-0.25% of assets under management as well, but more typical prices are around 1%, with a $250K minimum.
The dinner was a sales presentation. Why are you surprised they were selling their services to you there? In his defense, it is hard to give advice without knowing the details of someone’s personal situation. I’m also told that with a high enough volume that some insurance agents can offer cheaper prices. But it’s easy enough to compare using something like term4sale.com.
Thanks for the great article. I was hoping to get your advice on an issue. I am a solo dentist with four employees. I am trying to sign up for a 401k for 2016, but the problems I have are two fold. One, I haven’t found a way to manage my money while having my employees money managed by someone else. I don’t know if this is even a possibility. The second issue I have is that it seems like there are a lot of ongoing fees from the financial planning, investment management, third party administrator, and fund expenses. I know they can’t completely go away and that they will go down overtime as funds invested increases. I have been told until we reach about 1mil in the pool the total fee for everything could range up to 2.5%, but that they can get down to 1.5% as the amount invested increases. This seems a bit excessive. Is this normal or someone in private practice to face these issues? Thanks.
You’re right, you can do it much cheaper. I would suggest hiring one of my two advertisers that does this sort of thing- Konstantin Litovsky and Mark Zoril. It’s probably not a DIY job, but 2.5% is ridiculous. Contact information here: https://www.whitecoatinvestor.com/financial-advisors/
Thank you so much. I thought that was incredibly high.
Of course it is an individual type of thing, I would hope that a good financial advisor would increase my wealth. I also insist that no advisor would take the time to know my needs and desires enough to put them first, now not churning my account is not what a fiduciary should be. Perhaps simple index funds are better for those who don’t want to learn and work than an average advisor.