Financial conflicts of interest are omnipresent, especially when it comes to financial advice. There are a number of finance-related tasks that need to be done to manage your finances, and there are many different types of professionals who would like to be paid to do so. We all need to hire help at some point or another. You simply cannot do everything yourself, no matter how diehard a do-it-yourselfer you are. But before you do, it's best if you know what you want them to do (the task), and that you understand the adviser's conflicts of interest.
Insurance
- Task: Develop and implement an appropriate insurance plan.
- Professional: Insurance agent
- Degrees (or certifications) to look for: CLU, ChFC
- Method of payment: Commission
- Conflicts: The more money you spend on insurance, the higher the commission the agent makes. No sale, no commission. The agent benefits if he can get you to overinsure, and especially if he can get you to buy insurance products such as annuities and cash-value life insurance instead of investments. But even selling the “good kinds” of insurance such as disability and term life, the agent benefits from selling you higher face amounts, longer terms, and more bells and whistles than you may need.
Financial Planning
- Task: Develop a budget, savings plan, debt management plan, and cash flow plan.
- Professional: Various. Insurance agents, brokers, commissioned investment salesmen, investment managers, financial planners.
- Degrees (or certifications) to look for: CFP, ChFC, CFA
- Method of payment: Often included when purchasing other services such as insurance or investment management but also one-time flat-fee, annual retainer fee, and hourly fees.
- Conflicts: If the advice is included as part of other services, an insurance agent may recommend (due to either ignorance or conscious or even subconscious desire to make money off of you) an insurance product or amount that is inappropriate for you. A broker or commissioned investment salesman is more likely to recommend a plan that involves saving a lot of money in order to purchase and churn through as many investment products as possible. An investment manager paid on an assets-under-management (AUM) basis is more likely to recommend against anything that might decrease the amount of AUM, such as paying off student loan, mortgage, or even consumer debt. An adviser who makes you a one-time plan based on a flat rate is more likely to recommend a very simple, unpersonalized plan because it takes less of his time to develop than a more complex, personalized one. An adviser paid on an annual retainer (assuming that is his ONLY method of making money), increases his hourly rate by spending as little time with each client as possible. On the other hand, an adviser paid hourly is more likely to spend more time than required with a client. Why else do you think he's so interested in your cousin's kid's soccer team? A financial planner often likes to portray himself as “your primary physician” or your “financial team's quarterback.” Then he refers you to accountants, attorneys, and insurance agents that provide him kickbacks, or at least referrals. Or worse, they don't refer you to another qualified professional when they should, and try to perform the other professional's function in order to increase his own fees.
Investment Management
- Task: Develop and implement a portfolio, manage new contributions and investment-related taxes, and rebalance the portfolio
- Professional: Various. Insurance agents, brokers, commissioned investment product salesmen of many stripes, investment managers and financial planners.
- Degrees (or certifications) to look for: BS or MS in Finance, CFP, CFA, ChFC
- Method of payment: Commissions, annual fees, AUM fees, hourly fees.
- Conflicts: Although often lumped in with financial planning, it is probably best to separate these functions so you know exactly what you're paying for each. Most people need a great deal of financial planning early on, but little as the years go by. Investment management is an ongoing function, but can be done with very little time or effort once a portfolio is established. Commissioned advisers have an interest in getting you to buy investments with high commissions, and to churn them frequently. Unfortunately, the best commissions are usually offered for the worst investments. An advisor working on an annual fee (IMHO the best arrangement for you) have an interest in portraying their services as complicated, time-consuming, and valuable to you, even if they may require only minutes per year. Advisors working on an AUM basis have the above mentioned conflict to keep the assets under management. While it is good that they want to grow your stash as much as you do, they are also likely to recommend a very conservative withdrawal rate, and recommend against paying down debt, making big purchases, or investing in asset classes they don't manage. An hourly advisor, of course, has the incentive to spend more time than necessary on a portfolio, overbill, make a portfolio overly complicated, meet with you more often than necessary etc.
Asset Protection and Estate Planning
- Task: Develop an asset protection plan and develop an estate plan
- Professionals: Various, but generally attorneys.
- Degrees (or certifications) to look for: JD
- Method of Payment: Hourly or Piecemeal
- Conflicts: The conflict here is primarily selling you stuff you don't need. Imagine a 28 year old single resident with a net worth of negative $300K who does a little moonlighting and is talked into a $5000 asset protection and estate plan involving an LLC for his moonlighting, a will and a revocable trust, and a family limited partnership. The more the lawyer does, the more he gets paid. So when you ask, “Do I really need that?,” expect a variation on “Yes, you sure do and here's why!” Attorneys are more likely to recommend trusts and corporations. Insurance agents are more likely to recommend annuities and cash value life insurance. Investment managers and commissioned investment salesmen are more likely to recommend using retirement accounts. All can play an important part in your asset protection and estate planning.
Tax Planning
- Task: Prepare and file personal and business income taxes and make recommendations to lower them
- Professionals: Accountants, tax attorneys, enrolled agents, and various other less-trained tax preparers
- Degrees (or certifications) to look for: CPA
- Method of payment: Hourly or piecemeal
- Conflict: A tax preparer has every incentive to make things look complicated in order to justify their fees. What they won't tell you is that they're just in the backroom using Turbotax or some other tax software. Sometimes when you think you're paying for an accountant, your return is being prepared by someone with much less training. Fortunately, it's usually a fee for service arrangement, and most tax returns are pretty straightforward anyway, so while you may save some money doing it yourself, this isn't anywhere near as painful as bad investment or insurance advice.
Lots of docs have “their money guy.” But I'm often amazed to see how little understanding they have of the qualifications and costs of that money guy. When you do hire help, I suggest you select a method of payment that minimizes conflicts of interest as much as possible. You can do this by following these steps:
1) When you need insurance, know what you need before you go in. Use the agent as a resource, but recognize that only you can really determine how much insurance you really need. Don't mix insurance with investing.
2) Understand the difference between financial planning and investment management. Don't lump the two together. Pay for your financial planning as a lump sum or an hourly rate. If you're not sure how much it's costing you, it's surely costing you more than you'd guess.
3) The best method for investment management is a flat annual fee with no commissions. That way you can get advice even for a small portfolio, and you're paying the same price for the same amount of work $500,000 later. If you must use an AUM planner, be sure the percentage charged decreases as your assets increase. Calculate out your fees each year and decide if it is really worth that much to you. If you're paying 10% or more of your manager's annual salary for a few hours of work a year you're doing something wrong. The going rate for investment management can be as low as $1000 per year or 0.15% of your assets under management for simple but sophisticated investing solutions.
4) Get a second opinion before buying an expensive trust or other asset protection or estate planning tool. Prices vary a lot, and expensive set-ups might not be worth it to you.
5) If you're going to pay someone CPA rates to put your tax info into Turbotax, be sure your time is worth it, and make sure you're getting solid tax planning advice for next year. A good pro can probably save most docs some money, but only you can decide if it is worth the fees.
6) Remember that lots of high-quality, free financial advice (or just a second opinion) is available at your local library, on blogs, and on forums such as Bogleheads.org or Fairmark.com. The more you can do yourself, the less professional advice you have to pay for and the better you can evaluate that advice.
Least we forget the conflict of interest that websites have that promote sponsors in articles and who are paid fees for any business from links embedded in articles. ;))
I haven’t gotten to book authors who also own financial advisor firms either! 🙂
But a good point to illustrate just how prevalent these conflicts are.
For those who don’t know what he’s razzing me about, see my page on MY OWN conflicts of interest here:
https://www.whitecoatinvestor.com/conflicts-of-interest/
You make some excellent points, Dr. Dahle, and unfortunately I think that there are too many people that had painfully similar experiences to your “four moments”. But I would also suggest that while the points that you raise are generally on the mark, it’s important to remember that no single diagnosis fits all patients (or in this case, clients). A flat annual fee can absolutely be the best way for an individual to pay for investment advice in certain circumstances, but not always. It’s certainly something that people should consider, but the “best” course is unique to each individual.
I would also suggest that there is a Hippocratic Oath of sorts that is available to financial advisors and investment managers, and it’s called the Fiduciary Standard. It says that above all else, and advisor is bound to put the client’s best interests ahead of their own at all times. You local FINRA regulated advisor is not held to the standard (they are only held to suitability, which is really kind of a joke), but any SEC registered Investment Advisor is held to it, as are most professional certificate holders such as CFP® Practitioners, CFA’s, and CPA’s. Let’s not kid ourselves though, as it’s not perfect. Just as there are ethically challenged physicians, there are ethically challenged advisors that are held to a Fiduciary standard, but choose to ignore it. It is a good place to start, but you can never legislate morality, and pretending otherwise is a recipe for disappointment.
One point that you raise that I think is absolutely critical is understanding the cost structure of any engagement, the services being provided under the engagement, and the conflicts of interest that are present. Anytime money changes hands in any professional setting, a conflict of interest is born. As an advisor, one of our key roles is to eliminate all possible conflicts to the best of our ability, minimize those that we can’t eliminate to the greatest degree, fully disclose any that we cannot eliminate in plain (non-legalese) English to clients, and then verify that the client understands them completely. Only once that process is complete can a client get a fair and complete understanding of what their real situation is.
I don’t agree with you on every detail, but all in all you raise some great points and folks would be wise to utilize this to ask some questions of their existing advisors, or when interviewing a new one.
I agree that every financial professional should operate on the fiduciary standard. Too bad the vast majority do not. There are some good advisors out there, but by the time you know enough to identify them, you probably know enough to do this stuff yourself.
And that is where we disagree. With one exception, I have yet to meet a full-time physician that can effectively master, implement, and monitor an effective investment strategy, while at the same time integrating a successful personal income tax strategy, while also maintaining balance in the rest of their life. I have no doubt that they are out there, but unless someone wants to take 3-4 hours per week monitoring changes (both in their situation and tax law) they will ultimately find that they are missing opportunities or hitting potholes that could be easily avoided. If it becomes a passion for them, as it has for you, they most certainly have the intellectual skills to be very good at it, but I believe that saying “you probably know enough to do it yourself” is an overstatement.
The other issue that comes into play is emotion. I sense that your approach to investing is fairly systematic, and that your discussions about DFA vs. Vanguard (great post, BTW) indicate that you are enlightened enough to know that you can’t reasonably expect to beat the indexes consistently. As such, you have likely set your allocation, chosen high quality investment vehicles, and monitor for systematic rebalances without prejudice. The problem with highly intelligent folks, no matter what their IQ or professional background, is that they are not immune to emotional decisions. And bringing ANY emotion into investment and tax planning is a recipe for disaster.
Some might argue that bringing in emotions from two people (the client and the adviser) might make a bad situation worse. 🙂 Sure, it’s an overstatement, but it’s illustrative of the difficulty of weeding through all the folks billing themselves as “advisers” to find the ones who offer good advice at a fair price.
Yeah, I think that is a fairly significant overstatement. While I would argue that a failure to disclose conflicts is very real amongst advisors, and can make a bad situation worse, the removal of emotion is something that most advisors (good and bad) still do. My surgeon had no emotion when deciding how to treat my umbilical hernia, so why would I as an advisor view his 2013 income tax plan any differently?
Knowing how to do it and getting it done are two completely different concepts. The first is easy. The second can be extremely challenging.
That can apply to lots of things in life, from cleaning your house or mowing your lawn to losing weight. You can pay someone to clean your house, mow your lawn, or manage your investments. But only you can lose weight or spend less than you earn.
Just a couple of thoughts.
First, I don’t think that there are a lot of CFA’s who work with the public in a direct role in either financial planning or investment management. Most CFAs work for the mutual fund companies or hedge funds that are the type of actively managed funds you don’t like. I hold the CFP certification and will admit that the CFA certification is definitely the investment designation, I just don’t think there are many that work on personal finance. I actually hate when I tell someone I am a CFP and the first question is “how is the market?”, that is a question for stock brokers and the CFAs. I think the CFA is a very good certification.
Second, for taxes. If someone wants options on tax preparation and planning, an EA (Enrolled Agent) is a federally designated income tax specialist. CPA’s are not inherently income tax specialists. I do suggest that for business formation and more technical questions on accounting that clients speak to a CPA as I don’t want to do business tax returns. An EA is a perfectly suitable option for most MDs tax preparation/ planning needs at a lower cost.
Third, CFP has higher standards than the ChFC when it comes to earning that designation. CFPs have to have a 4 year college degree and pass a comprehensive Board exam that has a 40-50% fail rate on most cycles. The classes for both designations are pretty much the same. When I see the ChFC I think that person either doesn’t have a college degree or cannot pass the Board exam. I did the CFP because of the more “stringent” requirements. Of course, this should be the minimum qualification, not all CFPs are good, just as though not all MDs or JDs are good.
The reason why a CFP is a “financial QB” is because we have at least a base line training in all the areas you outlined above. We might not be experts in all areas but we know enough to give proper advice for most client situations.
You don’t even know the difference between a degree and a certification? Pity.
Welcome to the blog Ann. I’m surprised to see you so critical of someone trying to point out that most who call themselves “financial advisors,” especially financial advisors who “specialize in physicians” aren’t generally fiduciaries who really have the physicians’ best interest at heart. How many CMPs have completed your course so far?
No doctor EVER went broke paying a point or two on an investment product or buying an insurance product PERIOD. Place the blame where blame is due, On the doctors themselves. On average they make 4 to 5 times the average HOUSEHOLD (not individual earned) income of a little over $50,000 a year in the United States and you want to act like you’ve been victimized by everyone. Even residents complain about the hours and income when the average American family works twice as hard, gets no respect and makes a fraction of a physician.
[Ad hominem attack deleted.]
[Lengthy, off-topic comment deleted. This is a finance blog, not a medical one. Medicine has its issues, but is not the subject of this blog.]
Okay, the general sense that I’m getting from your post Merritt is that “because their are troubling conflicts of interest in medicine we should give a pass to the financial industry.” I may be completely misinterpreting your post, but that was my takeaway.
You say:
“No doctor EVER went broke paying a point or two on an investment product or buying an insurance product PERIOD. Place the blame where blame is due, On the doctors themselves. On average they make 4 to 5 times the average HOUSEHOLD (not individual earned) income of a little over $50,000 a year in the United States and you want to act like you’ve been victimized by everyone. Even residents complain about the hours and income when the average American family works twice as hard, gets no respect and makes a fraction of a physician. Gollum, go covet your precious. What a joke.”
Sorry to say so, but you sound awfully bitter and this statement really diminishes some interesting points that you make. I don’t care what an individual’s profession is, the “…never went broke…” comment regarding fees or commissions is utter nonsense. An individual’s profession should have no bearing whatsoever on the level of common decency that they are afforded. By suggesting that doctors should be made to pay more simply because they can (in your eyes) afford to speaks volumes regarding your professional and ethical compass, and really negates your credibility.
All that I can hope is that you are not in the financial services or investment profession.
Merritt,
I am married to a doc and work with lots of residents as their financial advisor. The medical residents I work with don’t complain to me, I complain for them. Some of these residents make 45k to 50k per year and work 60-100 per week. I don’t care what line of work you are in, that sucks, especially after having went to school for 4 more years than most. Residency is anywhere from 3 to 6 years depending on the program. Then some go into a 1-3 year fellowship. So while other people make 50k per year starting at age 23-24, most of these docs don’t get their 150-250 pay until they are around 31-36. Lets not forget they leave medical school with 150k- 400k in student loan debt.
As for the “point or two” on investment products, it is really a point or six, per year depending on what the advisor is recommending. Sure that doesn’t make doctors go bankrupt but it doesn’t help and couple that with the 250k in student loan debt,10x the liability for lawsuits and bad financial planning and that is a recipe for bankruptcy. Did you know that pediatricians only make 125-160k out of residency? Not all docs make over $250k per year.
Do you think a point or two or six is fair for those in your 50k household income? Those are the one’s who really need this advice as they probably are sold A share mutual funds and completely unnecessary whole life insurance everyday.
While I don’t agree with WCI on some issues, the blog is pretty damn good and seems to have MDs interests at heart.
Completely agree, JT. You and I are in EXACTLY the same position, and I continue to be amazed at the misguided beliefs that are held by some many in the general public regarding physicians and their compensation.
When people hear that my wife is a pediatrician I always get , “Oh that must be nice!” My reply is always the same, “Yep, our family loves losing two weekends to call every month, and never seeing her between 7:00 Wednesday morning and 7:00 am on Friday. It’s great.” And she is part-time, so the idea of a $125K per year sounds like a REALLY nice raise.
Certainly missed my point or rather I did not make my point clear. First, what is the problem? Too many doctors regardless of their above average education and incomes do not find financial independence. Everyone including this site addresses this as an intellectual problem. It is not. It is an emotional problem.
[Off-topic comments deleted.]
The comment regarding “doctors not going broke because of an insurance premium or a point or two on a brokerage account” was not to say it is ok to take advantage of people. My point is to illustrate that doctors have to take accountability for their own short comings and stop blaming everyone else for their lack of financial independence. It helps no one, especially doctors.
[Off-topic comments deleted.]
To spend most of the focus micro analyzing fees and products and blaming every other profession other than the individual doctor for their lack of financial independence I think really confuses the greater point.
Doctors are not achieving financial independence because they are making financial choices based on hubris and ego. I do work with doctors and dentist. I do talk about fees, commissions and sales tactics that people in my industry use. I also tell them if they are making $200,000 a year, you are essentially making in 10 years what it takes the average Household (not individual earned income) 40 years to make, in 20 years what the average household takes 80 years to make. I tell them that there is no reason they cannot achieve financial independence given some BASIC non-complicated choices. It’s amazing how small of a percentage make the right choices.
Can’t say I disagree with any of that. If you save enough money you can retire comfortably even with high ER funds or some cash value life insurance product. But avoiding products designed to be sold instead of bought is a great way to retire sooner or richer.