By Stacey Ritzen, WCI Contributor
Coming up with your own financial plan seems like a formidable task for the uninitiated, especially for those early in their careers who are trying to prioritize paying off student loans, saving for a house or family, and planning for retirement all at once. But even later in life, some people struggle with financial planning, particularly when it comes to wealth management. If this sounds like an all-too-relatable struggle, then a financial advisor could be a good investment, so to speak, rather than taking a gamble with your finances.
However, like many niche fields, financial advisors don’t necessarily come cheap, and it can be challenging to weed out the inexperienced and the opportunists. A bad financial advisor or even one who charges you outrageous fees could set you way back on your journey to financial freedom. In other words, you might kiss a lot of frogs before you find yourself a prince. Generally, the best advice for choosing a financial advisor is to find someone who offers good advice at a fair price, like those on our recommended financial advisor list.
The Role of a Financial Advisor
The most important thing to understand about financial advisors is that they don’t possess a crystal ball to help you make informed decisions. The role of an advisor is not to predict what the future has in store or to game the stock market.
Instead, you should think of your financial advisor as a partner. That means they will need full insight into your income, any debts you may have accrued, and your spending and saving habits. Armed with this knowledge, financial advisors can assist in outlining a roadmap to help clients across many different areas of finance.
What Does a Financial Advisor Do?
Quite simply, a financial advisor should assess their client’s financial needs and provide guidance to help them develop a financial plan with clear-cut short- or long-term goals. These goals could constitute budgeting, debt management, investment advice, taxes, or retirement and estate planning. But financial advisors are also not one size fits all, and depending on an individual’s needs, they may require more than one advisor to help them tackle various aspects of their finances.
Once a plan is established, an advisor should work closely with their clients to ensure that they stay on track while making any necessary adjustments along the way. Just as our hectic lives change from day to day, our financial goalposts may also need periodic fine-tuning.
Though physicians do face some unique financial challenges compared to other fields—due, in part, to factors such as substantial student loans, a late start to their professional lives, and high incomes right out of residency—don’t be fooled by financial advisors who specialize in medical professionals and then charge accordingly. For the most part, any decent advisor should provide adequate guidance to a doctor in the same way they would any other professional. Ninety-five percent of what this blog covers applies to everyone, 4% of it just applies to those in the top tax brackets, and probably only 1% truly is doctor specific. It'll be the same with financial advice.
Financial advisors often serve as both a financial planner and an investment manager. If you just need one of those services, it is best to just hire that individually. If you need both, make sure this person is really doing both jobs well.
Creating a Financial Plan
When developing a financial plan, the fundamental question you need to ask yourself is: how can you reach your financial goals while assuming the least amount of risk?
First, you should start by assessing your current financial situation to get an idea of where you stand. What is your debt-to-income ratio? What age do you plan to retire? How much will you need to have saved and invested to live comfortably?
Once you’ve ascertained these factors, you can start implementing some goals. For example, if the priority is to pay down debt, then a good idea is to consider tackling your high-interest loans first. If retirement is your main concern, you might want to calculate how much you’ll need to contribute to your employer’s 401(k) plan and perhaps even explore individual retirement accounts (IRAs).
But those are just a couple of examples. Other considerations people have when creating a financial plan might be setting money aside for emergencies, saving for children’s education, or long-term wealth management. Unfortunately, the average layperson may not consider all these aspects on their own, which is why financial advisors are typically in high demand. Doctors can develop their own DIY approach, but oftentimes, they don't have the confidence or the desire to try it.
Active vs. Passive Management
Once a financial plan is in place, it’s time to decide how closely you or your financial advisor will need to manage your plan. For those who need help managing investments, active and passive management are two different approaches to portfolio strategy.
Active management, as the name suggests, involves a more hands-on approach to tackling finances, which is also why many people turn to financial advisors. Those who need their finances overseen with active management tend to buy and sell stocks and attempt to outperform the market, typically at greater risk and typically without success.
On the other hand, passive management is a more risk-averse financial strategy. Instead of buying and selling, passive management involves selecting a market benchmark, such as the S&P 500, and attempting to replicate that performance. For example, most employer-run 401(k) plans are passively managed by the plan administrator. The historical data suggests that passive management outperforms active management the vast majority of the time, especially over long time periods and especially after-tax. Financial advisors who wish to advertise at The White Coat Investor must predominantly use a passive investing approach, or we simply won't take their money (and wouldn't be able to send them much business anyway.)
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Do I Need a Financial Advisor?
Well, that depends. It could be argued that no one needs a financial advisor. With no shortage of books, blogs, online courses, and other resources available at your fingertips, many people could manage their own finances without having to pay someone to do it.
And there are several advantages to a DIY approach. For one, managing your own finances saves money that you’d be otherwise shelling out to a planner, especially if you're paying them an annual Assets Under Management (AUM) fee. There are also fewer surprises, and there'd be no risk of being taken advantage of. Depending on the business model of your financial advisor—which we’ll get to in a moment—some stand to benefit from client portfolios; only that’s your money they’re gambling.
Another benefit of managing your own plan is that since you’ll have an intimate understanding of your finances, you can make on-the-fly decisions without having to wait for office hours. Plus, nobody will care more about your money than you.
But while serving as your own financial planner is all well and good on paper, the reality is that not everyone has the interest or bandwidth to manage their own plan. And there’s no shame in that either. Time is money, of course, and financial planning may just be something you’d prefer to outsource. Dr. Jim Dahle has estimated that 80% of docs want and need a financial advisor. Most just aren't interested enough to do it well themselves.
Financial advisors can also be a good investment for busy “high roller” clients with their hands in a lot of pies and who need someone with specific expertise. In those instances, a planner could even end up paying for itself.
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Costs of a Financial Advisor
We’ll repeat it again, because it can’t be stressed enough: Make sure you find an advisor who gives good advice at a fair price.
While fees can vary across the board, a good rule of thumb is that an annual four-figure amount is a fair price to pay for financial advice. Let’s be clear—unless you’re just looking for someone to prepare your taxes or review your student loans, you won’t find decent advice for under $1,000 (and really, you probably wouldn't want that advice anyway!).
However, since most doctors can get high quality financial planning and investment management for less than $10,000 per year, it seems silly to pay more than that.
Pricing Models for Financial Planners
In assessing the costs of a financial planner, it’s important to understand how your advisor is paid. There are several different pricing models for how companies and individuals charge for their service, all with pros and cons.
The first is an hourly fee, similar to how an attorney is compensated for their time. While this is probably the most straightforward and transparent from the client end, this model tends to be less popular with advisors because it doesn’t bring in a steady stream of revenue, such as a percentage or commission-based model.
Though financial advisors who charged by the hour used to be difficult to find, it’s become more of a common model in recent years.
An annual flat-fee retainer is also quite uncommon. In this arrangement, the client is apt to draw the short straw because the advisor gets paid the same either way. Once the money has been exchanged, there’s less motivation for the advisor to manage their client’s account actively.
An assets under management fee is another popular pricing model where the financial advisor gets paid a percentage of their client’s portfolio. However, these advisors tend to take on high-end clients, typically with assets starting at $100,000-$1 million. Unfortunately, that could rule them out for those who really need help with developing and implementing a financial plan early in their careers.
Finally, there are commission-based models, where the advisor would make money from selling you their products, but it’s generally recommended to avoid these at all costs as these people tend to be “financial salespeople masquerading as financial advisors.”
And no matter what, it’s important to keep in mind that you absolutely can (and should) negotiate with your financial advisor.
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How to Choose a Financial Advisor
Now, the bad news. Unfortunately, the financial advisory field is not unlike the Wild West, and there are a lot of unqualified or inexperienced advisors out there or just plain bad actors. It’s not unrealistic to say that the vast majority of financial advisors are just not very good—and worse, many are likely to pose a detriment to your financial health. But there are a few things to look out for that can help weed out the chaff.
First and foremost, you’ll want to find a financial advisor who upholds a fiduciary duty, which is kind of like a Hippocratic Oath for financial planning. A fiduciary duty means that a financial advisor is obligated to put your best interests before their own, and they typically charge based on a monthly or annual flat fee-based model.
Choosing a meaningful designation is also crucial—as there are dozens, if not hundreds, of credentials a financial advisor can obtain. But not entirely shockingly, many of them aren’t worth the paper they’re printed on.
There are only a handful of accreditations you’ll want to keep your eyes peeled for, and these include CFP (certified financial planner), CFA (certified financial analyst), ChFC (chartered financial consultant), and CPA/PFS (certified public accountant/personal financial specialist). Not only do each of these accreditations require over 200 hours of study and some experience, but they typically involve at least one exam to pass.
Still don’t know where to start? Fortunately, you’re in luck. The White Coast Investor has already done the legwork in vetting a comprehensive list of financial advisors, which is regularly updated and assessed based on feedback.
The White Coat Investor is filled with posts like this, whether it’s increasing your financial literacy, showing you the best strategies on your path to financial success, or discussing the topic of mental wellness. To discover just how much The White Coat Investor can help you in your financial journey, start here to read some of our most popular posts and to see everything else WCI has to offer. And make sure to sign up for our newsletters to keep up with our newest content.