CHAPTER
9

Getting Professional Advice

In This Chapter

• Don’t believe everything you hear
• Buying from a broker
• Fee-only versus fee-based planners
• Robo-advisers, insurance advisers, accountants, and others

If you have a busy career and an active family, you probably don’t have time to do a lot of reading and learning about investing. But if you’re facing some big financial decisions—retirement, college funding, investing an inheritance—you may feel you need to consult a professional.

In this chapter, we’ll examine the different types of financial professionals available to you and look at their costs and levels of service.

But First, a Word on the Media

Just as reality TV shows don’t reflect reality, investment “experts” on TV are more about theater and entertainment than solid advice. How would they construct an interesting show if they continually gave the same boring advice?

Even reputable news and information sources (see Appendix B) spill a lot of words analyzing current events (which you should selectively ignore), short-term performance of specific investments and asset classes (which you should also probably ignore), and changes in government policy (which you should pay attention to, although it probably won’t be explained in enough depth to understand).

Hardly a week passes that I don’t get a mailing for a newsletter, an email for a special analysis service, or an invitation for a seminar that promises to let me in on the secrets of super investors. Today, for example, I received one that touted the high returns of the Moo-Cow Discovery Fund (name changed, of course). They claimed a 21.1 percent annualized return for this fund. The following table outlines the current actual results of the fund according to Morningstar, an independent investment research service.

I’m not saying this is a bad fund. In fact, many people would be quite pleased to have averaged 8.93 percent over the last 10 years. But the fund has nowhere near the performance that the advertisement promised. An author can manipulate the results simply by preselecting the best-performing time period. And if the author knows so much, how come he’s still working? Why hasn’t he retired on his riches?

Before you believe anything you hear from the media, check it out. Ask yourself what is being promoted, what self-interest the source may have in providing the information, and try to cross-check any advice with reputable sources.

Different Types of Financial Advisers

No one works for free. The way in which your financial adviser gets paid may have a strong influence on the type of advice he or she gives you. Before you rely on any adviser’s advice, know exactly what kind of expertise they have, what their legal duties are to you, and what their self-interest is in the recommendations they provide.

Brokers

Stockbrokers are what most of the public thinks of when they think of financial advisers. Stockbrokers were virtually the only advisers available before the advent of fee-only advisers beginning in the 1980s. Because the term stockbrokers has lost some appeal, many brokerage houses (particularly those pitching to the general public) style their brokers as “financial advisers” or “wealth managers.” For the purposes of this section, I’ll call them “brokers.”

Brokers sell you products—stocks, mutual funds, bonds, and other investment vehicles—and collect a commission on the sale. This commission varies depending on the specific product, but is often 5.75 percent of the purchase price.

If you have a small amount to invest (less than $25,000 or so), the broker will generally encourage you to purchase funds he or she recommends, and charge a commission based on what you purchase.

A broker has a legal duty to recommend investments to you that are appropriate for your risk tolerance—usually based on your age and answers you give in an interview or when filling out a risk questionnaire. Be careful how you answer such questions, and understand that what terms you use can indicate different investment strategies. The broker must recommend appropriate investments, but what you tell him or her can change the definition of appropriate.

Let’s look at a possible conversation. You tell the broker that you want “safe investments” and that you “can’t afford to lose anything.” Normally such goals would suggest a portfolio heavily oriented to cash and bonds or bond mutual funds. But wait! Your adviser asks you some questions. Don’t you want growth? Aren’t you worried that your portfolio won’t respond to inflation? You say yes—and you’ve now contradicted yourself and opened the door to recommendations of stocks, stock mutual funds, and maybe even junk bonds, nontraded real estate trusts, limited partnerships, and the risky end of the investment spectrum. I don’t think it’s a stretch to say that the broker is going to recommend investments that pay him or her the highest commissions.

The appropriate standard is problematic in other ways. Let’s say it’s “appropriate” for you to put 60 percent of your portfolio into stock mutual funds. You can be steered to the brokerage house’s proprietary mutual funds, or load (commission-paying) funds that will carry not only a commission for the broker, but also much higher management costs—money that is taken out of returns before they are paid to you, and which support advertising, promotion, administrative costs, and the high salaries paid to fund managers. On the other hand, you could buy the same type of funds, no-load (no commissions paid) with much lower management fees. A no-load fund might have a management fee that is .02 percent or .05 percent, and the same type of load fund may have a management fee of 1 percent or 1.5 percent—a big difference. Either fund might be “appropriate,” i.e., the right type of investment, but the no-load fund is much cheaper and likely to provide better returns.

There is another standard besides appropriate, and that is the fiduciary standard. The fiduciary standard has been fought tooth and nail by the brokerage industry. The fiduciary standard requires your broker to act only in your best interest. Generally, your best interest is what costs you the least and returns the most, insofar as it is humanly possible to know. However, I have never reviewed a portfolio designed by a broker that contained no-load mutual funds.

A broker may offer to help you with a financial plan. You should consider that plan with some healthy skepticism. What if you ask for input on actions that would take significant money out of the investments placed with the broker? Would the broker encourage you to withdraw funds to pay off your house? Purchase a fixed lump-sum annuity not sold by the brokerage?

I spent a year studying for my 10-hour CFP^® exam, took an intensive test prep course, and sat for the exam, which has only about a 50 percent pass rate. (There’s a reason the CFP exam is generally regarded as the gold standard for planning.) But be aware that stockbrokers do not need to pass the CFP exam, only some much easier securities licensing.

Before taking the CFP exam I decided to take the exam for the Series 65 license—the minimum you need to open a business as a planner. I spent one afternoon reading the book. You’re allowed 3 hours to complete the 130 multiple-choice questions, but it’s easy to complete in an hour. In order to sell securities, brokers may be required to pass other series exams—but before you’re impressed, understand what the licenses cover:

• Series 7 Exam to trade general securities (basic exam for brokers); 250 questions
• Series 63 Minimum a new broker needs in order to pass state requirements on securities regulations, ethics, and procedures; 130 questions
• Series 65 Minimum to provide fee-based advice based on person’s financial needs; 130 questions
• Series 66 Combination of 63 and 65; 100 questions

Are there any good reasons to consult a broker? Well, you won’t have to write a check up front, since they work on commission. Also, the plans they create for you are usually offered for free, and you pay only if you purchase the investments.

If you have a large lump sum to invest, if you will never add to it, and if you plan to keep it invested for many years, you may pay less for a broker than if you hire a fee-only planner (discussed later in this chapter). But in real life that’s unlikely, because you will get a call from the broker periodically encouraging you to change your investments to some new recommendations, at which point you will be charged, and generate more commissions.

Your broker is likely to be friendly and affable. They’ll be glad to talk to you if you’re lonely, chat about events in the market, and so on. Everyone who comes into my office suspecting that something isn’t quite right with their plan always assures me that their broker is a very nice guy. I always tell them that if he had a forked tail and horns he’d never sell anything. Nice isn’t what you need in an adviser so much as honesty and expert fiduciary advice. Also, remember that what your broker recommends is what the brokerage house says he can recommend.

Brokerage houses have battalions of research analysts. But the majority of research and “buy” signals they generate are aimed at encouraging you to purchase and exchange your investments. If you’re considering brokerage recommendations, ask your broker to provide you with statistics on what percentage of recommendations are buy, what percentage are hold, and how many sell recommendations are generated—usually only when there’s horrendous news, scandal, or the company gives evidence of going bust (and sometimes not even then).

Brokers’ duties to their clients is the subject of a swirl of controversy. The federal government has recently moved toward new rules requiring all advisers (including commissioned brokers) to be fiduciaries when advising on retirement plans. How this will be implemented or subverted is the subject of breaking news. Please keep abreast of the current situation when considering advisers.

Fee-Based Advisers

Some people get a little angry when they figure out their broker is charging them 5.75 percent for a bond fund that returns 1 percent. No problem, the brokerage industry can fix that by fiddling with the terms a little and hoping people won’t really understand.

So many people have been told, or have read an article telling them, to look for a fee-only adviser, that the brokerage industry came up with the term fee-based to confuse the public—er, represent a revised service.

Fee-based means that you will be charged a fee that’s a percentage of the amount you have invested, often 1.5 percent of your total invested portfolio (fees may drop the more you invest). The brokerage will also have some type of arrangement with any mutual fund companies to pay some fees as commissions to the agent selling the investments. A portfolio will be designed for you, and changes will be recommended depending on the recommendations of the brokerage’s research department. These accounts are also known as wrap accounts (meaning in my opinion that they’ve wrapped additional charges around commission-paying sales).

The portfolios that are brought to me for evaluation after these arrangements are often quite complex, sometimes having as many as 40 or 50 different investments (usually mutual funds, although individual stocks may sneak into some portfolios). There’s usually a great deal of overlap (several of the mutual funds will hold nearly identical investments), they are never no-load, and it’s very difficult to get disentangled—you either have to sell or keep the whole thing. If you want to move out of the firm, you will often be charged a hefty fee to move the investments, or a substantial trading charge for each separate investment, which can really add up. Finally, the complexity of the portfolio all but insures that most investors won’t understand what they’re invested in.

Fee-based arrangements are only going to be pitched to you if you have enough of a portfolio to make the fees worthwhile. Walk in with “only” $5,000 to invest and you’ll be sold a load mutual fund. However, an investment of $50,000 may get you the “services” of a fee-based adviser.

If you’re still considering a fee-based adviser after reading this, be sure you understand exactly how much you’re paying for the advice, in both commissions and wrap around fees. Ask the adviser if they are a fiduciary and whether the funds they are recommending to you are no-load. If they are recommending individual stocks, bonds, or other investments, ask them to show you evidence that these investments have outperformed corresponding mutual funds for at least 10 years.

Fee-Only Planners and Advisers

Fee-only financial planners and advisers should not be beholden to any investment company, nor should they receive or pay referral fees from attorneys, accountants, or insurance agents. In addition, a fee-only adviser should not be selling you any investments. Before you spend even 15 minutes in their chair, ask if they always act as a fiduciary for the entire engagement. If not, drink your free coffee quickly and get out of there.

Fee-only advisers get paid in one of three ways:

• Hourly fee
• Assets Under Management (AUM) fee
• Flat fee or retainer

Let’s look at each.

Hourly planners and advisers This type of fee-only planner or adviser will work on your project and answer your questions for an hourly charge. As long as you have clear questions and are able to supply all the background information they’ll need, the planner/adviser should be able to tell you approximately how many hours your project will take, and may be willing to guarantee you an upper limit (not to exceed …). Expect that such a project will take a minimum of 3 hours, and possibly as much as 15 to 20 hours, depending on your financial picture.

Most hourly advisers will recommend specific investments that are appropriate for your goals and risk tolerance, but they won’t implement it for you. You will have to open accounts, make purchases and sales, and keep on top of the portfolio on your own. You should certainly be able to discuss possible investments with an hourly planner or adviser, but you will be charged for the advice. If you do need assistance implementing the plan, many advisers will sit down with you to do so, but you will be charged for the time.

Advantages of hourly planners:

• They’re probably the cheapest way to go, especially if the advice needed is fairly simple.
• They’re ideal if you just want a second opinion.
• A project by the hour does not necessarily involve investments, so a fee-only adviser will be willing to discuss insurance, divorce, college aid, long-term-care options, debt, or other issues not related to your having a huge portfolio.
• You will get direct personal attention, but they won’t be calling you constantly to sell you things or churn the investments in your portfolio.
• You get sensible investment advice based on independent research.
• These advisers are generally fiduciaries.

Disadvantages of hourly advisers:

• They can be hard to find. Many hourly planners and advisers are solo practitioners operating out of home offices or small offices. They don’t have giant advertising budgets.
• It’s not cheap. Your project will almost certainly take more than 1 hour and hourly rates are generally north of $200, often much more.
• You have to implement the plan. If you never get around to saving, delay making the investments, or only partially execute the final plan, none of the projected results will work as they should. There’s no one who will monitor your actions or progress.
• There may not be much continuity. If you don’t update your plan about every year, or when circumstances change, you may get far off track.
• Every time you contact them, you’re going to get charged. This can make many people reluctant to seek follow-up advice, even when they need it.
• You may feel that the type of investment advice you get—usually no-load mutual funds—was stuff you could have figured out on your own.
• Theoretically, there may be some incentive to run up the hours charged. You can prevent this by getting an agreement ahead of time as to maximum hours.

To find fee-only planners and advisers, check out these avenues:

• Garrett Planning Network Must be fee-only. All members must offer hourly planning; some also offer AUM.
• National Association of Personal Financial Analysts (NAPFA) Must be fee-only and pass a peer review of a sample plan to be a full member.
• CFP Board Be careful here—not all members are fee-only for all functions.
• Financial Planning Association Many members are not fee-only, but you can carefully read their profiles and websites.

Assets Under Management (AUM) advisers Assets Under Management refers to the method for charging for financial planning or investment management where fees are based on a percentage of your total assets being managed by the adviser.

In this version of fee-only planning, you transfer your investments to the adviser’s custodian, and the adviser invests your money in a portfolio.

Your adviser will charge you a fee as a percentage of the assets managed. This fee can be substantial, but it can’t be outrageous. Generally you will see fees ranging from .8 percent to a high of around 2 percent of your assets. The fee will be deducted from your account monthly, quarterly, or yearly and will be based on the value of your account on a specific day. The AUM-based adviser benefits when your account increases in value, and the fee is lower when the account and the market are underperforming.

The adviser will meet with you on a regular basis (anywhere from once a month to once a year), discuss any changes with you, and update your investments. Some AUM advisers will charge you separately for financial planning (usually by the hour). Others only charge you for the initial plan, including updates and changes as part of the AUM relationship. Some will include the plan as part of the AUM, at no extra charge.

Advantages of AUM advisers:

• For that money, perhaps the greatest benefit you receive will be that the adviser will keep you on your plan. You won’t be jumping in or out of the market constantly, and you’ll proceed with a long-term, steady strategy.
• The investments chosen for your portfolio will be prudent and should be low-cost. Generally they will be no-load mutual funds and sometimes individual investments or bonds.
• You can expect that the adviser will take the time to improve your understanding of your investments, and help you strategize a plan to accumulate money or distribute it prudently for retirement income and other goals.
• Your investment plan will actually happen. You won’t hold on to investments because Grandpa gave them to you, or you like shopping at that store, or because you never got around to implementing the recommended buys and sells. Your adviser will execute the plan swiftly and certainly.
• An AUM adviser should act almost as a concierge of your financial life—conferring with attorneys, accountants, and your estate planner if necessary to manage your plan. They should be available as questions and the need for decisions (Can I afford to retire? When?) occur.

Disadvantages of AUM advisers:

• Many AUM advisers require you to invest a minimum amount of assets with them. It can be hard to find anyone who will manage a portfolio of less than $1 or $2 million.
• Even if the adviser does not require a minimum amount of assets, they will generally charge a minimum annual fee. For small accounts, these fees can be on the upper end of the percentage range. The adviser still has to carry insurance, maintain software and support staff, continue professional education, and so on, no matter what the size of the account.
• The adviser’s fee will cut into the returns of your investments. However, there is significant research evidence that working with an adviser will produce better returns for you than doing it on your own, mainly because of the steadying influence on your decisions. Some studies have suggested that working with an adviser can improve your returns as much as 1.5 percent or more.
• There may be some incentive to discourage you from decisions that will take money out of the portfolio—for example, paying off a home mortgage, making big gifts to charity, or purchasing a fixed single-premium annuity.

Flat-fee or retainer advisers Rather than basing fees by the hour or the specific value of your portfolio, flat fee or retainer advisers will give you a fixed project or yearly price. This will generally be based on either the size of your portfolio (and what the adviser thinks it will take to manage it) or the complexity of your project.

You also may be charged this way if your money is locked up in a workplace retirement program that can’t be managed directly by the adviser, but with which you need help.

Advantages of flat-fee or retainer advisers:

• You know exactly what you’ll be charged in a given year.
• You may be billed directly (usually by credit card or through auto-withdrawal from your checking account) rather than having money removed from your portfolio investments.
• You can get the benefits of an AUM adviser even if you don’t have a portfolio large enough to manage, or when all your investments are in workplace or other accounts that can’t be moved.
• The adviser will be a fiduciary.

Disadvantages of flat-fee or retainer advisers:

• The cost will be very close to what an AUM adviser charges.
• Even if your wealth decreases significantly, you will be charged the same amount. If your wealth increases significantly, you’ll probably see your fee increased the next time it’s up for renewal.
• As of now, fewer advisers work this way, so you may have to search to find one who does.

Robo-Advisers

In the robo-adviser model, you fill out a questionnaire online, and an investment plan is generated for you. You may or may not be offered a live conference with a real adviser (and if you are, the management fee will probably be higher). I’ve tried out several of these to see what they’d recommend for a model client.

Disadvantages of robo-advisers:

• You could, in addition to the robo-adviser, get a personal adviser, but you may get a different one each time you have contact. He or she may not be very experienced. This type of job tends to attract entry-level people who are getting their first experience before moving on. They will be confined to the guidelines of their company.
• The portfolios recommended often resemble a target date fund. If the firm offers target date funds, the recommended portfolio will often contain the exact same funds as would have been contained in the equivalent target date. It’s hard to understand why you would pay .3 percent for the exact same mix you could have purchased for nothing.
• Some elements of the portfolio may seem strange. For example, I created a model client with a sample income of $75,000; the service recommended municipal bonds as a component. It’s hard to understand why municipal bonds would be recommended without knowing something about the person’s tax picture and whether they actually need to sacrifice return for tax relief. It may be difficult to get an explanation for how and why the mix of assets was chosen.
• All the “management” is basically portfolio design. The need for insurance, balancing savings with other life challenges, incorporating real estate investments, the challenges of planning for elders or disabled dependents, and individual quirks and preferences are not part of the plan. Robo-advising is, by nature, impersonal.
• Fees may go up significantly over time. One famous low-cost robo-adviser just doubled its fees, with an add-on if you actually want to talk to someone.

Insurance Agents

All insurance is sold on commission. While many insurance agents will offer to create a financial plan for you—surprise!—it’s going to consist of insurance recommendations. Go to a financial adviser for planning and investment recommendations; go to an insurance agent for insurance.

Some states require fee-only advisers who make insurance recommendations to have insurance certification. If, however, they actually offer insurance, they are not fee-only advisers. Some larger AUM advisers will have an insurance broker in the office, and all advisers can provide you with referrals to insurance agents they have worked with. A fee-only adviser should be available to help you evaluate any proposals.

Accountants, CPAs, Attorneys, and Other Financial Service Providers

All of these people offer specialties you might need, but they’re not primarily financial planners. A financial planner acts much like an internist or family practice physician: taking stock of your general health, looking at the big picture, coming up with a treatment plan, and referring you to specialists when needed. You don’t see a dermatologist for a physical.

Some accountants have training in financial planning; the Personal Financial Specialist (PFS designation) and some financial planners may also have a background in accounting or taxes. However, accountants are going to see most plans through the lens of tax planning; if that’s your primary concern, they’re a good choice. Or make sure that your accountant understands your financial plan, and be sure your planner is available to confer.

Many people rely on their divorce or estate attorney for financial advice. But these people are trained in the law, not financial planning, and will (and should) refer you for more expert and involved financial and investment advice.

The Least You Need to Know

• Fee-based advisers, stockbrokers, and other salespeople are required to recommend investments that are appropriate for you; however, appropriate choices may not necessarily be the best choices for you.
• Financial advisers should tell you whether they are fiduciaries, legally obligated to act in your best interests.
• Fee-only advisers should be fiduciaries who charge only for advice and accept no commissions or referral fees. They may charge by the hour, by a retainer fee, or by a percentage of the assets they manage for you (AUM).
• Robo-advisers can offer basic advice, but it may not be fiduciary or personalized for your own situation.
• Accountants and attorneys have specialties that may be valuable and pertinent to your situation, but they are not necessarily experts in financial planning or investment advice.