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April 18, 2006


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Never, ever, use any financial adviser who can't or won't explain how he gets paid. Some work on a fee for service basis. That doesn't mean they're good, but it improves the odds a bit. Some will charge you a percentage of the amount they are managing for you. The more money you have, the easier they are to find. Of course, then you have more money at risk and probably should be very careful. Then there are the guys thriving on the commissions they get on the investment products they sell. No thanks.

Every advisor can provide you with a copy of his or her ADV-II form to explain their fee structure. This offers a good insight into whether a conflict of interest will arise, but I believe you put quotes around "financial advisor" because people use this term casually when there are actually some formal designations, such as Investment Advisor.

The whole issue is rather complex and is symptomatic of an age old truism: it is hard to hire good help. I wouldn't write off the whole profession over a few bad advisors.

See, this is why I warn people about taking investment or finance advice from someone who has something to sell you. Whose best interests do they have in mind? Yours? Not hardly. The ideal advisor would be paid a percentage of your portfolio's performance -- rather like a legitimate literary agent gets paid only when they sell your work.

Sad to say, but pay for performance, would give incentives to extreme risk taking. Even if someone is getting a commission, does not mean they do not have your best interests in mind, but I do prefer fee based planning.

Performance-based compensation encourages risk, as klauss notes, but it is also limited by the Investment Advisers Act of 1940. An Adviser cannot engage in performance-based commission unless the client has 5 million in assets with the firm or a net worth of 1.5 million. At least, this is my last recollection of the regulation, but someone else may be able to shed more light on this.

The bottom line is that fee structures for investment advice (as it pertains to purchasing on behalf of a client) are well regulated and set up to avoid a conflict of interest. If an adviser is getting kickbacks for purchasing investments with your money, he needs to disclose it or else he is violating SEC regulations.

However, I think the discussion at hand is about financial planners, which is a different case altogether. While an adviser can purchase investments on behalf of the client (thereby acting as a fiduciary), a planner is not directly involved in the transaction. I don't believe there is any regulation to prevent conflict of interest, but I could be mistaken. Could any financial planners in the crowd speak to this?

This very problem is currently being debated by the financial planning profession itself (Bob Veres, who really is the leading commentator who critiques the financial planning profession, has some very good articles on the topic. I think you can find him at The debate is how highly ethical fee-only advisors can show the public that they are different than sales-oriented/commission-based advisors.

As a financial planner myself, I have found this to be a major problem (as small fee only firms just can't afford to pay the millions to list ads in television and in magazines). I think that the public see these ads and believe that those firms are "financial planning" firms, which they clearly are not. Clients just don’t understand when I tell them that I sell no products, make no commissions, and only charge an hourly rate. It as if they didn’t know that that was an option, therefore they are more suspicious of it… While I love suspicious clients (as it is the best guardian against abuses), I don't like clients saying why are you charing $XXX for a financial plan, when Joe Schmoe over at _____ Bank will do a financial plann for free. The client doesn't know that Joe Schmoe is earning large commissions and when you try to explain that concept to clients, it is as if they don't get it.

Out of frustration, I created a site (, with the aim of providing free financial advice -- ultimately to show the public who is and who is not competent and/or sales driven... I wanted to let financial advisors answers speak for the quality of their services…

Ultimately, a site like that will not cure all ills. I do think that the government will have to start cracking down on sales-oriented "financial planners," to cleanse the profession (as they have recently done with the Merrill rule, which prohibits broker/dealers and their reps from calling themselves “financial planners.”).


FMF: Anyone can call themself a "financial planner". Look for one who is a CERTIFIED FINANCIAL PLANNER(TM).

Duane: Not every advisor files an ADV Part II, only Registered Investment Advisors. There are plenty of great fee-only advisors who are not RIAs.

Duane(2): Not all investment advisors are regulated by the '40 Act, ie, hedge funds and others who are exempt.

FMF: I am a CFP(R) and I am an RIA and I can tell you that there are instances where taking a mortgage and investing the money makes sense. Example: A CA resident in the 35% federal tax bracket borrows money against his home and invests the proceeds. After tax considerations, he only needs to earn 3.62% on his investments to break even. You can do that with CDs or Treasuries! (The complete computation is more complex than that, but I've taken up enough space here).

THC --

Yes, under the right conditions almost any financial product/move can be made to look good. But I'm not talking about the extreme exceptions here -- I'm talking about what's the best way to go in the vast majority of the cases.


Thank you for the clarification. I think your explanation brings home a point which is deserving of a discussion topic of its own here. Namely, boiler plate financial planning which works for 90% of cases has a drawback. The value of a (credible) financial planner is to identify every person's exceptional case and to maximize their decisions.

Put another way, someone shouldn't expect extraordinary returns by doing ordinary things.

I realize that the editorial position of FMF leans toward DIY, but these outside cases are pretty interesting. I would find a "planners workshop" of sorts series on FMF to be quite interesting. I'm imagining an articulated scenario for advice and then a dialog among planners to weigh in on various considerations. This would be informative to the DIY crowd as well, but it may also illuminate for the right time to bring in paid advisors.

Duane --

How about you put that on your blog and I'll link to it? ;-)

After eleven years of working for various brokerage firms, I recently started my own firm ( and registered as an investment advisor (RIA). The RIA is the only means of doing business that allows the use of the term financial planner. The RIA is also the only form of business that holds financial planners to a higher standard than stockbrokers or unregistered financial advisors.

The brokerage firms that I previously worked for claim to have higher standards; however, they do not allow their advisors to register as investment advisors. As a result, their advisors are not held to the higher standards imposed on RIAs. This is not to say that some individual financial advisors who work for brokerage firms do not hold themselves to high standards. It does mean that their advisors are not legally held to the higher standards.

As a financial planner, I have always held myself to these standards. In fact, I founded my own advisory practice to voluntarily agree to be legally held to these higher standards. These higher legal standards are imposed because, as a RIA, I am a fiduciary to my clients.

Clients often ask me “what the heck is a fiduciary, anyway?” The short answer is that a fiduciary is one that is legally obligated to put the clients best interest over the financial planners own best interest.

Let me give you an example to help explain the difference between the financial planner that is held to a fiduciary standard and one that is not. Say an investor, who we will call Bob, has opted to work with a broker at a large brokerage firm. On the recommendation of his broker, Bob purchased a popular class B Fidelity mutual fund. This fund costs Bob a whopping 3% a year, even though the broker was aware of and had access to similar funds that would have been considerably less expensive.

Why was Bob sold such an expensive fund without being given any other options? It is simple. The brokerage firm and advisor earn their living by selling products (earning commissions), so of course they are going to sell the more expensive product to drive revenue (at Bobs expense). Unfortunately, this is a perfectly legal practice for brokers and their advisors as long as the investment was suitable for the individual clients age and risk tolerance. It is legal, but it is not in the clients best interest.

On the other hand, had Bob been lucky enough to work with a RIA financial planner, the financial planner would have been required to explore all options, recommended the option that the planner felt was most advantageous for Bob, and expressly disclose any conflict of interest that the financial planner may have had. As a result, the RIA financial planner may have recommended a comparable Vanguard fund, which only costs a mere .25% per year, in an effort to increase Bobs overall after-expense return. This is what was in Bobs best interest and what Bob deserves.

To make the point even clearer; have you checked out the new disclosures that the SEC has required brokerage firms to place on sales literature for their fee based accounts? Basically the new disclosures state that brokerage firms do not offer advisory accounts and the brokers interests may not be the same as their clients.

This disclosure is needed because it states the reality of the brokerage business model; however, think about the implications of this disclosure. Brokerage firm are required to openly admit that they do not give advice and they may put their interests ahead of their clients interests. Also, think about how the brokerage firms have made these SEC mandated disclosures. Have you ever heard of these SEC mandated disclosures before? I am guessing that you have not, because brokerage firms have opted to make these SEC mandated disclosures by using small print hidden on the bottom or the back of their sales literature.

The brokerage business model is simply not acceptable. Clients deserve better. My advice to you is caveat emptor. Ask your advisor if he or she is a RIA. If your advisor is not a RIA, I highly recommend that you contact a RIA to review your portfolio. You will probably be surprised by what your financial advisor did not tell you.

two recent articles about the pitfalls of percentage based fess is that the advisor will only do thibgs that keep money under his control. he will not give insuranced advice or mortgage. also another study found that buy and hold investors are much better paying a one time commision than all those years of performance fees. also a fee based planner never makes sure the plan is implemented.

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