Who Needs a Financial Advisor?

Hey Paul: We are a middle-class family with three children the oldest headed off to college next fall. We are halfway through a 30-year mortgage but otherwise do not have any debt. All our retirement savings of about $300K is in our employers’ 401(k). Do we need a financial advisor? What would be the benefits as we plan towards retirement and other life goals?

It’s a great blessing to have people in your life that you can rely on for trusted advice and accountability. The trick is, of course, how to identify those people with the skill set and character to deliver advice at a reasonable price.

The truth is that almost anyone can call himself or herself a “financial advisor”. If they provide “investment advice” then generally they need to register with the state and undergo background checks and have achieved a certification such as being a Certified Financial Planner (CFP). But that fact that a person is not a criminal and has some book knowledge of money doesn’t necessarily make them a good financial advisor.

A recent commercial (http://goo.gl/bG0tB5) features a Chase Financial Advisor visiting various retirement parties where his clients profusely thank him for making this all possible. While I am all for being grateful for those who have helped us along life’s journey, it is preposterous to claim that it was the advisor rather than the client who put in 40 years of work that is owed the lion’s share of the credit.

Perhaps the small print of the commercial should include Vanguard founder, John Bogle’s take on financial advisors:

“Our hypothetical fund investor has earned $1,170,000, donated $700,000 to the mutual fund industry, and kept the remainder of $470,000. The financial system has consumed 60% of the return, the fund investor has achieved but 40% of his earnings potential. Yet it was the investor who provided 100% of the initial capital; the industry provided none. Confronted by the issue in this way, would an intelligent investor consider this split to represent a fair shake? “ In other words your advisor brought you a bottle of wine to celebrate your retirement and drove up in the Porsche that you bought him.

Now that I have thoroughly bad-mouthed my own (side) occupation, let me provide some brighter views and various alternatives to getting good financial advice. There are several opportunities to obtain solid financial advice. For those who work in a company with a Human Resources office, some basic but very important guidance can usually be gathered on selecting a health insurance plan, flexible spending accounts, and opportunities to contribute (often with a company match) to the employer retirement account.

A second resource is your tax preparer particularly if they are a CPA. A CPA’s forte is tax planning but some have developed expertise in financial planning. Since they would be familiar with much of your finances from your tax return, turning to financial advice is a natural compliment to their services. My mother-in-law has been relying on David Hudson, CPA for many years for both tax and financial advice.

To truly receive comprehensive financial planning one must typically turn to a “financial planner” which as I mentioned earlier can mean many different things. The Hatfield and McCoy feud in financial advising is between those who are fee-based versus those who are commission based. I won’t drag you into all the gory details but much of the challenge is that people are reluctant to pay for advice but will accept a “free” financial review that almost always concludes with a sales pitch for an annuity, permanent life insurance &/or long-term care insurance. These aren’t necessarily bad financial products but often are riddled with exorbitant fees.

The fee-based financial planner is not necessarily a viable option for middle-class households. A typical comprehensive plan will run you around $2000 and for those assets they manage for you there is around a 1% annual fee. [Shameless self-promotion warning] In my own practice I charge $1000 for the plan and show the client how to manage their assets using Betterment.

Let me ask you something. When you’ve been at a restaurant and got a so-so meal did you complain to the manager? No, probably not. Your ‘problem’ is that you are too nice. And when your supposedly trusted advisor puts the hard sell on you won’t be able to say no or ask the tough questions and expect full answers.

What would be some tough questions to ask your advisor? If I invested the funds in an index fund instead of buying this financial product, what is the probability that I’d come out ahead? [No advisor will answer this. Watch out for a mildly related fact such as ‘70% of seniors rely at some point on long-term care.’] How much is your compensation for selling this product? [Could easily be more in an afternoon than you make in a month.]

Fortunately an imminent ruling by the Department of Labor is going to impose a ‘fiduciary standard’ on all financial advisors. A fiduciary is required to put the client’s interest above their own – a modern version of Love Thy Neighbor as Thyself.   The DOL fiduciary ruling will dramatically change how financial planners provide advice and sell products.

Do you need a financial advisor? You know it sounds like you’ve got some enduring financial principals figured out on your own – living within your means, avoiding debt, and working hard. My first advice would be to self-educate by reading a general book on finances as well as religiously turning to my More-Than-Money column each week. A second piece of advice is to seek out a fee-based planner and pay an hourly fee to get specific advice such as financing your child’s college education.

Dr. Paul Hamilton is an Associate Professor of Economics at Asbury University and a CFP providing financial coaching to middle-class Americans. He is available to provide free workshops to churches, local businesses and other groups.

 Contact him at Paul.Hamilton@Asbury.edu or www.USA-Economics.com