When selecting a financial advisor, one of the most important considerations for many individuals is how much the service will cost them. Understanding the total cost of the financial advisory services you are currently utilizing, or are planning to secure, is essential to attaining the best service for your unique needs. In this article, we will seek to outline what differences exist between different types of financial advisors, and discuss how those differences translate to the fee structures you will see for certified financial services. In doing so, we will also provide important context that can help you understand if your financial advising fees are appropriate for the level of service you are receiving.
One of the most important things to keep in mind when assessing the costs of utilizing a long-term financial advisor is that not every financial advisor is the same. There are different fee structures, and even for San Diego financial advisors that use the same fee structure, there are differences in what they charge. What you are getting for your money can also vary substantially between different types of financial advisory firms, and between individual financial advisors themselves. In the end, if you find that your advisor provides you valuable insight and acts as a credible, dedicated steward of your investment while always putting your best interests first, you will be much more likely to find their fees palatable. This highlights the importance of selecting a financial advisor that you trust, that is reputable and credible, and that has the insight, qualifications, and knowledge base to help you make the best long-term financial decisions for your unique needs.
Different Standards, Different Fee Structures
In order to attain an answer to the question of how much would a financial advisor cost, it is helpful to first understand the differences between types of financial advisors and the impact these differences can have on cost. There are two broad categories of financial advisors that you would be working with. These are brokers and Registered Investment Advisors (RIA). These two broad categories encompass a wide range of financial advisors, with varying degrees of expertise and knowledge. However, these two broad categories are useful to understand because they have a direct impact on the fee structure that the financial advisor uses.
In the financial advising world, there are two distinct investment professional standards that different advising groups are held to. Both of these standards are legally enforceable. Aside from that commonality, they are substantially different in practice. These two standards are the suitability standard and the fiduciary standard. Let’s take a look at how these two standards are different.
The suitability standard also referred to as the suitability obligation, is one of the two primary legal standards that financial advisors may be held to. The suitability standard is set forth in the Financial Industry Regulatory Authority (FINRA) rule 2111, which can be found in full here. The suitability standard is considered less onerous than the fiduciary standard. Simply put, the suitability standard requires that a financial advisor must make recommendations that are suitable to their high-net-worth clients.
Within the suitability standard, there are three obligations that must be met during interactions with a client. These are reasonable basis suitability, customer-specific suitability, and quantitative suitability. Reasonable basis suitability requires that an investment advisor’s recommendation is at least reasonable for some people and that the investor themselves understands the risks associated with that investment. The customer-specific suitability requirement obligates the advisor to make recommendations that can reasonably be considered suitable for a particular client. Lastly, the quantitative suitability requirement holds that a series of recommendations or transactions carried out on an investors behalf should be able to be considered suitable when looked at individually and while looked at as a whole. In other words, the totality of an advisor’s recommendations or actions taken on behalf of a client must be considered suitable, not just each individual recommendation or transaction separately.
The fiduciary standard, or the fiduciary duty, is considered to be significantly more exacting than the suitability standard. The word fiduciary refers to a relationship between two parties involving trust. Used as a noun, a fiduciary is another word for a trustee. This should give some sense of what the fiduciary duty is. In terms of financial advisors, the fiduciary standard is fairly simple. It is a legal obligation on the part of the financial advisor to place their client’s interests before their own. Diving a little deeper into the fiduciary standard, there is an emphasis on maintaining loyalty to the client. Ultimately, a financial advisor working under the fiduciary standard must fully disclose all conflicts of interest that might exist, disclose as much information as possible about an advised course, must act in the best interests of their client at all times, and must act prudently at all times.
By looking at both of these standards, some distinctions become readily apparent. The first is that the threshold for the suitability standard is substantially lower. A financial advisor held to the suitability standard must simply recommend something that aligns with the client’s investment profile. If the recommendation could be seen to reasonably align with the client’s wishes from the perspective of the advisor, it would be considered permissible under the suitability standard. However, that doesn’t necessarily mean that the recommendation was made with the client’s best interests in mind. It is here that we begin to see an intersection between the different standards to which financial advisors are held, unique fee structures between these different types of financial advisors, and the reason why there are different fee structures in the first place.
With knowledge of the different standards that a financial advisor can be held to, let’s take a look at which types of financial advisors fall under which standard. Brokers are the largest group of financial advisors. Brokers must register with FINRA, and must abide by the suitability standard. This means that in meeting their suitability obligation under FINRA regulations, brokers must present their high-net-worth clients with a recommendation that can be reasonably viewed as suitable. There are many different investment options that may be suitable given a client’s risk tolerance, long-term goals, or desired retirement income, which are all factors that would be included under the suitability standard. Some of these investment options may be better than others, or more closely aligned with the client’s wishes. A broker wouldn’t necessarily have to include those options in their recommendation, but could instead recommend an alternative option that was still permissible because it was considered suitable.
Brokers are distinct from an RIA in that brokers are typically paid through a commission based system. This system allows the broker to receive a flat rate for each investment transaction. Some brokers charge an annual rate on the total investment as well, for acting as a steward over the investment. What is important to note here is that this commission-based system is advantageous for brokers for a number of reasons. First, consider that if a broker is paid by a commission on each transaction, there is an incentive to continue making repeated transactions, even if they aren’t strictly necessary or in the client’s best interests. Second, there is an incentive to steer clients towards certain investment vehicles that offer a higher commission rate for the broker. While this is certainly not always the case, understanding this fact can inform decisions about who you want to steward your investment over the long-term.
In contrast to a broker, an RIA is held to the legally enforceable fiduciary standard. As a fiduciary advisor, the RIA must always act in your best interests. This is a much higher threshold to reach than simply providing recommendations that are suitable. In order to meet this standard, the fiduciary must intimately understand exactly what your financial situation is, what your long-term goals are, how you view and tolerate risk, and a variety of other factors to make a recommendation that is in your best interests. With this higher standard comes a greater responsibility to do careful research, make targeted and impactful recommendations that are beneficial to the client, and to maintain an ongoing relationship and have open and transparent communication with the client.
Not all RIA’s are a fiduciary advisor all the time. Many RIA’s are also registered as a broker, which is considered a Dually Registered Advisor. So, it is important to know if the RIA you are working with is acting as a fiduciary or a broker during your interactions. With that being said, assuming the RIA is an Independent Registered Advisor, or rather solely acts as a fiduciary advisor, they are typically paid through a percentage of the total Assets Under Management (AUM). Most often, this percentage is around 1% annually. The use of an annual percentage fee for managing the assets of a client reflects the long-term commitment that comes along with a fiduciary advisor. The fiduciary advisor will continue to exercise stewardship over your investments over time, always with your best interests in mind, and receive a percentage of the mutual funds they manage annually.
Ancillary Costs and Markups
There are a couple of other factors to consider when assessing your final financial planner services cost. Many financial advisors apply a number of ancillary costs that can drive up the total cost of utilizing their service. In addition, many brokerage and RIA firms apply a markup that can substantially increase the cost of using their service. These two factors, ancillary costs and markups, can have a large impact on your financial advisor price.
Ancillary costs often include fees for extra financial services provided. As we outlined, RIA’s that are an Independent Registered Advisor charge an annual flat percentage fee based on the total assets under their long-term care. Brokers or Dually Registered Advisors can charge a variety of other fees in addition to the commission they collect. These include a number of fees that may not be readily apparent from the outset, such as account fees, management fees, sales loads, purchase fees, and 12b-1 fees.
In addition to ancillary fees, some large brokerage firms have been known to apply markups to bond purchases. Bonds are a popular vehicle for investment, but the rules in how bonds were purchased by investors through brokers significantly favored brokers until relatively recently. Large brokerage firms often buy up bonds, and then sell those bonds to customers during the same trading day. They will often apply a markup these bonds, selling it to the client for more than they bought it for earlier in the day. Up until recently, this process was not transparent, leaving the individual purchasing bonds to assume that the price they paid was the actual price of the bond when in reality they were paying the price of the bond plus a markup applied by the brokerage firm. This resulted in substantial revenue for brokerage firms. Under new regulations, brokerage firms must now disclose the markup they apply to bond purchases to the investor, however, the investor must pay close attention to these fees to understand the true cost of utilizing that brokerage firm.
When you add it all up, the fees for utilizing a financial advising service can be substantial. This is particularly true with brokerage firms, where fees may not be completely clear from the beginning. Even with an RIA acting as a fiduciary, there may be costs associated with on-boarding or financial planning. Bull Oak Capital doesn’t charge ancillary fees, but instead is compensated through an annual rate for the total AUM. Not all fees for financial advisors are this straightforward. Because of the lack of transparency, and the fact that there are significant differences between different types of financial advisors, potential investors must go beyond simply asking “how much does a certified financial planner cost?”
Rather than this approach, take the time to research exactly what type of financial advisor you are utilizing, and ask them pointed questions about their fee structure. Your potential financial advisor should be open and forthright about any fees they charge. If they aren’t, it is time to find a financial advisor that will fully disclose the fees associated with their service.