If you know what investment advice costs, you can make better decisions about what you’re spending.
A smart consumer knows what things cost, and is willing to pay the price to get what she wants and needs. That attitude is just as important in investing as it is in selecting food, shelter, and clothing.
You can evaluate the advice you’re paying for by weighing what it costs against what you gain. If you know, for example, that you’d still be putting off financial planning if you weren’t talking regularly to your advisor, you’re probably convinced that you’re getting your money’s worth. Or if you’ve had help choosing between two insurance alternatives or dividing your investment principal among different asset classes, you’re probably well aware of the benefits of professional advice.
Of course, there are times when even the best advice doesn’t work, or when investments an advisor recommended don’t make money. You have to pay for that, too. But over the long haul, the cost of professional help tends to pay for itself.
Five ways to pay
You pay for financial advice and for the investments you make in one of five ways, depending on the advisor you use and what you buy. Sometimes the cost is built into the price of the investments, sometimes it is added to the cost, and sometimes you pay for advice separately. You should ask for a statement of costs from those advisors who don’t provide one automatically.
| Fee only | Fee-based | Hourly rates | Salaried | Commissioned |
|---|---|---|---|---|
| Fee-only planners charge a fee but don’t sell investments or insurance. | Fee-based advisors charge a fee and may earn commissions if licensed to sell investments or insurance. | Some advisors charge hourly rates but not annual fees. |
Some advisors are paid a salary no matter which investments they sell. | A person who works on commission earns a percentage of any sale as payment for handling the transaction. |
The cost of commissions
The advantage of up-front sales commissions is that you know from the start what the price will be. For example, you may pay a commission each time you buy and sell stocks. It’s rarely more than 2% of the price for listed stock and can be as little as a flat $4.95 for an online transaction. The charges are added to the purchase price or deducted from the selling price and printed clearly on your confirmation statement.
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Commissions on load mutual funds vary from company to company and from fund to fund, and are clearly stated in the fund prospectus. The charges may range up to the FINRA limit of 8.5%, though they are typically less. Typically, the charges are subtracted from the amount you invest to buy or receive when you sell. You may also pay marketing and promotion fees known as 12b-1 fees on certain mutual funds.
Insurance companies also pay salespeople a commission on annuity and life insurance products. The amount is built into the premiums you pay.
Hands-off-investing
For some extremely wealthy investors, managing a portfolio is a full-time job — for someone else. Well-compensated financial advisors known as money managers are authorized to make all decisions related to their clients’ portfolios, including buying and selling investments. These are known as discretionary accounts, and the fee for this advice is usually a percentage of the account value, decreasing as the value rises.
Caveat Emptor
Buyer beware
Some financial professionals who earn high commissions on certain products they sell may not always reveal the amount they stand to gain. In fact, a commission may never be mentioned at all.
Commissions on some types of insurance, for example, may amount to 100% of the first year’s premium. However, those costs are often built into the cost of the policy, so you won’t know what they are unless you ask. It’s not rude to press your questions about costs. It’s the only way to decide whether the cost of a product is justified by its value to your plan. Some investments pay high commissions to the people who sell them:
- Some fixed-income investments
- Some tax-deferred annuities
- Nontraded REITs
- Limited partnerships
Doing it your way
Can you do your planning on your own and use a licensed broker only to buy and sell? Certainly. You’ll have no trouble finding someone ready to work with you in that capacity. The biggest problem you may have, if you’re like other self-directed investors — especially those that are just starting out — is following through on your intentions. On the other hand, there’s lots of excellent information available about financial planning and investing in print and online.
You can use this information to develop your expertise, define your strategy, and choose investments. Your investment costs, if you do the spadework yourself, will come from paying the sales commissions on investments that have them, plus management and other fees when they apply. Just be sure you check out the record of any broker you’re considering at BrokerCheck on the FINRA website.
What Is The Real Cost Of Financial Advisor? by Inna Rosputnia
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