Financial advisers make money in a number of ways. Not all of them are desirable.
With investment fees still in the news, highlighted by the Obama Administration's new study, you need to pay attention to how much financial advisers are charging you. In many cases, it's too much.
You have a choice in how you compensate advisers, although you will have to ask them what their business model is before you sign up with them.
How can tell if you're being overcharged? It depends upon what you want to do. First, let's ask three questions.
1) Do I want financial planning services?
If this is the case, you should be charged either a flat fee or by the hour. This service entails retirement, college, tax, cash-flow and estate planning in varying degrees.
Most importantly, if you want financial planning, you have a number of objectives and you don't want to do it yourself. Know what those objectives are before you approach a planner.
If a planner is working in your best interests, they shouldn't also be selling you investments. That's a clear conflict of interest.
Don't need an adviser or planner? Then go online and choose a robo-adviser to save a lot of money.
2) Do I just want transactions?
This is for do-it--yourself investors who just want to trade or buy and sell stocks. mutual funds, ETFs, bonds or other vehicles.
Generally, DIY investors know what they want and when they want it. However, if they are day trading, they will probably lose money after expenses.
If you fit in this category and don't want financial planning services, go with the cheapest, deep-discount broker on the Internet. Why pay more?
3) Do I want money management?
This can get thorny. Many people think they need soup-to-nuts portfolio management, which usually costs at least 1% of assets annually.
Most money managers, though, aren't worth it -- unless they can consistently beat the market. Most can't.
Nevertheless, some investors are willing to pay more for handholding, rebalancing, portfolio design and risk adjustment. That's fine if you're getting your money's worth.
Many brokers, however, claim to be money managers, when all they are doing are churning your portfolio to generate commissions.
If you're going to go the money management route, chose a fiduciary such as a certified financial planner (CFP), registered investment adviser or chartered financial analyst.
Fiduciaries are legally obligated to do right by you and not just earn commissions.
Any financial adviser can set you up in no-commission mutual funds and ETFs and provide a little handholding. In that case, you will pay for annual fees on the funds plus an annual investment fee.
You can also set up your own portfolios online.
This infographic spells out some important details.
What Should You Avoid?
This is perhaps the easiest question to answer.
Stay away from any broker selling "load" (back-end or front-end) mutual funds or insurance products that carry a commission. There are thousands of mutual funds that can be purchased directly without a commission.
Also avoid any funds or vehicles sold with "12b-1" or "wrap" fees. These expenses eat into your investment and add no value to your portfolio.
The bottom line is always how much you keep after fees, taxes, inflation and timing the market.
For most investors, a simple buy-and-hold portfolio of the cheapest exchange-traded funds will do the job at a fraction of the cost of a money manager, broker or investment adviser.
