The financial services industry is an enigma to most people, both because financial literacy is rarely taught in schools, and also because the industry tends to make things more complicated than necessary. However, the industry has thankfully been shifting toward greater transparency concomitant with a continued shift toward putting clients’ interests first.
One important challenge, however, is that there is no regulation around the titles – so simply because someone calls themselves a "financial advisor," or a “financial planner,” does not mean that they will charge transparent fees or even put their clients’ interests first. Unfortunately, the onus is on you as the consumer to dig deeper to understand why type of financial professional you’re engaging with.
Toward that end, we’ll break down some of the jargon to give you a clearer understanding of the financial services industry so that you can better discern which types of advisors you should consider engaging with. Specifically, we’ll dive into the following:
● What are the different types of financial services professionals?
● How are those professionals paid?
● Which professionals are required to put their clients’ interest first? (Hint: not all of them, and not all the time.)
● What are some of the most important credentials for the professionals who charge transparent fees and put their clients’ interest first in all circumstances?
Differentiating Between Financial Professionals
There are many different titles and labels for individuals and firms within the financial services industry. While not all-encompassing, below is a solid list of some that you may come across:
● Financial Advisor/Planner (or Wealth Manager/Advisor) While it is common to see different titles here (as noted above), the idea of a financial advisor is someone who provides financial advice, guidance, and recommendations to their clients to help them achieve their financial (and life) goals. Depending on the scope of an engagement, a financial advisor could provide advice surrounding multiple areas of financial planning, such as investment management, income tax, estate and trusts, risk management and insurance, etc.
However, note that this is not a regulated designation – just because someone calls themselves one of these titles does not automatically mean that they have a certain level of education, experience, or – most importantly – that they are required to put their clients’ interests first in any circumstances.
● Registered Investment Advisor (RIA):
RIAs are registered either with the Securities and Exchange Commission (SEC) or their state securities regulator, depending on their size. They must act in a fiduciary capacity with their clients and are required to disclose any possible conflicts of interest. For any investor seeking advice that aligns most with their best interests, you would want to work with an RIA. An example of a Registered Investment Advisor would be working with a fully independent firm like Soaring Wealth.
● Broker-Dealer (BDs)
Most broker-dealers are members of the Financial Industry Regulatory Authority (FINRA). BDs are different than RIAs in that the former are held to the “suitability standard” when offering financial and investment advice, which is a much lower standard than the fiduciary standard which RIAs are held to, and allows for more conflicts of interest. BDs include the main wirehouses, such as Wells Fargo, UBS, Morgan Stanley, and Merrill Lynch.
● Certified Public Accountant (CPA)
A CPA is a designation given by the American Institute of Certified Public Accountants (AICPA) to individuals that pass the Uniform CPA Examination and additional requirements. Within the various career paths of a CPA, one of them is working with individuals and businesses in their role in income tax preparation. Because taxes are so intertwined with many financial planning decisions, it is common for CPAs to work closely with financial advisors and their mutual clients. Depending on the scope of work, CPAs may charge clients hourly or project-based.
● Insurance Agent
An insurance agent is a professional who sells an insurance company’s products (such as insurance and annuities) to consumers for a commission, which is partly paid by the client, with other financial incentives paid by the insurance company itself. Examples include licensed insurance professionals who work for Northwestern Mutual.
● Estate Planning Attorney
Estate planning attorneys are critical to the preservation of any household’s wealth. Just like CPAs, estate planning attorneys typically work closely with financial advisors and their mutual clients. Depending on the scope of work, estate planning attorneys may charge clients hourly or project-based.
● Banking Institutions Banking institutions offer various products in exchange for fees, which are usually spelled out in detail in advance – such as credit cards, mortgages, checking and savings accounts, etc. Having a good banking partner is key.
Financial Designations and Important Terminology
Because experience and education are essential, the financial services industry is well-known for their professionals to have plenty of “alphabet soup” after their names. For most consumers, this can be quite confusing, because it would be impossible to understand each and every designation.
Putting aside certain advanced training programs, the most important designations are for any financial services professional that you work with are:
● CERTIFIED FINANCIAL PLANNER™ (CFP®)
This is generally considered the the “gold standard” for financial advice. Professionals that have obtained this designation have strong knowledge and experience in the major areas of financial planning, taxes, insurance, estate planning, and retirement. CFP® professionals are held to the highest fiduciary standard in the industry and are closely monitored by the CFP® Board.
● Fiduciary
A fiduciary advisor is required by law to offer financial and investment advice that is in the best interest of the client – in other words, above the interests of both the advisor and the firm that they work for. This is critical because it creates a relationship between client and advisor that puts the client first – always.
● Registered Investment Advisor (RIA) We’ve discussed RIAs previously, but it is still important to note that this type of firm is much more focused on serving clients in a conflict-free way than the broker-dealer model.
Fee Structures for Financial Services
For any investor, fees can impede long-term growth. Therefore, the value that you receive from a financial professional should well exceed the fees that you pay.
In addition, you want to make sure that how your financial services professional is getting paid aligns with your interests. The key is to eliminate (as much as possible) any conflicts of interest, whereby they may be incentivized to put their own interest first.
The most common forms of compensation for financial services are:
1. Fee-only:
Flat-fee: This is simply charging a fixed fee for advice, which may be customized to your particular situation. One example could be charging a flat fee based on complexity for a one-time financial plan.
AUM (Assets Under Management): This would be charging a percentage fee against the assets that are being managed by a firm. Some firms may only charge an AUM fee and provide portfolio management advice, while others may use the AUM model to provide portfolio management and holistic financial planning advice as well, as we do at Soaring Wealth.
Retainer: A retainer model is an annual engagement for financial planning services, billed on a fixed monthly or quarterly basis. This model is becoming much more common as advisors focus more on providing advice to younger clients and those in their accumulation years who haven’t yet built up sufficient financial assets to support an AUM-based fee.
Hourly: Some advisors charge clients for advice solely on an hourly basis. Depending on the scope of engagement is, this could be a great fit with the client’s needs. However, the downside to this arrangement is that because every hour is billed, it serves as a disincentive for clients to reach out to their advisors proactively, unlike under the retainer or AUM model, where fees are all-inclusive.
2. Commissions:
“Fee-based,” aka fees and commissions: Firms that act in a fiduciary capacity in some circumstances (for example, planning advice for which they charge fees), and not in others (for example, selling insurance products for which they charge commissions) use this very confusing terminology.
This can create the potential for conflicts of interest, but the most important thing for consumers to know is how their advisor is getting paid in every interaction, so they understand when the advisor is required to work in their best interest, and when they aren’t.
Commission only:
This is an old-school business model that seems to be on its way out, though is still prevalent among larger wirehouses who receive various fees to recommend one type of mutual fund (for example) over another, and insurance agents who receive incentives from their companies to recommend one type of insurance over another.
Such a commission-based fee structure, as you can see, results in the most conflicts of interest. In the commission world, there is little incentive for the “advisor” to act in the best interest of their client.
How The Right Combination Instills Trust and Safety
Ultimately, you want to partner with a knowledgeable, trustworthy, and experienced financial services professional – and part of that trust requires that you understand how they are paid, and what level of duty they have to you as a client.
From our perspective, this has to be someone who is a CFP®, fiduciary in all circumstances, and who works within the fee-only fee structure. If you are looking for such a partner, schedule a call with us today.
