American workers have spent decades diligently saving for retirement by deferring income into their employer’s defined contribution plan — usually a 401(k) plan.
According to Vanguard’s How America Saves 2017 report, almost 100 million Americans have in excess of $7 trillion in these plans, and as workers begin to approach retirement, many are looking to the expertise of a financial advisor to help protect their retirement nest egg.
But not all financial advisors are the same, and the burden of due diligence lies squarely on the shoulders of the consumer. Here are four essential questions to ask when interviewing a financial advisor:
[See: 7 Things You Need to Understand About Your 401(k).]
What are their credentials? There is little to no regulation around the use of the term financial advisor. Anyone can hang out a shingle and print business cards with the term “financial advisor” on them. So it’s important to ask about the advisor’s education. Do they have a four-year or graduate’s degree? If so, what was their area of study?
Consumers should also ask about the advisor’s professional designations. The certified financial planner designation is one of the most widely recognized designations in the industry. The CFP mark indicates an advisor has completed a four-year financial-related degree, passed a multi-part examination, and meets the CFP Board’s experience and ethics requirements. The chartered financial analyst (CFA) and certified investment management analyst (CIMA) indicate advanced knowledge in investment management. The certified public accountant (CPA) and enrolled agent (EA) designations indicate advanced knowledge in taxation. The chartered life underwriter (CLU) is tied to insurance. There are many more from which to choose with several designations for areas of specialty that may be of interest.
How are they compensated? There are two fundamental ways by which financial advisors or their firms are compensated — fees and commissions.
Fee-only advisors are compensated solely by their client with a fixed, flat, hourly, or percentage-based fee. They do not receive any compensation from investment commissions, referrals, or product sales. The terms “fee-only” and “fee-based” are frequently used interchangeable, but there is a major difference. Fee-based advisors may receive a fee for financial planning from the client, along with compensation from the sale of investment or insurance products. Fee-based advisors are sometimes referred to as fee and commission advisors.
[See: 11 Steps to Make a Million With Your 401(k).]
Commission-based advisors receive their compensation based on the investments they choose. Their compensation may be derived from commission paid by a mutual fund company or a sales charge applied to a product, such as an annuity or life insurance.
In the same vein, ask advisors how they plan to disclose conflicts of interest that may arise.
For example, should an investor pay off their home or keep the funds invested? If an advisor recommends a home be paid off, their compensation could be affected. A natural conflict of interest has arisen. Investors should be aware of when recommendations from an advisor could have a direct affect on the advisor themselves.
Are they a fiduciary on all managed accounts? Fiduciaries have a legal and ethical obligation to put the interest of their clients in front of their own or that of their employer. But not all financial advisors are fiduciaries, and some only have to act as fiduciaries for certain types of accounts.
An advisor acting as a fiduciary must exercise their best effort to act in good faith and in the best interest of their clients at all times, on all applicable accounts. Fiduciary advisors must also ensure that any conflict of interest that may arise is made known to their client.
What service does financial planning entail? The term “financial planning” is subjective. Many investors hear the term and focus entirely on retirement planning, but that is only one area of service that an advisor may offer.
Financial planning may also include budgeting and cash flow management, debt and liability management, goal setting, tax planning, estate and end-of-life planning, risk mitigation and insurance planning, education planning, charitable and philanthropic planning, and more.
[See: 7 Things That Can Derail Your Retirement Investing.]
Approaching retirement may be a great time to not only design a retirement plan but to get the entire financial house in order.
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4 Essential Questions When Hiring a Financial Advisor originally appeared on usnews.com
