New on FinoLib · Volume V: Personal Finance
New on FinoLib, my finance education website: I have published an article called Do You Need a Financial Advisor? Fiduciary vs Suitability, from Volume V: Personal Finance. It is part 1 of a 2-part guide. Here is what the article explains, written as a short expert briefing; the full piece, with every worked example, is one click away.
The idea in plain words
A financial advisor is like a coach. Some people need one all the time, but most do not. If you have a workplace plan, an emergency fund and simple goals, a target-date fund plus an occasional flat-fee review is usually enough. When you do hire help, ask for a written promise that the advisor is a fiduciary, meaning they must put your interests first, for everything they recommend. Then choose a pay method where you can see the dollar cost, so you know exactly what you are paying for.
Key points
■“Financial advisor” is not a protected title; investment advisers owe a fiduciary duty, while brokers owe a best-interest duty that attaches to each recommendation.
■The two regimes exist because the 1940 Advisers Act excluded brokers whose advice is “solely incidental” to selling and who receive no special compensation for it.
■A 1% asset-based fee costs more than a $3,000 flat fee on any balance above $300,000, and grows every year your balance does.
■Over 30 years at a 6% gross return, a 1% fee consumed 24.8% of what a $300,000 portfolio would otherwise have become.
A closer look
Everything in this Part can be done alone with a target-date fund (7.8: Target-Date Funds, I Bonds and TIPS, and a Plain Word on Crypto) or a few index funds (7.3: Index Funds and ETFs — Why Costs Matter More Than Skill). Many people still want help, and some situations call for it. The first thing to know is that “financial advisor” is not a protected title: the person across the table may owe you one of two different legal standards, and may be paid in one of several ways that shape the advice.
Many professionals are dual registrants, acting as an adviser for some services and as a broker for others. A reasonable first question is: “Are you acting as a fiduciary for everything you recommend to me, at all times?” — with the answer in writing.
A worked example
Worked Example — A 1% Fee vs a Flat Fee on $300,000 Over 30 Years
Assumptions, for illustration only: $300,000 invested, a 6% gross return every year, no further deposits. Option A charges 1% of assets a year, modeled as 1% of each year’s starting balance, which turns 6% into a 5% net return. Option B charges a flat $3,000 a year, paid from the portfolio at each year-end — the same $3,000 as Option A in year one. No fee at all: $300,000 × 1.06^30 = $300,000 × 5.7435 = $1,723,047. Option A, 1% of assets: $300,000 × 1.05^30 = $300,000 × 4.3219 = $1,296,583. Option B, flat fee: $1,723,047 − $3,000 × [(1.06^30 − 1) ÷ 0.06] = $1,723,047 − $3,000 × 79.058 = $1,723,047 − $237,175 = $1,485,873.
Under the hood
Under the Hood: Why the Percentage Fee Dominates
Asset-based pricing has three features that suit the seller. The fee is deducted from the account, so no one writes a check. It is quoted as a small percentage of a large number, so 1% sounds smaller than the $3,000 it is on $300,000. And it rises with the balance while the work rises far more slowly: planning for a $1.5 million household is not five times the work of planning for a $300,000 one, but at 1% the fee is $15,000 instead of $3,000.
More from the article
■Fiduciary duty (investment advisers). Registered investment advisers are fiduciaries under the Investment Advisers Act of 1940. The SEC’s 2019 interpretation describes that duty as a duty of care and a duty of loyalty that apply to the entire advisory relationship — including monitoring at a…
■Regulation Best Interest (broker-dealers). Since June 30, 2020, a broker-dealer recommending a security or strategy to a retail customer must act in that customer’s best interest at the time the recommendation is made, without putting the firm’s or the representative’s own interest ahead, through four…
■Form CRS — the short relationship summary that SEC-registered advisers and broker-dealers must give retail investors, covering services, fees, conflicts and disciplinary history in plain language.
■Form ADV Part 2 — an adviser’s brochure (Part 2A) and the brochure supplement on the individuals advising you (Part 2B): fees, conflicts, investment approach, background. Search the firm or person on the SEC’s Investment Adviser Public Disclosure site.
■FINRA BrokerCheck — registrations, employment history, customer complaints and disciplinary events for brokers and many advisers.
What the full article covers
The full article includes worked examples, a look under the hood at the mechanics, a recap, a reveal-on-click quiz and the official sources behind every figure.
Volume V: Personal Finance
Read the full article on FinoLib
The complete article, Do You Need a Financial Advisor? Fiduciary vs Suitability, with every worked example, diagram, quiz and source, is free to read in Volume V, Personal Finance on finolib.com.
Explore the Finance Education Series: Vol. II — Capital Markets · Vol. I — Global Economy · Vol. III — Finance Encyclopedia · Vol. IV — Finance Careers · Vol. V — Personal Finance