Why Flat Fee Only
Simply put: The way you pay for advice will greatly influence the kind of advice you receive. Read more to better understand conflicts of interest, assets under management, and the value of no hidden costs.
Fee-Only Versus Fee-Based Advisors
Major conflicts arise when people engage “financial advisors” who are paid on commission, also known as fee-based advisors. There is an obvious conflict of interest when an advisor’s income comes from selling you financial products. How can you know whether these advisors are recommending certain products simply because they enhance their bottom line or if the products are truly in your best interest? In fact, there are registered reps and others who are required to favor products offered by their employer, which may or may not be the best vehicles for you. Fee-only advisors, on the other hand, do not sell commission-based products or receive referral fees or other forms of compensation.
AUM Versus Flat Fee
There are also issues that arise when advisors are paid based on a percentage of your assets under their management (“AUM”). First, if you have little to no liquid assets to manage, most firms that charge based on AUM will be unwilling to work with you. Also, these advisors’ recommendations are often tilted toward keeping as much of your money under advisement as possible. For example, if you were considering a real estate purchase of $200,000 and wanted advice on whether to pay cash or take out a loan, an advisor charging 1% of your assets would face a potential $2,000 reduction in their fee if you were to withdraw the money from an account they managed. This advisor would be more likely to recommend a loan because it’s in their best interest. For the same reason, they are unlikely to recommend that you pay down debt, take Social Security at a later age, take out a mortgage for less than 30 years, or invest in real estate, even if these would be the best financial moves for you, since they all might decrease the balance in your accounts that the advisor collects their fee from. Remember that all of these decisions can impact how long you have to wait to retire. so how important is it that they be made objectively?
In addition to these issues, under the AUM model your fee may become increasingly ridiculous as your assets grow. Though individuals with $500,000 and $2,000,000 portfolios might receive the very same service, at 1% the fees are drastically different ($5,000 v. $20,000 per year). If the advisor is a fiduciary and obligated to provide best interest advice no matter the size of your account, how can it possibly make sense to see such a difference?
There are times when AUM fees are less than those of a flat fee–only advisor. The simplest example of this is when an AUM advisor works with a client with a “small” portfolio. As a thoughtful consumer, you should seek out the best advisor for your situation at the best price possible. But for most people who will accumulate savings over their lifetime, a long-term engagement with a reasonably priced flat fee–only financial advisor would cost considerably less than a similar engagement with an AUM advisor.
No Hidden Costs
The best part about flat annual fees is that there aren’t hidden costs; you know the total price of services beforehand, and the value of your portfolio is irrelevant (thereby further reducing conflicts).
The most important problem with AUM fees is that they tie the value of the advisor to the value of your investment portfolio. This is not the same as tying compensation to the value of the services the advisor offers, meaning you deserve quality advice to matter the size of your portfolio.
A truly flat fee structure provides the least friction to putting client interests first for those looking for ongoing financial planning and investment management.