Financial Advisor Compensation: What to Look For

Financial advisors use several compensation models to determine the cost of their services. The right financial advisor can be well worth that cost, but not all financial advisors operate using the same compensation models, nor are they all held to the same standards.

This is your money – both the wealth managed by your advisor and the price paid for their management and advice. So, understanding these different models can help you make a more informed choice when you pick an advisor to help you manage your wealth and investments.

Here, we review the financial advisor compensation models commonly seen in the industry.

Types of Financial Advisor Compensation and What They Can Mean for Clients

Financial advisor fee structures can be based on one of the following models, as well as combinations of them. No matter with model they use, a trustworthy advisor shouldn’t hesitate when asked to explain their fee structure and how they determine the cost of their work.

So, what are the major types of financial advisor compensation?

Financial Advisor Hourly Rate and Salary Compensation

Some financial advisors, as individual professionals, earn an hourly rate or salary as opposed to compensation based on fees or commissions. Their employers still generally collect client fees or commissions, but the advisors themselves are paid at a set rate.

This model is sometimes used to provide a predictable income to newer advisors as they build up their roster of clients. However, it doesn’t have much of an impact on the costs that clients pay in return for financial advisor services, nor the quality of service they receive.

Commission-Based Compensation

Financial advisors who earn a commission gain part or all of their income from the sale of specific financial products to their clients. These products could be annuities, specific securities (such as stocks), insurance policies, and other offerings.

The exact percentages and amounts paid vary based on the size of the transaction and other factors. However, the underlying idea remains the same: Financial advisors who earn commissions are incentivized to sell certain products to their clients.

In some situations, these products genuinely align with the interests of clients. In other situations, they don’t – a different strategy or product would come closer to meeting a client’s financial wants and needs.

The issue with commission-based compensation is that advisors paid with this model always have a financial incentive to steer their clients toward such products. That doesn’t mean all commission-based advisors provide bad advice or attempt to trick their clients. However, there is an unavoidable conflict between pay and client objectives at times.

Flat Fee Financial Advisors and Percentage-Based Financial Advisors

Fee-based advisors earn money based on an established fee structure or a fixed percentage of a client’s total portfolio.

Percentage-based advisors, as you might expect, base their fees on the size and, often, the complexity of each client’s portfolio. Percentage-based advisors normally receive a total payment equal to 1-2% of the value of the assets they manage for their clients each year.

Flat fee advisors, meanwhile, charge specific fees for their services. They don’t tie their compensation to the overall size of a portfolio or the returns they help clients earn.

Fee-only advisors are a subset of this group who do not earn any commission. Their compensation instead comes from fees directly paid by clients. In other words, they do not have an incentive to promote specific financial products to their clients.

As Investopedia points out, fee-only advisors are fiduciaries. That means they have a specific duty to their clients: prioritizing their interests above those of the advisor.

Do Financial Advisors Have a Duty to Their Clients?

Keep in mind that, as the CFP Board points out, any financial professional and any person, regardless of experience or education, can call themselves a financial advisor. The term financial advisor by itself does not imply that an advisor has to make a client’s interests and goals their top priority or disclose potential conflicts of interest.

Conversely, financial advisors with the CERTIFIED FINANCIAL PLANNER^® certification, as well as those who are Registered Investment Advisors (RIAs), are fiduciaries. These are professionals who have taken the fiduciary oath, meaning they have an ethical and legal responsibility to put the needs and interests of their clients first.

Whether an advisor uses a flat fee, percentage-based, or commission model, they should be upfront and clear about costs. Financial advisor hidden fees go against the basic idea of prudent and goal-oriented financial advice. Clients should have all the information they need to make an informed choice about working with a financial advisor upfront.

Is One Financial Advisor Compensation Model Better Than Another?

It’s not possible to make a general statement as to whether any specific financial advisor compensation model is ideal because every client is different.

However, it is important to note that fee-only advisors are fiduciaries who must put their clients’ interests first. This is not true of commission-based financial advisors, who often have an incentive to promote specific products to their clients regardless of how well client interests and the product align.

With a fiduciary financial advisor, clients can count on decisions that align with their financial, investment, and retirement goals. The same simply can’t be said for non-fiduciary advisors.

When seeking out a financial advisor, asking questions is a good path to finding the right professional for individual and unique needs. Questions about fee structure, how advisors are paid, and, especially, whether an advisor is a fiduciary can all provide valuable information.

Dechtman Wealth Management offers a comprehensive suite of financial advisor services to our clients. As fiduciaries, our advisors always put the needs and interests of their clients first. Our fee-only approach to payment means advisors are not incentivized to promote specific products or earn commissions. The better you do, the better we do.

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