Who Are Financial Advisors and What Do They Do?
Managing your finances can be a complicated and confusing process. From setting financial goals, knowing how to best save for retirement to managing your taxes in the present, and even after retiring or passing on your legacy to your kids, everything requires intricate management. According to Northwestern Mutual’s 2019 Planning and Progress study, 92% of survey participants said they feel happier and more confident when their finances are in order.
However, it can be slightly overwhelming to come up with a suitable strategy for your individual goals and retirement options. This is where a financial advisor can help you. A financial advisor or a financial planner can guide you through the financial planning process and also address questions and concerns associated with any aspect of your financial plan. Whether you are just beginning your wealth accumulation process, have questions about your current finances, are nearing your retirement, or are living paycheck-to-paycheck, hiring a certified financial planner for any of the aforesaid scenarios could be advantageous for you. In Northwestern Mutual’s 2019 Planning and Progress study, 66% of the respondents who had a financial advisor said they felt financially secure. 85% of the survey participants who had sought professional financial help said their personal finances were moving in the right direction.
The survey’s findings suggest that individuals who work with a financial advisor can potentially be better at balancing the art of spending and saving for the future. These individuals are also more likely to set realistic financial goals and feel confident about achieving those targets. Moreover, people with professional financial advice have a sound plan to navigate the economic ups and downs, minimize taxes, plan for retirement, and do much more.
Here is everything you should know about financial advisors, what do financial advisors do, and how to hire one that best fits your needs:
Who is a financial advisor?
A financial advisor assesses your financial needs and provides comprehensive financial guidance. These professionals are experts in managing all money-related matters, enabling you to save time, eliminate financial risks, and build wealth in the long term. A competent financial advisor can provide different services, including goal planning, debt management, investment management, tax planning, retirement planning, estate planning, succession planning, and more.
However, a financial advisor is a broad term that includes people from diverse backgrounds and different educational qualifications, offering a wide range of services. This umbrella term encompasses various professionals – investment advisers, tax planners, wealth managers, financial planners, etc. – offering specialized or generalized financial planning services. You could meet a financial advisor who only offers retirement planning support or another professional who provides a range of professional services, including tax management, retirement planning, estate planning, portfolio management, etc. Each type of financial advisor holds different degrees, certifications, and professional licenses. Hence, it is important to evaluate each professional and determine if they are qualified to offer the required financial advice as per your needs.
What does a financial advisor do?
A financial advisor is a skilled professional with years of training, education, and experience in money and related matters. Here are some things that can help you understand what a financial advisor does:
1. Budgeting: The basis for all financial plans is a realistic and infallible budget. A financial advisor can help you create an effective budget that helps you save more, spend frugally, and achieve your financial objectives, such as buying a house or car, paying for your child’s education or wedding, setting up a business, creating a retirement corpus, etc. The advisor sets achievable savings targets and offers guidance on how to best use your money without compromising your current standard of living. The budget is created keeping in mind your current income, financial liabilities, and dependents. The advisor works with you to allocate a specific sum for your non-discretionary expenses (such as rent, house bills, etc.) and discretionary expenditure (like online subscriptions, eating out, etc.). Usually, these advisors create a zero-based budget, where each dollar of your income has a defined purpose. The objective is to help you spend wisely to optimize your savings in the long run. A financial advisor also acts as a coach, constantly reminding you of your savings targets and financial goals, encouraging you to adhere to the set budget.
2. Debt management: Debt, especially high-interest ones, can be a significant hurdle in reaching your financial goals and can affect your future financial security. The interest generated can erode your savings, and if not paid off, can also eat into your retirement corpus later. A competent financial advisor can help you manage your debts effectively, minimize the interest burden, and identify ways to fill the income gap to ensure you remain debt-free in the future. The advisor will work with you to constructively manage your financial liabilities and navigate the complex debt management process that involves multiple stakeholders and rules.
3. Investment and portfolio management: Investing your money optimally is equally important as saving your money. Efficient portfolio management is crucial to your overall financial success in the long run. A financial advisor will aim to understand your monetary goals, risk tolerance, and risk capacity, life stage, investment time horizon, and eventually, create a sound investment plan. The objective is to minimize risk, maximize profit, and optimize asset allocation to support the accumulation of wealth in the long run. These advisors are specialists in their areas and can help you meet set goals through profitable investments. Moreover, your financial advisor will also assist you in restructuring your portfolio in case of a major life change. For instance, if you are more than ten years away from retirement, the financial advisor could consider having a more aggressive asset allocation with securities like stocks in your investment portfolio. However, as you approach your retirement age, the objective of investment changes from wealth accumulation to capital preservation. Hence, your financial advisor may suggest investing in securities that offer stabilized returns at low risks, such as municipal bonds. Your advisor may also opt for annuities to create a reliable retirement income stream. That said, apart from structuring your investment portfolio, your financial advisor will also offer other portfolio management services, like monitoring the performance of the portfolio and deploying effective strategies to navigate market volatility while keeping your long-term goals in mind. Further, if you have additional investment goals like impact investing, your advisor can also help in that sphere. The financial planner can create an investment strategy that generates financial returns as well as creates a positive social or environmental impact.
4. Retirement planning: Your financial advisor can help you create a foolproof retirement plan that ensures a comfortable, safe, and secure retired life. The expert assesses your current income, financial liabilities, years left to retire, expected standard of living, the number of dependents, etc., to create a holistic retirement plan. The advisor can help you stay focused on your savings target and make the best use of retirement savings plans, such as a 401(k), an IRA (Individual Retirement Account), a Roth IRA, etc. The professional can help you manage and maximize contributions to these accounts while adhering to the IRS (Internal Revenue Services) guidelines. The advisor can also help you identify effective ways to evade penalties and minimize taxes while withdrawing from your retirement savings account. Apart from these, the advisor works with you to identify secondary sources of income during retirement, such as Social Security benefits, pensions, etc. Your advisor can also provide advice on how to maximize your Social Security benefits, leverage home equity, or optimally use government aids, such as Medicare during retirement.
5. Tax management: Your financial advisor or planner has the necessary expertise to help you minimize your tax liability. By creating the right tax strategy, the professional can ensure you only pay the least possible taxes on your income. The expert can guide you on how to effectively minimize your tax burden by using strategies such as sponsoring the education of your kids and grandkids, creating a trust, giving charitable donations, and more. The financial planner will also help you identify tax-saving investment accounts and deploy tax-loss harvesting strategies and capital gain offsetting mechanisms to lower your tax duty. If you received an inheritance or gift of a high value, the advisor uses expert acumen to reduce the impending tax implications.
6. Education Planning: Owing to rising school and college fees and tuition, funding your child’s higher education these days takes timely planning, strategizing and investing. At the same time, a quality education for your child is something that cannot be compromised on, as it builds the foundation for your child’s future success. Education planning involves finding effective strategies to save for your children or grandchildren’s higher education expenses. It can help ensure that you are taking the right steps to save for your children’s future while also covering your other expenses. Finding the right balance while saving for your different financial needs can be a challenge. It is highly advised to consult a financial advisor who can help determine the most effective ways to finance all the expenses involved in your child’s academic future. A financial advisor can not only assist you in choosing the most beneficial education plans to invest in, but can also help ensure that your college savings goals are incorporated within your savings goals for retirement and other financial needs.
7. Estate planning and wealth management: A financial advisor can help you create an infallible estate plan as per your desire. The advisor can support you in mapping estate assets, estimating the estate’s value, drafting a will, appointing executors, streamlining foreign investments, and so on. Your advisor can monitor your estate assets, help you utilize them wisely when you are alive and then pass them on to your heirs after your demise, without incurring hefty estate taxes and penalties. Moreover, if you want to create a trust, assign a power of attorney, lay down health directives, etc., your advisor can guide you through it all. Alternatively, if you are a high-net worth individual (with $1 million or more in investable assets, excluding real estate), a skilled professional can offer sound wealth management services. Your financial advisor will work with you to understand your unique financial needs, help you manage your investments and risk, create an infallible estate plan, and, most importantly, minimize your taxes.
8. Health and long-term care risk planning: A competent advisor can also help you adequately plan for your medical needs and prepare for long-term care risk. With the support of a certified financial planner, you can create a comprehensive health care plan that takes care of your medical expenses without eating into your savings. Your advisor can help you invest wisely for your healthcare expenses in the future. They can also help you choose between different options like healthcare insurance, Health Savings Account (HSA), Medicare, Medicaid, health insurance exchanges, COBRA (Consolidated Omnibus Budget Reconciliation Act), etc.
How much do financial advisors charge?
A fee-based advisor charges a predefined fee. This fee can be a flat retainer charge (from $500 to $10,000) or an hourly rate (usually $120 to $300 an hour). In the hourly rate model, you can hire an advisor for their services for a specific number of hours. The more help you need, the more you will pay. Other than these, one of the most common methods that professionals use to charge for their services is the AUM (Assets Under Management) mode. In the AUM method, the advisor’s fee is a percentage (usually 1-2%) of your overall AUM – the market value of your investments managed by the financial planner on your behalf. For instance, if your financial advisor manages your assets worth $300,000, then you can expect to pay between $3,000 and $6,000 as a fee under the AUM model. However, the exact fee will depend on the skills and experience of the professional, as well as the firm they work for. In the long run, the AUM method can prove beneficial as this works on a sliding scale. As the value of your AUM rises, the percentage fee charged decreases. In some cases, financial advisors set a yardstick from where their fees will drop. As per experts, if an advisor charges 1% for $1 million worth AUM, their fee will likely be 0.50% at $10 million AUM and 0.10% after the next milestone.
An advantage of working with a fee-based advisor is that these professionals receive compensation directly and only from you. These experts do not work on commissions. Hence, their opinions are more likely to be unbiased and transparent. Further, these skilled professionals follow fiduciary standards. A financial advisor who is also a fiduciary is obligated by the law to work for your best interest and minimize all possible areas of conflict.
Commission-based financial advisors do not charge a fixed or hourly fee or even a percentage of your AUM. These professionals earn only through the financial products you buy through them. Their primary income is from the financial instruments (insurance packages, mutual funds, stocks, etc.) they sell. So, the higher the number of insurance packages or mutual funds they sell or the higher the number of accounts they open, the more they get paid. Usually, the commission charged varies between 3–6%.
For instance, if your advisor recommends investing $1,000 in a mutual fund that charges a 5% commission, you will pay $50 as commission to the advisor and invest the remaining $950.
In some cases, commission-based advisors can prove to be more cost-efficient than fee-based financial advisors. You can engage with more than one commission-based advisor at one time. These professionals function as independent contractors and offer great diversity in terms of the financial products they offer. A commission-based advisor controls the buying and selling process of an investment product. This means that you do not have to actively manage your investments.
However, you may not always be able to trust them completely with respect to the advice they offer or the financial products they sell. These professionals do not follow any fiduciary standards. Hence, the advice they offer can be useful but not necessarily the best for your needs. They earn commission according to the products they sell. This means their counsel could be biased, and there is a high scope of conflict of interest.
In some cases, financial advisors can also combine commission and fee-based models to charge for their services. In this mode, you can expect to pay a specific percentage of your AUM for the investing services in addition to a per hour fee or a commission-based fee for the investments they suggest.
Overall, the financial advisor fee will vary as per the services they offer and the type of cost structure they use to charge for their services. However, before you engage with a financial advisor, it is good to know the fee structure and decide if it fits your budget.
What to look for in a financial advisor: How do you find the right financial advisor?
By following these simple steps, you can easily find a financial advisor as per your needs:
Understand your requirements and priorities:
Make an exhaustive list of services, which would require the financial advisor’s expertise. Create the list in order of your priorities. For example, if you want help with retirement planning, include it in your list.
Begin your search:
Take suggestions from your colleagues, family, and friends to find the most suitable financial advisor. Alternatively, you could use advanced platforms like the WiserAdvisor’s advisor match tool to find a prescreened skilled professional in your area. The tool assesses advisors on their experience, compensation structure, and licensing related to SEC and FINRA. This Wiser Advisor tool allows you to understand the pay structure of the advisor and hire a professional that suits your pocket.
Screen and interview the candidates:
After a prospective list of financial advisors, check their background, work reviews, credentials, investment philosophy, ethics, fee models, etc. You can use FINRA’s BrokerCheck tool to evaluate the background and experience of financial planners and firms. FINRA’s BrokerCheck gives you instant information regarding the registration of a person or firm. You also get details about the financial advisor’s employment history, regulatory actions, licensing information, complaints, and arbitrations, if any. If you want to engage with a financial advisor in your area, you can use the NMLS Consumer Access platform to confirm if the financial services company or professional is authorized to conduct business in your state. After reviewing the details, you can start the interview process. For the interview, here are 10 questions to ask a financial advisor that can help you make an informed decision:
- What are your qualifications and certifications?
- What services do you provide, and what type of clients do you specialize in?
- What is your financial planning approach?
- What is your investment philosophy?
- Are you a fiduciary?
- How do you charge for your services, and how much?
- How will this relationship work?
- Do you have a team, or do you work independently?
- What will your performance be assessed?
- How often will you communicate?
- Engage with the best financial advisor: After interviewing, assess the qualities and flaws of the shortlisted advisors. Compare their capabilities with their fees and evaluate if they are worth the investment. Also, note that hiring a fiduciary financial advisor could be an added advantage.
A financial advisor is the custodian of your finances and an enabler of a secure financial future. Hence, it is prudent to choose a competent person who holds the necessary qualifications and expertise to help you manage all your financial matters. So, go ahead and hire a professional financial advisor and begin your financial planning journey.