The financial advice industry is riddled with conflicts of interest and and the typical method for charging fees is a big reason why
At HCP Wealth Planning, we believe the fees you pay your advisor should only be based on the expertise and services you receive, not the size of your portfolio. We don't think it's fair that someone should pay an advisor higher fees, just because they have more money. Why is this? Because the little secret that many financial advisors don't want you to know is that it generally doesn't cost them any more time or require any more expertise to manage a $1,000,000 portfolio than it does a $100,000 portfolio. Just because someone has a larger portfolio, that doesn't automatically mean their financial planning needs are more complex.
Unfortunately this type of pricing model, which is known as the Assets Under Management (AUM) model, is still the most popular fee method in the industry. Take a look at the below chart which reflects the difference in fees between our flat fee "Unlimited Plan" option, versus the industry average AUM fees.
*The AUM fees used in the below chart are from the AdvisoryHQ study, "Average Financial Advisor Fees and Costs, 2019 Report"
Not only does the AUM model create conflicts of interest, it creates incentives for advisors to purposely try to avoid working with younger professionals simply because they don't yet have enough money to invest to make it worth the advisor's time. Many of these younger people need more financial guidance than anyone. The AUM model is not going to go away unless more consumers demand a better alternative because it generates too much easy income for those advisors. Our mission at HCP Wealth Planning is to be a leader in the movement towards a better model.
Conflicts of Interest
One of the biggest issues with the traditional AUM model is that it creates many conflicts of interest when the advisor is delivering advice.
- Paying off debt: What happens if it's in your best interest to pay down debt such as student loans or paying down a mortgage? That means less money to invest and less money in your advisor's pocket. They have a financial incentive to recommend you do not pay off that debt.
- Real Estate Investing: What if it makes more sense for you to diversify some of your savings and create passive income by investing in real estate? Let's say for example you want to spend $200,000 on a rental property. That's $200,000 that could otherwise be in your investment portfolio which means your advisor could be making $2000 per year in fees from that money. Can you trust that advisor to be unbiased when helping you decide if that rental property is a good investment? The same applies if you are considering paying a lump sum to buy into a business.
- Inheritance: Over the course of the next couple of decades, the greatest generational wealth transfer will take place. Let's say you inherit an IRA worth $200,000 and it makes sense for your advisor to invest that for you. Should your advisor all of a sudden be paid $2000 more a year because you inherited this money, even though it will barely take them any more time to invest it? What if you inherit $500,000 or even $1,000,000? Should they all of a sudden be paid $5,000 or $10,000 more per year?
- Social Security: In many scenarios, it makes sense to delay receiving Social Security benefits until you are eligible for the max benefit at age 70. This can be true even if delaying SS means you have to draw down more of your investments in the mean time. In this instance, your financial advisor has a financial incentive to recommend you take SS as early as possible, to reduce the drawdown of your investments and therefore prevent their fees from decreasing.
- The Rollover Conversation: There are many scenarios where it could be in your best interest not to rollover your 401(k) or 403(b) after you stop working for your employer. But if the only way an AUM advisor is going to get paid is by managing those investments in an IRA, they have a financial incentive to convince you to rollover out of your 401k and into an IRA. A flat fee advisor can give you an unbiased recommendation on whether or not to rollover because they get paid the same amount no matter how much you invest with them.
The Typical AUM Advisor Excuses:
1) They will tell you that with the AUM model, their fees actually decrease if your portfolio value decreases. So this provides them extra incentive to get you the best returns as compared to a flat fee advisor. There are multiple issues with this excuse:
- Sure, over a short period of time, the markets may drop and your portfolio may decrease in value, so your advisor's fees temporarily decrease. But if you have a long term relationship with your advisor, odds are that over time, your portfolio value will increase and therefore your fees will increase. This is true even accounting for short term market corrections. In fact, after every single stock market correction in history, the market has gone on to reach all time highs.
- If your advisor's fees stand to increase if your portfolio balance grows, don't they a financial incentive to take on more risk in order to try to achieve higher returns?
2) They will say that a flat fee financial advisor has no financial incentive to try to get you the best returns on your investments since flat fee advisors get paid the same no matter how your portfolio is performing.
- This couldn't be any further from the truth. Most flat fee advisors charge their fees on a monthly or quarterly basis. What's more, is these fees are right in your face since you usually pay them with a debit or credit credit card, or as a recurring draft out of your checking account. Under the flat fee model, you know EXACTLY how much you are paying your advisor, and if you aren't happy with any part of your service, portfolio performance or otherwise, you can simply cancel the relationship before the next month's payment. This creates extra pressure for a flat fee advisor to deliver an amazing client experience.
- The majority of clients who work with an AUM advisor could not tell you exactly how much in dollar terms they paid their advisor last quarter. This is because those fees are buried in account statements that you probably won't look at and it's unlikely that advisor is going to be proactive in explicitly telling you how much you paid. This is less likely to happen when you see the transaction fees on your bank account statements every month.
If 100% of your advisor's fees are based on your investments, how much time are they really going to want to spend discussing and helping you with other aspects of your life that are just as important?
At HCP Wealth Planning, we believe that creating and maintaining a suitable investment strategy needs to be a part of the financial planning process, but not the only part. Our flat fee solutions include helping you with every aspect of your financial life. Whether you already have over $500,000 in investments, or are just getting started with investing, our unique "Unlimited Plan" and "By the Gig" flat fee models allow us to provide you custom, comprehensive financial advice.