It can feel impossible to know who to trust with your money.
That’s why I’ve come up with 15 questions to ask your financial advisor.
I cannot tell you how often I hear friends say they want to hire an advisor and don’t know where to start. Then, next thing I know, they’ve hired “someone they trust” without having done any homework.
As a recovering attorney turned financial planner, this post is near and dear to my heart. I hope you all use these questions next time you consider hiring a financial advisor.
So, here goes. Here’s a list of 15 questions to ask your financial advisor.
1. What is your education, licenses, and work experience background?
Find out what the financial advisor’s education, licenses, and work experience are. You want to know if you’re working with a new advisor or if she has 10+ years under her belt. You also should want to know whether the advisor has any licenses. There are no “bad” licenses to have, per se, but each license means something different. Once you know how the advisor is licensed, do a little research on that license to find out what it means.
2. Are you a fiduciary?
Ask the advisor if she is a fiduciary. An advisor is a fiduciary if the advisor has a duty to act in her clients’ best interests.
The National Association for Fee Only Financial Planners (NAPFA) has a useful infographic that demonstrates the role of a fiduciary in financial planning.
This is really important. You need to know whether your advisor has a duty to act in your best interest or not.
If your advisor isn’t a fiduciary then she doesn’t have to act in your best interest. For example, she could try to sell you financial products, like annuities, that aren’t a good idea for your financial situation (but that are a good idea for her because she makes a commission from selling you the products). A fiduciary has a duty not to do this. And that duty is of the highest standard and strictly enforced.
This is a big one in the financial planning world. So, ask the question and pay attention to the answer.
3. Do you have a minimum portfolio size or minimum fee?
Ask the advisor whether she requires a minimum portfolio size to sign on with her as a client. Also ask whether you are required to pay a minimum fee to be a client.
If the firm is pretty big, it may require you to have a minimum portfolio size or pay a minimum fee in order to work with it. You may or may not meet these standards, so it’s important to know up front.
For example, a bigger firm may not work with anyone who doesn’t have at least $500,000 of investable assets (also known as assets under management, or AUM). This means you couldn’t be a client with this firm unless you had $500,000 of investable assets for the firm to manage.
4. What services are covered if I sign up with you (investments only or comprehensive planning)?
Ask the advisor what services are covered if you sign up. Every firm has different types of services it offers, so pay attention to what you’re getting.
If the advisor says the services are investments only, this means that she will manage your investments and that’s it.
However, if the services offered are comprehensive financial planning, then you will get other financial services like tax planning, estate planning, cash flow planning, and insurance planning.
The advisor may offer some combination. Just make sure you know what you’re signing up for.
5. How are you paid (fee-only, fee-based, commissions)?
Ask the advisor how she is paid. This is a very important question.
“Fee-only” advisors are paid only from a fee you pay. The fee may be 1) a percentage of the assets you invest with the advisor (e.g.: 0.75%), hourly, or on retainer (e.g.: a set dollar figure every month).
“Fee-based” advisors are paid from a fee that you pay and commissions (money they’re paid from products they sell you).
“Commission” advisors are paid solely from the commissions they make from selling you products.
What I see the most is hiring a fee-based advisor with the false belief she is a fee-only advisor. The distinction is really important.
I had a friend who hired “someone he trusted” at a large brokerage firm. He thought he was only paying $25/month for the advising services he was getting. After I looked at his fee schedule on his statement, I pointed out to him that the funds he was invested in were “front-load” funds carrying a 5% front-load. This meant for every $1000 he invested, $50 went to the advisor. In my experience, typical fees are in the .75%-1.5% range, so a 5% front-load is insane to me. If the market performed 7%, my friend’s rate of return is only 2% because he paid the advisor 5%. If the market performs at a rate of less than 5%, my friend loses money.
There’s just no reason for this. You need to know how your advisor is paid – whether it’s from you as a fee or from commissions or both.
6. What are your fees and what are the funds’ fees?
Once you know how the advisor is paid (questions 5 above), ask her how much she is paid. Meaning, what percentage or flat rate will you pay and what commissions will the advisor make. For example, the advisor may say that her fee is 0.85% of assets under management (i.e.: you would pay her 0.85% of the investments in your portfolio)
A second and related question you should ask the advisor is what are the fees of the funds that your investments will be in. Mutual funds and Exchange Traded Funds (ETFs) have fees within them. Ask your advisor what the “expense ratio” of your portfolio is. Morningstar defines expense ratio as “the annual fee that all funds or ETFs charge their shareholders.”
For example, if your advisor charges you a 0.85% fee, and the expense ratio in your portfolio is 1.75%, then you’re actually paying a total fee of 2.6% (not the 0.85% that you may have thought).
7. How am I billed (frequency and out of what accounts)?
Ask the advisor how billing works. You should ask about the frequency of billing and the mechanics. Do you pay monthly, quarterly, with each deposit, etc.? Do you have to pay by check or can you pay through your investments?
8. What is your investment philosophy?
Ask the advisor what her investment philosophy is. This will help you understand whether the advisor is going to be doing lots of trades and is a market timer or takes a long-term investment approach and rebalances on a set schedule.
9. What types of investments will be in my portfolio (stocks, bonds, ETFs, mutual funds)?
You should know what types of investments your advisor is putting you in. Are you going to be in individual stocks and bonds or will your money be in funds (like mutual funds and exchange traded funds), or will it be a combination?
There’s no right or wrong answer to this question, but you should still know how your money is going to be invested.
10. What asset allocation will you use for my portfolio?
Ask your advisor what the asset allocation of your portfolio will be.
As Ramit Sethi said in I Will Teach You To Be Rich, “Your investment plan is more important than your actual investments.” This means that it’s more important how your portfolio is weighted (80% equities and 20% bonds, for example) than the actual stocks (e.g.: Apple or Facebook) or funds.
There are different factors to consider when creating someone’s asset allocation. Two factors are risk tolerance (how comfortable you are with risk) and risk capacity (how much money you have invested that can withstand a downtown without jeopardizing your goals). There are other factors like age, health, and time horizon that also come into play.
- Related: Asset Allocation 101
For example, someone who is retiring next year may want a very conservative asset allocation because she will need the money soon. Alternatively, a 30-year-old saving for retirement may have a more aggressive portfolio.
Your asset allocation is really important. So, make sure you know how your advisor is determining the allocation of your portfolio.
11. How often will my portfolio be rebalanced?
Rebalancing is a tool used to keep your investment portfolio within specific weightings of asset classes.
For example, let’s say your portfolio is supposed to be weighted 80% equities and 20% bonds (because that’s what you and your advisor decided). If equities perform really well in the stock market, then your portfolio will grow more heavily in the equity category, resulting in more than 80% of your portfolio weighted in equities. Rebalancing is the process of reallocating assets to the proper categories so your portfolio stays “in balance.” In the previous example, this would mean that if the equities grew to be 85% of your portfolio, then some equities would need to be sold and the money reinvested into bonds to get your portfolio back to the 80% equities / 20% bonds balance. The process of doing this is called rebalancing. It’s important to know how often your advisor will rebalance your portfolio.
Examples of time periods are: rebalancing every two weeks, every month, quarterly, or annually.
- Related: Budget Spreadsheets
12. How often will we meet?
Ask your advisor how often you’ll have meetings. It’s important to know how often you’ll be meeting with the advisor so you both have the same expectations for your relationship.
13. Who else will work on my finances (do you work on a team)?
Ask your advisor if she works alone or as part of a team. If she’s out of the office, who will be available to help you? This will give you a better idea of the resources you’ll have available to you throughout the year at any given time.
14. Who’s responsible for setting up meetings and initiating contact?
Ask the advisor whether it’s your responsibility to set up client meetings or hers. It’s important to know how the relationship will function throughout the year, and initiating client contact is part of that. It’s a very different kind of relationship when an advisor is available to you but doesn’t proactively set up meetings, compared to an advisor who sets up meetings and plans ahead what the topics of the meeting will be.
This question will help you know what type of relationship you’re getting into and what you’re actually paying for.
15. How can the contract be terminated, will I be refunded, and what happens to my accounts and investments?
Finally, ask your advisor about terminating your contact.
First, ask what the termination rules are. How can you terminate your contract? When can you terminate it?
Second, ask how your fees are refunded. If you want to terminate after the first month of service but you are under contract to pay through the first half of the year without a refund, you will want to know this ahead of time.
Finally, ask what happens to your accounts and investments upon termination. Do you get to take your accounts with you? Or are the accounts owned by the firm you’re working with (meaning you would have to cash out, close your accounts, and open new accounts elsewhere)?
A Final Note!
If you are hiring a financial advisor, do your homework first. It’s a relationship that can affect your long-term financial health. The time and research ahead of time are worth it.
The 15 questions above will help you understand who you are hiring and what your relationship with that person will be like.
One step further that I encourage you to take is to use BrokerCheck to research the background and experience of financial brokers, advisers, and firms. This is a Finra tool that allows you to see the discipline of any brokers, advisers, and firms.
Don’t hesitate to do this research ahead of time. It’s worth it.