A fee-only financial planner is very similar to a commission-based stockbroker, save one important difference. Unlike commission-based stockbrokers, the salary of fee-only planners does not depend on selling investments. Instead, fee-only planners charge a fee for their investment advice, much like an attorney or an accountant does.
Just One Primary Goal
Fee-only financial planners have only one goal: to provide the most suitable financial advice possible. However commission-based financial advisors have the secondary goal of needing to earn a living through commissions that are based off the investments they sell. This creates a conflict of interest that negatively can impact the quality of advice commission-based brokers give. A commission-based broker is always trying to complete the first goal of serving the investor’s best interest while also completing the second goal of earning a living.
No Temptation to Sell Bad Investments
Commission-based stockbrokers are always motivated by commissions and they are always aware of how much in commission different kinds of investments will pay them. Things get even trickier when you consider that the worst investments for average investors (like variable annuities, REITs and other kinds of investments) often pay a broker the highest commissions. This means that commission-based brokers are always tempted to sell these risky and/or unsuitable investments. Meanwhile, fee-only planners are not tempted by these kinds of commissions.
Less Chance of Litigation
In order to combat the temptation to sell bad investments consumers, all licensed stockbrokers and investment advisors (whether they are commission-based of fee-only) are legally bound by a fiduciary obligation to recommend suitable and appropriate investments for their clients. In addition, brokerage firms are also obligated to supervise their brokers and prevent them from violating those obligations.
Unfortunately, numerous stock fraud cases have proven that the law is not always enough to prevent commission-based brokers from making inappropriate investment decisions. If a stockbroker can earn a quick $8,000 in commissions for selling a client an overly risky or unsuitable investment, versus earning $200 in commissions for selling a good investment, there exists a strong temptation for brokers (and the firms that manage them) to violate the law. Because the temptation to sell bad investments does not exist for fee-only planners, not as many investors are forced to sue their fee-only planners.
Purer, Less Competitive Motives
Fee only planners are not under this pressure to sell and to competitively fight for new clients, so their motives tend to be purer. In fact, most fee only planners would rather see an investor handle his or her own investments than see a client go to a commission-based broker. For this reason, a lot of fee only planners will recommend competing fee-only firms to a customer whose needs do not precisely mat their services they offer. They also tend to divulge advice freely and honestly educate their clients about investing.
Fee-Only Planners Work for You
Everybody knows that a car salesman wants to sell them the most expensive car on the lot and he or she probably does not care if the car is the right match for the buyer’s needs. In some ways stockbrokers are not that different because their mentality and motivation is ruled by commissions. While there are certainly a great deal of honest commission-based stockbrokers out there who do a great job for their clients, it is hard for an investor to know if a commission-based broker is really working for their best interests.
An investment advisor needs to have a clear head when making investment decisions and recommendations for their client, and this is where a fee-only financial planner comes in. Fee-only compensation structures take the ambiguity out of the relationship. Indeed, your fee-only planner’s one goal should be to provide excellent investment advice that is perfectly tailored to your needs. In this sense, your relationship with your fee-only planner is clean and free of ambiguity, and they will not be tempted to veer from their fiduciary obligation to you.