One of the most obvious personal finance mistakes that I have observed the every day consumer and average Joe make over and over is how they go about hiring the advice of a financial adviser.
When people think of financial advisers or why people need a financial adviser most people will typically think of investing needs and investment planning.
This is, in most cases, why people hire a financial adviser. But in my opinion this should only be one of many reasons to seek the guidance of someone who understands the world of finance and the many many financial products that the every day person come to depend on.
Think about it. Mortgage. Taxes. Real Estate. Mortgage Assistance. Banking. Investing. Large purchases. Loans. Loans, and more loans.
Most people will have someone assist them with the decisions that come with obtaining some of these products and services. However they don't always and they should. Even more importantly people hire the wrong people for the right reasons. The latter has always been and most likely always will be the aspect of financial services and how consumers go about purchasing these financial services.
There are three ways to hire advice in the world of finance. The first and most common is by paying a indirect commission. The second is by paying a direct commission or percentage of the assets being invested or rather managed. The third is by paying a direct fee per hour or unit of time.
Before I get into which one is best let us take a close look at all three ways to hire financial advice.
The 3 Ways to Hire Financial Advice
This is the most common. The way it works is a agent helps the consumer select financial products such as mutual funds, loan products, stocks, bonds, annuities, and the like.
The commission is technically not charged to the customer but rather to the company who pays the agent based on what product and what volume was purchased by the consumer. This may sound a lot like how a car salesperson gets paid.
This is an accurate observation.
Percentage of Assets Managed
The way this works is pretty simple and straight forward. A firm agrees to help you manage your money and investments in return for a set percentage of the total assets being managed. So for instance if the firm charges 2% of what ever they manage and you have 1,000,000.00 dollars being managed then that firm will charge 20,000.00 dollars.
This model is commonly used for high end account management and by mutual funds.
Fee per Hour or Unit of Time
This is the same concept as hiring a defense attorney. You pay a fee for every hour that the adviser spends on your account. So if for instance, you hire a firm that charges 200 dollars per hour and they spend a total of five hours on your account then you will get charged 1000.00 dollars.
Which is the Right Way to Buy Financial Advice?
So now that we have taken a look at how each way to buy advice works which one would you choose. Well most of you whether you know it or not hire via a indirect commission.
Is an indirect commission the right way to pay?
As long as you don't mind putting your advisers money and your advisers interests before yours, don't mind paying them to do it, and given that you don't want your decisions based on your needs; then yes this is a great way to purchase financial advice.
Think about it... you are not talking to an adviser you are talking to a sales person. How can they have your interests in mind if they make money based on what you purchase and you have to purchase what ever they can sell.
When you buy financial advice this way you are not really buying advice.
Is Purchasing Financial Advice Based on a Percentage of Managed Assets a Good Idea?
Though this method has merit I am not sold on the notion. I will say that it can certainly simplify things in certain situations. For instance a manager of a mutual fund will often get paid this way. I believe that if used along with performance incentives it can work for the mutual fund model. However not for personal advice.
There are to many areas where personal interests from the adviser can get in the way. For instance there can be side deals, also there is a conflict of interest when it comes to looking at options such as paying off debt, or whether to use any leverage. This is because using leverage will make the adviser more and paying off debt will pay them less.
Is Paying a Flat Fee per Hour a Smart way to Buy Financial Advice?
Paying an adviser a flat fee to advise you what to do with your money is overwhelmingly the best way to purchase financial advice.
Because it is the only way that does not involve a conflict of interest. The adviser is going to make the same amount of money whether you use all the money to buy this or that or pay off debt or whatever. they are not selling you anything but time and thought. They have an incentive to try and do the best they can so that you will be back next time you need some advice.
Pay someone 200 an hour if you want to know how to invest your money or whether or not to make some sort of large purchase. it just makes sense.
Ironically this is the least used method of purchasing financial advice.
Effective Habits of the Financially Healthy and Wealthy
DIY Credit Card Debt Management
Golden Rule of Personal Finance - Pay Yourself First