The Securities and Exchange Commission did investors a favor in 2011 when it made financial advisers explain their compensation in plain English instead of industry jargon. Now when you request Form ADV Part 2, you can more easily see whether an adviser gets commissions from the investments he sells, charges a flat fee or a percentage, or is paid another way. The form also mentions disciplinary actions, conflicts of interest, and other background information.
But Form ADV Part 2 doesn’t tell the whole story. Advisers won’t necessarily volunteer everything about the scope of the services they provide or all that you’ll pay to work with them. Those sins of omission—some inadvertent and some intentional—can cost you. Here’s what might be left unsaid.
I’m more expensive than you think
Fee-only planners, the kind we generally recommend, often charge an investment-management fee equal to a percentage of your assets. Annual fees for assets of $1 million or less can range from 0.7 percent to more than 2 percent, with 1 percent being average. But we recommend that you ask.
Even a seemingly small difference in that fee—say, 1.5 percent a year instead of 1 percent—can cost you substantially. In 20 years, a $500,000 nest egg growing at 8 percent would be worth $1,934,842 with a 1 percent fee but only $1,761,823 with a 1.5 percent fee.
If a prospective adviser charges more than 1 percent, seek someone else. Certified financial planners at the mutual-fund giant Vanguard charge 0.7 percent to manage accounts of $1 million or less. On that $500,000 balance, a 0.3 percent difference would save $111,435 in 20 years.
I might not have your interests at heart
Your adviser is required to tell you what she charges for her services, but she may not be required to compare the cost of her recommendations with alternatives. Whether she works for a brokerage house, bank, or an insurance or mutual-fund company, she may hawk her employer’s proprietary financial products first because they’re more profitable to the company.
If your adviser charges a commission—typical for professionals called broker-dealers—she need only identify investments that are “suitable,” not necessarily the cheapest. She could recommend a mutual fund that fits your portfolio and risk tolerance but isn’t the least expensive and—no coincidence—pays her well. In contrast, a registered investment adviser is legally required to act as a fiduciary by putting your interests first. A certified financial planner is not bound by law but by similar professional standards.
To avoid conflicts, ask the adviser for written confirmation that her relationship to you is as a fiduciary. If she doesn’t, find someone else. If your adviser works for a brokerage, her recommendations no doubt will include at least some, if not all, mutual funds sold only by her company. Ask about comparable funds and their costs.
I might recommend investments you don’t need or understand
Variable annuities, for instance, promise retirement income in exchange for a lump sum or periodic premium payments. Their fees can trim more than 8 percent off returns and end up losing you money.
Exchange-traded notes (ETNs) are arcane investments that are backed not by actual assets but by a promise from the issuer to pay an amount based on a benchmark. Issuers can arbitrarily delist their ETNs; it’s also not so easy to redeem shares in an ETN. Even the purchase of tax-free products such as municipal bonds might not make sense if your tax rate is fairly low.
Ask about potential negative outcomes from any investment. Have the adviser back up his pitch with data, and take your time deciding. Or get a second opinion. At Garrett Planning Network, for instance, you can find advisers who will review investment plans of other advisers for a few hundred dollars.
What you can do on your own
If you’re not close to retiring, focus on saving enough and properly allocating holdings. Your retirement-plan sponsor may offer online tools and personal services to help. Here are other aids.
Assess your retirement readiness with T. Rowe Price’s Retirement Income Calculator or Analyze Now’s Free Retirement Planner. Or find an adviser working for a flat or hourly fee at the website MyFinancial Advice.
Figure your Social Security payout at various ages by using that agency's Retirement Estimator.
Closer to retirement, hire a pro to advise on drawing down retirement accounts and claiming Social Security benefits if you’re married, divorced, or widowed.
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