How to choose a financial advisor: 10 questions
Two stock market crashes, one financial crisis and three Ponzi schemes later (Madoff, Stanford, Petters), it's understandable that consumers are bewildered when it comes to selecting a financial advisor.
But if you realize that you don't have the time, energy or temperament to manage your finances, where do you turn? There are a variety of sources to consider for advice. The best solution depends on who you are and what your needs are. This process requires that you know the right questions to ask.
Here are the 10 questions to ask any potential financial advisor, broker or insurance salesman:
How to choose a financial advisor: 10 questions
1. Are you registered as an investment advisor?
If yes, then the advisor owes you a fiduciary duty, which is a fancy way of saying that she must put your needs first. Investment professionals who aren't fiduciaries are held to a lesser standard, called "suitability," which means that anything they sell you has to be appropriate for you, though not necessarily in your best interest. If the advisor is registered, ask for a copy of the Form-ADV and Form-ADV part II.
How to choose a financial advisor: 10 questions
2. How will I pay for your services?
The advisor should clearly state in writing how she will be paid for the services provided. The three basic methods of payment are: Fees based on an hourly or flat rate; fees based on a percentage of your portfolio value, often called "Assets Under Management" ("AUM"); and commissions paid per transaction. How often you expect to trade, and whether you want your money pro-actively managed, will help determine which model works best for you.
Some things to keep in mind about fees:
--Planners who earn money based on commission rather than a flat or asset-based rate could have an incentive to steer you in a particular direction. When considering how you will actually buy or sell, you should determine whether you need a salesperson or an advice-giver.
--If you need a way to buy and sell securities, then you can open an online account with a discount brokerage firm (often the cheapest option), where you will not receive any advice, or you can work with a brokerage firm that provides you with a person who can talk to you. Most firms charge commissions, which is best suited for someone who wants to park stocks in an account and not trade them often.
--If you want a money manager who will make investment decisions for you, based on your investor profile and risk tolerance, than you are likely to pay via AUM. But fee-based advisors aren't perfect. Advisors earning 1 percent of your assets might be disinclined to encourage you to liquidate your investments, even if that's the right move, because their fee would shrink as a result of that advice.
How to choose a financial advisor: 10 questions
3. What experience do you have?
Find out how long the advisor has been in practice and where. Also ask if she has any professional certifications, licenses or designations, such as a Certified Financial Planner (CFP), a Certified Public Accountant-Personal Financial Specialist (CPA-PFS), or a Chartered Financial Consultant (ChFC). While these are signals of credibility, they don't guarantee a successful relationship.
How to choose a financial advisor: 10 questions
4. What services do you offer?
The services offered can depend on a number of factors including credentials, licenses and areas of expertise. Some offer advice on a range of topics, but do not sell financial products. Others may provide advice only in specific areas such as estate planning or tax matters.
How to choose a financial advisor: 10 questions
5. What is your approach to financial planning and investing?
Some advisors prefer to develop a holistic plan that brings together all of your financial goals. Others provide advice on specific areas, as needed. Make sure the advisor's viewpoint on investing is neither too cautious nor overly aggressive for your risk tolerance. Also ask whether the planner makes investment decisions herself, or depends on others in the firm to do so. What was the advisor's performance in both good and bad markets and ask yourself whether it's more important to you to make money in a rising market or prevent losses in a down market. A great follow up question: What were the three worst investment decisions you made over the past five years, and how did you correct them?
How to choose a financial advisor: 10 questions
6. Can you provide three references?
Ask for two current clients whose goals and finances match your own, as well as a professional reference, like an accountant or estate attorney.
How to choose a financial advisor: 10 questions
7. Do you have a financial interest in the entity that houses my account?
This is your Madoff-prevention question. When interviewing advisors not associated with large brokerage or insurance companies, ask if they use an independent third-party custodian or clearing firm (this is the entity that produces your statements), which prevents the advisor from having direct custody of your assets and adds another level of security for your account. In the Madoff example, he was the investment advisor, broker-dealer, clearing agent and custodian for all of his client accounts -- a big red flag.
How to choose a financial advisor: 10 questions
8. How often will we interact?
What should you expect in terms of frequency of verbal, written and in-person communication? Also ask whether the advisor will remain your primary contact.
How to choose a financial advisor: 10 questions
9. Is there anything in your regulatory record that I should know about?
Part of your research should include conducting background checks on the professional you may hire. You can visit the Securities & Exchange Commission and FINRA websites or the State Securities website NASAA as well as the CFP Board. While some violations are non-starters (settlement of multiple customer complaints) others may be understandable (marketing materials not pre-approved; non-client or investment violations).
How to choose a financial advisor: 10 questions
10. Do I like this person?
At the end of your meeting, ask yourself the most important gut check question: Do I like this person? After all, you are about to enter into an intimate relationship that will hopefully last a long time. If you have any reservations, move on. There are plenty of qualified advisors out there, who would like to help you out.
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