Very few investors are aware of the critical importance of their financial advisor’s method of compensation. They select the financial advisor they like the best and rarely question the type or amount of compensation. This is a big mistake and I will tell you why.

The problem starts with the title “financial advisor.” The title denotes experience and specialized knowledge. However, anyone can claim to be a financial advisor and I mean anyone. There are no industry regulations that limit who makes this potentially deceptive sales claim. Your “financial advisor” could have been selling used cars 30 days ago. Therefore, the title is relatively worthless. You have to look deeper to determine what type of professional wants to control your assets and your decisions.

There are sales representatives (reps) and real advisors. The problem is reps may claim to be advisors to reduce your sales resistance. They know a high percentage of investors do not want salesmen investing their assets. On the other hand, real advisors are RIAs (Registered Investment Advisors) or IARs (Investment Advisor Representatives). These industry registrations permit them to provide financial advice and services for fees. Everyone else is a sales rep.

There is a simple way to determine what type of professional wants to control or influence the investment of your assets. Ignore titles and job descriptions. All you have to know is sales reps (stockbrokers, agents) are paid commissions by third parties (mutual fund families, annuity companies, broker/dealers). You pay fees to real financial advisors. You may pay a fixed or hourly fee for planning advice and services. You may pay an asset-based (percent of assets) fee for investment advice and services. Or, the asset-based fee covers both types of services.

Unless a commission salesman is your only alternative, you should always select a real, fee-for-service advisor to help you achieve your financial goals. Just to be safe, require all information that describes advisor compensation in writing.

Following are the top six reasons why you should pay fees to real advisors.

Source of Payment

Do you believe advisors work for the person or the company that pays them? I do and a fee is the only way you can pay an advisor yourself. Third parties pay commissions to sales representatives. Sure they deduct the expense from your account, but the reps’ compensation comes from third parties and not you. You should always be the advisor’s direct source of payment.

Control

Third parties control the payment of commissions. You control the payment of fees. You should always control your advisor’s compensation so you can stop it if he fails to meet your expectations for value (competitive performance, risk management, expense controls).

Contact

Most real advisors talk to or meet with their clients at least quarterly. They are paid a fee for this service. Sales reps are not compensated to stay in touch with their clients. They stay in touch to generate new sales. In addition, reps are not licensed to deliver value-added advice and services. Their birthday cards are not a substitute for quarterly performance reports.

Five Years

A sales rep is paid a 5% commission to sell you an investment product. A real advisor charges a 1% fee for ongoing advice, services, and results. It takes the advisor five years of ongoing advice and services to earn what the rep was paid in advance to sell you a mutual fund.

Incentive

Your advisor’s compensation should be impacted by your results. Let’s say your advisor charges a 1% fee and your assets are $500,000. The advisor earns $5,000 per year. In the next few years your assets appreciate to $1,000,000 and your advisor’s annual compensation increases to $10,000. The increase in fees is your advisor’s incentive to help you grow your assets.

Accountability

Advisors are more accountable when you control their compensation. It stands to reason they work harder for clients who pay them quarterly than clients who produced a commission three years ago. No matter what they tell you, you should not expect reps to be accountable for what they sell. On the other hand, advisors should always be accountable for the results that are produced by their advice.

Tags: broker/dealers, financial advice, financial advisor, Investing, investment, investment advice, Investment Advisor Representatives, investors, Registered Investment Advisors,retirement, stockbrokers

About the Author

Jack Waymire worked in the financial services industry for 28 years. For 21 years he was the president and chief investment officer of a registered investment advisory firm with more than 50,000 clients. He left the industry in 2003 when his book (Who's Watching Your Money?) was published by John Wiley. That same year he launched an investor information website (www.PaladinRegistry.com) that was based on the principles in his book. Jack is a columnist for Worth magazine, a frequent blogger on major financial sites, and widely quoted in the media including the Wall Street Journal, Forbes, BusinessWeek, Bloomberg, and Kiplinger