What is a Fee Only CFP?
There is a lot of confusion about CFP® (Certified Financial Planner™) designees and their compensation systems. A big percentage of CFPs® claim to be fee only advisors without defining fee only or disclosing their compensation amounts to their clients.
The Fee
A CFP®, who is a relative rare purist, may define fee only compensation as only accepting hourly or fixed fees for their planning services. They are compensated like CPAs and attorneys. You pay $200 per hour or a $2,500 fixed fee for their planning services.
This definition of fee only limits the amount of money the CFP® can make from his relationship with you.
The Asset-Based Fee
Some professionals include an asset-based fee in their definition of fee-only. It is a fee, versus a commission, that is a percentage of your assets (1% of $500,000 is $5,000). However, this fee may not meet the standard of the purist who limits the definition of fee-only to hourly and fixed fees.
The single biggest revenue stream for financial planners and financial advisors is asset-based fees because they are recurring and they automatically increase with asset amounts.
Commissions Based Fee
The fee only CFP® and other professionals sell against planners and advisors who are compensated with commissions. And yet, 75% of legitimate planners and advisors may also receive commissions for selling investment and/or insurance products.
For example, your financial plan recommends the purchase of significant amounts of insurance products (life, annuity, long-term care, disability). The sale of the products will generate $25,000 of commission income. Does the planner handle the insurance himself and keep all of the commission? Does he refer you to an insurance professional and share in the commission? Or, does he refer you and not receive anything for the referral. A pure fee only planner would do the latter.
There are also investment commissions for the sale of mutual funds, hedge funds, and other financial products. Advisors may sell these products to clients with smaller asset amounts because a 5% commission produces a lot more income than a 1% fee.
Confusion
It is safe to say there are at least three types of financial professionals based on the way they are compensated:
- The fee only planner: His only method of compensation is an hourly or fixed fee.
- The fee based planner: He is compensated with hourly, fixed, and asset-based fees.
- The hybrid planner: He is compensated with hourly, fixed, and asset-based fees. Plus, he receives commissions from the sale of insurance and/or investment products.
Most financial professionals will discuss their compensation methods, but they do not disclose their amounts of compensation – except the true fee only planners.
Eliminate Confusion
There is an easy way to eliminate any potential confusion about advisor compensation. Require them to document in writing, so you have a record, of their compensation methods, their compensation amounts, and what you receive for the compensation. This is called transparency. You have every right to require this documentation – it’s your money and your financial future that are at stake.
Documentation should also include any payments from third parties. For example, your planner refers you to an insurance agent and participates in the commissions that are produced by the agent. Or, the planner’s firm receives kickbacks from product companies such as mutual fund families and insurance companies.
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ADV
The year was 1995 and I worked for a small RIA custodial services firm called Waterhouse Securities (now known as TDA). One of my roles was processing all financial advisor management fee invoices that were faxed and mailed (yup, every advisor on our platform). This was pre-technology, pre-internet, pre-online anything.
We had advisor folders with copies of their ADV’s (https://www.sec.gov/answers/formadv.htm) and I had to make sure they were not over-billing their clients by going through the advisors ADV.
I’ve reviewed hundreds of these ADV’s and today, many advisors (okay, maybe not that many) have their ADV’s right on their websites for clients to see how they bill them.
Transparency!