As someone looking for a financial advisor, you probably have a lot of different questions running through your mind. Our personal finances are never an easy topic to think about, let alone talk about with another person. There are a lot of emotions tied up in your financial goals, investment portfolio and day-to-day spending. When you go into a meeting with a financial advisor, whether it’s your first meeting with a new potential advisor, or you’ve been seeing a financial planning professional for a while, it’s important to step beyond the emotional side of your finances and ask them a few practical questions. The answers may surprise you and help you make informed decisions about how to work with your advisor.
1. Are You a Fiduciary?
A fiduciary is an advisor who must act in your best interest at all times. This seems like it should be a given, but many financial professionals are not held to this standard. Many advisors act under a suitability standard, which means they are obligated to make recommendations that are “suitable” for you, but may not be the best option for you.
In other words, if they receive a commission from selling you a financial product, and it loosely fits into your investment strategy and portfolio, they can recommend it even if there are better options out there. You want to make sure your advisor is a fiduciary who is committed to acting in your best interest at all times.
2. What Is Your Investment Philosophy?
Typically, investors fall into one of two camps: passive investors or active investors. Passive investors attempt to match market returns using index funds. This approach typically involves broad diversification, low costs and low taxes. On the other hand, active investors attempt to beat the market by picking the best stocks (or mutual funds) or jumping in and out of the market at the right time.
This approach typically involves less diversification, higher costs, and higher taxes. It also involves greater uncertainty because your performance will depend on the bets your advisor makes. There’s not necessarily a right or wrong answer to this question, but it’s important to be aware that research consistently shows most active investors underperform their investment benchmarks. The key is to ensure your advisor’s investment philosophy reflects your own. (For related reading, see: Active vs. Passive Investing.)
3. How Will I Know If I Am on Track to Achieve My Goals?
Your financial advisor should be helping you build a comprehensive financial plan and investment strategy that puts you on track to achieve both short and long-term goals. They should be able to walk you through how your strategy will work over time, how your asset allocation lines up with your retirement goals and timeline, and how they will know if you get off track and need to adjust the initial plan.
4. How Are You Compensated?
There are three different ways an advisor can be compensated: fee-only, fee-based or commission-only. Fee-only advisors are compensated exclusively by the fees you pay them. Because their compensation isn’t based on the investments they recommend, you don’t have to wonder if they’re recommending an investment product because it makes them more money.
Commission-only advisors are compensated through the receipt of commissions on the financial products they sell. This isn’t necessarily bad, but it can create a significant conflict of interest and should lead you to ask more questions about their compensation model and why they’re recommending a certain investment. Fee-based advisors blend the two structures: They charge you a fee for their services and may receive a commission for selling you a certain investment product.
Understanding how your advisor gets paid can help you better understand your working relationship with them. It can also help you to determine whether they’ll be a good fit for your unique financial situation. (For related reading, see: Are Your Financial Advisor Fees Competitive?)
5. Do You Hold Any Designations?
There are a number of designations a financial advisor can hold. The most common and recognizable designations among financial advisors are probably the CFP (certified financial planner), CFA (chartered financial analyst), and CPA (certified public accountant). While there is often some overlap between designations, each designation typically focuses on a particular area of expertise.
The CFP focuses on financial planning, the CFA focuses specifically on investments and the CPA is focused on taxes. There are many other designations, several of which are focused on a particular niche. For example, an RICP (retirement income certified professional) focuses entirely on retirement planning. There are also designations focused on helping divorcees, medical professionals, business owners, etc. There isn't a “must-have” designation, but you want to make sure your advisor's area of expertise matches your financial needs.
6. What Does a Typical Client Engagement Look Like?
This question references the close, personal relationship many people form with their financial advisor. They’re in charge of one of the most important things of your life: your money. That means they’ll be helping you plan for your lifestyle goals, create a retirement saving and spending strategy, invest your funds and so much more. You deserve to understand how your advisor plans to work with you in the coming months and years. Don’t be afraid to ask them what they’ll do for you on an ongoing basis, how much contact you’ll have with them and how you can contact them.
Finding an advisor who is the perfect fit for you can be challenging. Asking these questions can help you determine who is a good match for your personality, investment philosophy and long-term financial goals.
(For more from this author, see: Investors: Focus on What You Can Control.)