One of The Motley Fool's founding principles is that you can handle your investments on your own. Yet many people still feel more comfortable hiring a financial advisor to guide them through their investing strategies. Before you pick a pro to help you, though, there are some key things to keep in mind about how the industry works and what you need to do to protect yourself.
To give you more color on the financial advisor industry, three of our Motley Fool contributors provide their thoughts on what you should know about money pros. Learn from their experiences and share your own stories in the comments section below. Then head over to our broker center to explore the features of popular investment accounts.
Jason Hall: If you think you need a financial advisor, you owe it to yourself to take the time to find the right person with the right skills, and the right code of ethics. In many ways this could be the most important professional who receives your business. While doctors, attorneys, and CPAs are essentially all held to a specified level of responsibility and code of ethics, financial advisors are often subject to little -- if any -- fiduciary obligation to their clients.
Unfortunately this has resulted in an industry that is largely made up of salespeople, not advisors, despite what their business cards might say. This, of course, can result in a conflict between what is best for you and what is most profitable for the advisor.
With this in mind, it's worth taking the time to find out what standard your advisor is bound to: fiduciary or suitability. A fiduciary standard is much more rigorous; the "suitability" standard is much less so. Furthermore, advisors who have certifications such as certified financial planner are also held to a higher standard versus a title such as financial advisor or financial planner, generic terms with little to no certification or fiduciary standards behind them.
Meet with several advisors, even if you like the first one you meet. Remember: salespeople are charismatic by nature, so don't mistake being likable as being capable. Find someone who is both financially and ethically aligned with your best interests, and ask the hard questions.
Financial advisors get paid in three main ways. Some advisors work entirely on commission, some work on a fee-only basis, and some work for a combination of the two. As Dan mentions below, many advisors work for companies that offer their own proprietary line of investment products, and this can cause a serious conflict of interest. So it's important to know which type of financial advisor you're dealing with.
Commission-only financial advisors tend to work for insurance companies or large investment advisory firms, and receive only commissions based on the products they sell you. Fee-only advisors tend to work independently or with smaller firms, with their only compensation coming from a flat fee.
The most common compensation structure is a combination of the two. Advisors associated with large banks tend to have this sort of compensation structure, receiving a fee for developing your financial plan and a commission when they sell you certain insurance and investment products.
I'm not saying to avoid advisors who work on commissions. Rather, be aware if your advisor is getting a "cut" from the products he or she sells you.
Dan Caplinger: One misconception that many people have about financial advisors is that they mistakenly think advisors are prohibited from having any conflicts of interest. In fact, many advisors do have such conflicts, leading them to make recommendations that aren't always the best available. In particular, it's relatively common for financial advisors to work with certain financial institutions, many of which offer their own proprietary lines of investment products and urge their advisor-employees to sell those products rather than considering similar investments from independent third-party providers.
To avoid problems down the road, ask plenty of questions early about the sorts of products your advisor will recommend. In many cases, you'll get pressure from your advisor to consider investments that carry high costs and don't have any obvious benefits compared to lower-cost alternatives. Also, some advisors work for companies that offer a broader range of products, such as real estate, banking, or insurance, so you might be cross-sold on products that aren't directly related to your investment needs.
For those seeking to avoid problems, some types of advisors are safer than others. Certain financial professionals are required to uphold a fiduciary responsibility to their clients, meaning they must act in their clients' best interest and disclose any potential conflicts of interest. In the end, it's hard to avoid conflicts of interest entirely, but you should get a sense early on whether your advisor is open about any conflicts and does the best job possible of working for you rather than against you.