Want to avoid hiring the wrong financial advisor? Look out for these five financial advisor red flags during your search process.
As your financial life becomes more complex, it’s natural to seek guidance from an experienced professional. Ideally, you want someone who’s highly qualified and trustworthy to manage the details of your finances, so you can focus on the rest of your life. Yet finding and hiring the right financial advisor isn’t always as easy as it seems.
Indeed, there’s no shortage of people who call themselves a financial advisor in the United States today. According to the Bureau of Labor Statistics, there are over 260,000 “personal financial advisors” in the U.S. as of May 2021. If you happen to live in a big city or busy suburb, you may have dozens of financial advisors within a mile of your home.
So how do you choose the right financial advisor? And more importantly, how can you avoid entrusting the wrong person with your money? In this article, we’re sharing five red flags to look for when hiring a financial advisor.
Before hiring a financial advisor, look for these five red flags:
Red Flag #1: They’re not a fiduciary.
You be surprised to learn that not all financial advisors act in their clients’ best interest. In fact, only financial advisors that hold themselves to a fiduciary standard of care must legally put your interests ahead of theirs.
Meanwhile, broker-dealers, banks, and insurance companies typically hold their financial advisors to a less stringent suitability standard. That means they may be considering other factors when making investment recommendations—for example, their payout.
Keep in mind that in the United States, registered investment advisors (RIAs) must act in a fiduciary capacity. In addition, financial advisors who are CFP® professionals follow a strict code of ethics that requires them to put their clients’ interests first.
Bottom Line: If a financial advisor isn’t a fiduciary, they may not be giving you reliable advice.
Red Flag #2: They can’t explain their fees.
In general, financial advisors are compensated in client fees, sales commissions, or both. Fee-only financial advisors are paid directly by clients—and only clients—for their services. These advisors typically have a straightforward fee schedule they can show you, so you know exactly what you’ll pay for their services ahead of time. In addition, fee-only advisors have no hidden fees.
Why is this important? A fee-only compensation structure helps ensure that the financial advisor’s interests are aligned with yours. For example, if the advisor charges a percentage of assets under management, their compensation only increases if your assets appreciate in value.
On the other hand, fee-based or commission-based advisors may earn part or all of their compensation in sales commissions. In other words, these financial advisors may be more incentivized to sell products than give advice. And since they’re paid on commission, it’s far more difficult to understand the cost to you ahead of time.
Bottom Line: A financial advisor who can’t clearly explain their fees may have hidden incentives when managing their clients’ money.
Red Flag #3: They’ll take anyone as a client.
Many financial advisors limit who they’ll accept as clients by setting minimums on investable assets, net worth, or fees. While this helps ensure their firm remains profitable, it also allows them to take on fewer clients so they can provide better service.
If a financial advisor doesn’t have minimums or other new client criteria, you may want to ask about their assets under management (AUM) and current client base. Low AUM may indicate that their business isn’t stable or sustainable. Meanwhile, too many clients may limit the amount of personal attention you’re likely to receive.
Depending on your personal or financial circumstances, you may prefer to work with a financial advisor who specializes in serving clients like you. When your financial advisor has expertise in a certain niche, they can help point out your blind spots and anticipate future challenges.
Bottom Line: Beware of financial advisors who will work with just anyone.
Red Flag #4: They don’t answer their phone or emails.
A recent Vanguard and Spectrum Group study revealed that four of the top five reasons investors fire their financial advisor have to do with communication. Asking a financial advisor how often you can expect to hear from them up front can help you avoid potential issues down the road.
In general, a financial advisor should meet with you formally at least annually to review your investment plan and progress towards your financial goals. However, life changes and other circumstances may warrant more frequent contact.
If nothing else, you should feel confident that your financial advisor will be available and responsive when you need them. If you call or email and don’t hear back—or only hear from their assistant—this may be an indication of the level of service you’re likely to receive as a client.
Bottom Line: If communication is rocky from the get-go, don’t expect it to change once you become a client.
Red Flag #5: They don’t have a clean regulatory history.
Lastly, make sure any financial advisor you’re considering has a clean history. Licensed financial advisors and RIAs must make regulatory deficiencies available to the public.
To research this information yourself, you can leverage free tools like FINRA’s BrokerCheck and the SEC’s Investment Adviser Public Disclosure website. These websites contain information about past regulatory issues as well as the outcome (unless the outcome is pending). They will also give you more insight into an advisor’s history and how they run their business.
Whether you think a financial advisor is risky or not, be sure to spend some time on these websites before meeting with them. If nothing else, you can make sure their answers align with the information that’s available online.
Bottom Line: If a financial advisor doesn’t have a clean history or can’t explain their history to your liking, move on.
Hiring a Financial Advisor You Can Trust
Of course, this is not a comprehensive list of red flags you may encounter when interviewing financial advisors. However, if any of these red flags pops up during your search, it’s probably a sign you should move on and find someone else to entrust with your wealth.
In addition, be sure to pay attention to your overall comfort level and chemistry with the advisors you interview. Did you like them? Did they ask good questions and listen to your responses? And most importantly, do you trust them? If you’re still not sure, ask if they can share a few client references that you can contact. Ultimately, you should feel completely confident that your money and future are secure.
Sherwood Wealth Management specializes in inherited wealth. If you’ve recently inherited a windfall or your financial situation has gotten too complex to manage yourself, we invite you to schedule a call to see if we’re a good fit.