Those seeking a financial advisor will encounter two types of fee structures: fee-only and fee-based. The difference between the two might not be immediately apparent. But as you research advisors to help you plan your financial future, you should understand exactly how you’ll be paying them and what their compensation model means for you. Regardless of which compensation structure an advisor uses, they are typically all registered investments advisors (RIAs), either at the federal level with the SEC or at the state level. If you need help finding an advisor, consider using SmartAsset’s free financial advisor matching tool.
What Is a Fee-Only Financial Advisor?
Fee-only financial advisors earn money exclusively through the fees that their clients pay. The fees you’ll pay for investment management services are often calculated as a percentage of assets under management (AUM). For instance, you might pay 1% of the value of all your assets that are under your advisor’s management. Other times, asset-based fees are calculated according to a graduated table of rates. You might, hypothetically, pay 1% on all assets up to $2 million in AUM, 0.75% on the next $3 million and 0.65% on all assets above that amount.
Advisors often charge a flat fee or an hourly rate for comprehensive financial planning, retirement planning or consulting services. These fees typically vary depending on the complexity of the work and the amount of assets under consideration. Some fee-only advisors may also charge a performance-based fee that’s contingent upon how well your investments perform.
A fee-only advisor doesn’t receive payment from any other source. As we already defined, all of their income comes from the services they provide to clients and the amount of assets under their management. If the advisor makes money in any other way, especially if it is from a source other than client fees, the advisor is not fee-only.
What Is a Fee-Based Financial Advisor?
Fee-based financial advisors also make money through the fees their clients pay. Just as with fee-only advisors, these fees are often based on a percentage of AUM. However, the advisor also may charge clients flat fees, hourly fees or performance-based fees.
Unlike fee-only advisors, fee-based advisors may also earn money through other means. Here are three main ways that fee-based advisors could make money:
- Brokerage commissions when acting as a broker-dealer: If your financial advisor is also a broker-dealer, they will earn commission-based compensation for executing trades for certain investment products. The advisor could also sell or buy securities from you, potentially earning a spread.
- Insurance commissions: Some advisors are insurance agents as well. If so, they’ll make commissions from selling insurance policies.
- Selling mutual fund shares: Some mutual fund companies pay commissions to brokers for selling you shares of their funds.
Unlike financial advisory fees, these fees are not based on the amount of money in your account. This makes increasing the value of your account less important to the advisor. Moreover, these fees present potential conflicts of interest. The advisor has a financial incentive to sell you the products from which they can earn a commission, even if it isn’t necessarily the best product for you.
A fee-based advisor who is registered with the SEC is generally bound by fiduciary duty when acting as an advisor. But when they sell products, they’re acting in a sales capacity. Historically, broker-dealers were subject to the less stringent suitability standard, meaning their recommendations only had to be suitable for their clients. However, the SEC’s Regulation Best Interest has established a new standard of conduct for brokers, requiring them to make recommendations that are in clients’ best interests.
Fee-Only vs. Fee-Based Financial Advisors: Which Is Right for You?
When choosing a financial advisor, a fee-only advisor is often a smart choice for investors seeking unbiased and objective advice. Fee-only advisors earn their income solely through client fees, aligning their success directly with the growth of your account. Their compensation structure eliminates conflicts of interest, helping to ensure their recommendations are always in your best financial interest.
On the other hand, fee-based advisors earn income from both client fees and commissions, which can introduce potential conflicts of interest. They may have an incentive to recommend products that generate commissions, even if those products aren’t the best fit for your financial goals.
However, fee-based advisors can be a convenient option for those who prefer working with a single professional for multiple financial needs. For instance, some fee-based advisors can provide insurance products alongside financial planning services. Additionally, you may simply have a trusted advisor who happens to operate under a fee-based model.
Regardless of which type of advisor you choose, it’s essential to confirm whether they are bound by a fiduciary duty when acting in an advisory capacity. Fiduciaries are legally obligated to prioritize your best interests above their own. Also, make sure you fully understand their fee structure and how they are compensated. With this knowledge, you can make an informed decision that aligns with your financial needs and goals.
Bottom Line
Fee-only and fee-based are the two main financial advisor fee structures. Fee-only advisors only earn money through the fees their clients pay. The fee is often a percentage of assets under management (AUM). Sometimes, however, an advisor may charge a flat fee or an hourly rate. Fee-based advisors make money through client fees as well as from commissions or brokerage fees. This presents potential conflicts of interest. Individual investors should make sure they know everything about how advisors make money before they make the decision to work with one.
Tips for Finding a Financial Advisor
- Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- SmartAsset has hundreds of pages dedicated to finding the top financial advisors in many cities around the U.S., all 50 states and Washington, D.C. Check out these pages here.
- Even before you go to an advisor, you should know how much money you’ll need for retirement and how close you are to being on track. Check out SmartAsset’s retirement calculator to see where you stand.
Next Steps
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