It happens millions of times over the course of a year. A financial advisor lays out the options, the investor nods wisely and asks a pertinent question, and then – presto! – another year of retirement planning successfully concluded. This process has become so de rigueur that we don’t even question it anymore. The advisor plays his/her role, the stock market plays its role, and the investor greases the system with retirement money. It pays, though, to occasionally take a step back and revisit the system. After all, it is your retirement that’s at stake. Here are four quick facts (that your financial advisor “forgot” about) that can help give you a new perspective.
1. How Much is Your Financial Advisor Getting Paid?
You know that you’re paying him… sort of. Most people never get a bill directly from their advisor. Rather, the fees are deducted straight from the account, and that’s definitely to the advisor’s advantage. After all, out of sight, out of mind. To make matters worse, the fees themselves can vary based on the advisor, on the amount you’re investing, and according to the kinds of products that the advisor is offering you. Typically fees are determined as a percentage of AUM (Assets Under Management), but that percentage can vary based on the size of your assets. Those who don’t have a huge nest egg often have to pay higher fees to help supplement advisor revenue.
Let’s break it down in real dollars. Although those one or two percentage points don’t sound like a lot on paper, in real life they can be a very big deal. Take Morgan and Emma. Both have $100k in their retirement accounts, but there is a 1% difference in what they pay to their financial advisors. Morgan’s advisor charges him .5% of Assets Under Management (AUM), while Emma’s advisor charges her 1.5%.If their funds grow on an average of 7%, then in real terms Morgan’s funds grow at 6.5% per year, while Emma’s only grow at 5.5%. At the end of the first year, Morgan’s account has $106,500 in it, while Emma’s account has the slightly lower amount of $105,500. Not a big deal, right? The thing is that retirement accounts are meant to save for the long term. If you extrapolate Morgan and Emma’s accounts 30 years down the line, you’ll find that Morgan is now sitting on a nest egg of $661,436, while Emma is looking at $498,395. That 1% markup from Emma’s advisor ends up costing her more than $160,000! No wonder they like to keep those fees under the radar.
2. Who is Paying Your Financial Advisor?
The first check comes from your account. The second check… well, that’s where it gets interesting. You know the mutual fund that your advisor said was a solid investment? It could be he was telling the truth, but it could also be that he’s getting a hefty “revenue sharing” check from the mutual fund itself. Unfortunately for you, this payment is perfect legal. At the very least it sets up a conflict of interest where the revenue sharing motive might influence your advisor’s better judgment. At the worst, your retirement fund could become a vehicle for whichever funds have the biggest commissions. To further complicate matters, even non-investment products can carry these revenue sharing payments. Banks often give financial advisors incentives for pushing mortgages, credit cards, and checking accounts.Buyer beware indeed.
3. What Kind of Assets Can You Put in a Retirement Portfolio?
Obviously stock, bonds, and mutual funds are perennial favorites for retirement assets. Other assets (e.g. local real estate or a business franchise) can go into a plan, but there are a number of reasons why you won’t hear about them from your advisor. The number one reason is that mutual funds are the easiest asset for your advisor to manage. Put your money in and you’re finished. The advisor doesn’t have to take any personal involvement in the actual financial management, and he obviously can’t be held responsible if the market suddenly tanks. If you don’t like your chances on Wall Street, it might be very possible that a self-directed retirement plan utilizing enhanced retirement platforms is more appropriate.
4. Will Your Advisor’s Plan Actually Provide Enough for Retirement?
That’s the point, right? You’re trying to save enough of those hard earned dollars now so that you won’t have to worry about it later. The question is will your investment strategy pay off? Your financial advisor will usually try to boost confidence in the plan by running it through a statistical program. He puts in your age, your contribution amounts, market returns, and – voila! – out pops a prediction of success. “You are 96% certain to reach your retirement goal.” The numbers are usually pretty good, and why shouldn’t they be? It’s a prediction whose sole utility is to inspire confidence in the recommended plan. The truth is that your financial status could change (earnings can shift for better or worse), and, more importantly, your investments can change. Funds often take a turn at the worst possible time, and the market certainly can’t be trusted with any kind of consistency.
This is especially true when we consider the hard statistics. According to the most recent survey from the Employee Benefit Research Institute, more than 70% of Americans don’t even have $100k in their retirement accounts. If one assumes an average retirement period lasting about 25 years, then that means these people will have to be getting along on less than $5,000 a year. What happened to that shiny 96% certainty? It pays to do yourself a big favor and run the numbers on your calculator.
In short, financial advisors certainly have a role to play. They usually have a good feel for the system, and they can definitely open your eyes to new financial realities. Still, it pays to know where they’re coming from. Sometimes a little knowledge can also be a good thing.