Rick Bloom Talks Money

8 Things To Know Before Hiring a Financial Advisor

Episode Notes

Rick Bloom thinks money looks better in your pocket than it does anywhere else. With that in mind, today we discuss the 8 things to know before you hire a financial advisor.

  1. How is the advisor paid?
  2. Is the advisor a fiduciary?
  3. Does the advisor use an independent custodian?
  4. Who regulates the advisor?
  5. Which investment vehicles are the advisor using?
  6. Who is the advisor's typical client?
  7. Don't be fooled by firm names.
  8. Don't get caught up in alphabet soup of initials.

Additionally, make sure your advisor is someone you can communicate with.  

As always, Rick answers email questions from listeners regarding:

Got a question for rick? Email him at Rick@rickbloomtalksmoney.com


Bloom Asset Management website: http://www.bloomassetmanagement.com/

Episode Transcription

Hello and welcome. I'm Rick Bloom and you're listening to Rick Bloom Talks Money. The goal of our podcast is real simple -- to make sure you have more money in your pocket because I believe money looks better in your pocket than it does anywhere else. And that's what we're always going to talk about; things that you can do to keep more money in your pocket. 

In fact, that's what today's topics about -- financial advisors, financial advisory firms, the eight things you should know before you hire a financial advisor.  And trust me, if you don't do your homework ahead of time, you're going to run into trouble, and we don't want to do that.  Before we get into today's topic, we want to spend a few minutes talking about where we are in the market. As I do this, it's June 3rd and we've had a very good run in the market and that's always good. However, keep this in mind markets and the economy sometimes are two different things and, in this case, I believe markets are a little head of the economy.

If you look at the markets, it looks like everything is go, go, go and everything's back on track, but that's not the case. We still have significant issues ahead of us; unemployment is still high, we don't know how consumers are going to react to America reopening, and also, we don't know the impact on small businesses yet.  So, we still have lots of challenges in today's market. And that doesn't mean you run in, turn away from it; absolutely not. But it also means you have to be cautious. We're still in a crisis and we're still trying to manage our way through the crisis. So be careful and don't just rush into anything. Make sure you do your homework.

Why is it important to hire a good financial advisor? Well, if you're going to hire a good financial advisor, you want your financial advisor to help you financially. Well, unfortunately, if you don't hire the right advisor, you find that you're actually in worse shape than when you started. And so it's important to recognize not all financial advisory firms, not all financial advisors are the same, and you have to do your homework ahead of time.  I want to run through eight things that you should know about each advisory firm and each advisor before you retain them. 

And number one, and to me, it's probably the most important issue, and that is how does the advisor make their money? And I know these are uncomfortable conversations to have with someone about money and how they charge you, but we're adults and this is money.It is important that you find out how they make their money. And in the financial advisory world, there are three types of financial advisors. 

The first type of advisor is fee only. And what those advisors do is they charge you a fee for their service. It may be an hourly rate, or it may be based upon money under management. The average fee is probably about one-and-a-half percent. They do not make any other compensation from any investment they put you into. So, there are very few conflicts of interest when you deal with a fee only advisor because their interest is you and only you.

The second type of financial advisor is what is known as a commission financial advisor, a commission only advisor.  And how these people make their money is they sell you things.  So, they don't make money unless they sell you something.  So, they come from a very strong sales background. And in addition, with commission salespeople, they can earn what are called trailers. Which means the longer you hold the investment, they make money year after year. Even if they don't do anything for you, they still make money. Also, there's things like proprietary funds.  They may work for a brokerage house where they make more commissions as they sell one product versus the other. And also, commission salespeople are notorious for getting free trips and other types of sales bonuses by selling certain types of investments.  With commissioned financial advisors, you have the largest amounts of conflicts of interest, because the question you ask yourself is the financial advisor loyal to me, or are they loyal to who is paying them?  I think most people are loyal to who's paying them. And that's why I always caution people using commissioned salespeople. And to be fair, the best commission salespeople I know of never worry about commissions. They only worry about taking care of their clients. However, unfortunately, there are too many, not so good commissioned salespeople.  So be careful if you're dealing with a commission salesperson, make sure you find out what the commissions are, what all the fees are. 

The third type is what we call hybrid. They take commissions and they take fees. They charge you a fee for their service, and then they charge you a commission. And as far as I'm concerned, that's double dipping and you never want to pay both, it just doesn't make sense. And one thing to keep in mind, when you talk to an advisor, you want them to be honest with you and upfront and talk in simple terms that you understand. If you ask your advisor how they're compensated, where they earn their money and they give you double talk or they change the subject, you probably can assume that you're paying way too much in fees. As far as I'm concerned, it is a very professional conversation to have -- how you are charged and where they make their money. And if you don't know that about an advisor, you probably shouldn't retain them.

2) Is what is known as fiduciary.  Some advisors are known as fiduciary, others are not. And what a fiduciary is they are legally bound to operate in your best interest. So, it's the highest standard of care someone could have.  If you're not a fiduciary, all that means is you have to have a suitable investment, you have to put someone into a suitable investment.It doesn't have to be the best. It doesn't have to have the lowest fees. It doesn't have to be free of conflicts of interest. It just has to be suitable. When I hire a professional, whether it's a lawyer or a doctor, I want them to be loyal to me and only me. That's what a fiduciary is. 

To give you an example let's say you were going to buy a suit.  A non-fiduciary, would sell you a suit that fits you. That would be what their goal is, a suit that fits you. On the other hand, a fiduciary not only wants to give you a suit that fits you, but he also wants to make sure it looks good on you and that you have a matching shirt, tie and shoes.  So, it's a different level of care. And what makes it difficult sometimes is some advisors are fiduciaries for certain things and not fiduciaries for other things. So in other words, they may manage your portfolio as a fiduciary, but then they're going to sell you insurance when they're a non-fiduciary.  As far as I'm concerned, it is important that you find out is your advisor a fiduciary and are they a fiduciary all the time; it's important. 

3)  Most good financial advisory firms use an independent custodian. And what an independent custodian is, is the person that is actually for the company that actually holds your money, gives your statements the whole bit. Well, you want to make sure your dealing with an honest custodian and you also want to make sure that they're independent of the advisor.

Go back in time, we all remember Bernie Madoff. And one of the reasons Bernie Madoff was able to pull off the scam that he did was the fact that people custodied their money at Madoff securities. And so it's important that you look for independent custodians, that you make sure that you check the custodians out.  And also what's important to remember is fees. Some custodians will charge you additional fees.  So if the advisor says, well, it's not a fee to us, but it's a fee to the custodian, it's still money coming out of your pocket.  Always make sure that your advisor is using a custodian and that it's independent. 

4)  The regulatory environment.  Financial advisors are regulated, but they're not regulated always by the same group.  You have the Securities and Exchange Commission, you have FINRA, which is the Financial Industry Regulatory Authority, and you also have State of Michigan and other state regulations. So firms sometimes are regulated just by the Securities and Exchange Commission. It is important, you know, what regulatory authority is regulating your investment advisor because if you have an issue, you want to be able to know where to go. But in addition, if you want to check out an advisor before you hire them, you want to make sure you're going to the right regulatory authority. If you go check an advisory firm through the State of Michigan, as an example, and that firm isn't regulated by the State of Michigan, you may find out nothing.  So it's important you know, what type of regulatory authority is regulating your advisory firm.

5)  You should know who is investing your money at the advisory firm and what types of investments they're using. You may think that when you go talk to someone and they're your financial advisor, that they're the one who's going to be managing your money; it may not be that way. Some firms, the way they operate, they basically either use a robo, which is a computer type trading mechanism, or they use prepackage portfolios; so they put you in a prepackaged portfolio or they give it to a third party to invest. I think it's always important to know who is managing your money.  There's nothing wrong with using a third party, but in many situations, all you're doing is adding an extra level of fees into your account; and trust me, fees do matter. And on the other end of the equation is what type of investments are they're using. You may be surprised at all the different types of investment vehicles, firms use.  There are some firms like ours; we stay with mutual funds. There are firms that use individual stocks, use partnerships, private equity, real estate investment trusts, all sorts of different types of investment vehicles. And some of them were pretty exotic and the question is, do you feel comfortable with those types of investment vehicles?

In my mind, I always believe in the KISS principle and I say it to myself all the time. I say, keep it simple, stupid. And I say that because I want to be able to understand every investment I get involved with. And when I say understand an investment, I want to know how I can make money, how I can lose money and how I can get my money out when I want.  If I don't know those three things about it, investment, how can I invest in it?

And so it's important that you talk to the investment advisory firm to find out what they're investing in, what types of investment products. And don't get fooled. If you don't understand an investment vehicle, you ought to walk away from it. I know everyone thinks that well, the wealthy are buying all these exotic investments and they're all making money; it just doesn't work that way. There are lots of very wealthy people that lose lots of money on investing. The difference is you and I can't afford to lose our money; we work too hard for it. So make sure you understand every investment you get involved with and make sure that you use an investment advisory firm that are using the types of investments that you are comfortable with.

6) Who is the typical client of the investment advisory firm? There are many investment advisory firms these days that have become very specialized. There are target marketing. Well, if you're not in that target, why would you want to use them as an advisor? It's important to know who their typical client is and who their ideal client is.  If you go to a firm and their specialists are dentists, why would you want to use them if you're not a dentist? Then even if you are a dentist, that doesn't mean you use them either. But the bottom line is you should know who their clients are. You don't want to go into a firm where they're only dealing with ultrahigh net worth, people who have $5 million and above to invest.  And if you don't have that, you know, the type of treatment you're going to get so important to know who their typical client is. 

7) Which is also so important to know about firms is, don't get fooled by their name. You know, when I first got involved in this business, it was financial advisors and then it became financial consultants, money managers, investment advisors, investment consultants, and the latest buzzword is wealth managers.  Let me tell you, I've been in this business for over 35 years. I can't tell you the difference. I don't think there really is a difference. I think it's pure marketing and there's nothing wrong with marketing, but the reality is you can't judge a firm by what it says it is. It's like you can't judge a book by its cover; you have to look deeper into a firm to find out exactly what services they offer and if those are services that you want.  I mean, it's mind boggling, people will get involved with investment advisory firms because they do ABC and D, but they're never going to use ABC and D. So you want to, you know, make sure that you just don't look at the name of the firm; it's pure marketing, it doesn't mean much.

8) Have you ever noticed that after someone's name, sometimes there's an alphabet soup of initials after their name. Some of those initials are meaningful – CFP, CPA, J.D., but other initials are just meaningless. And what one of the dirty little tricks in the financial advisory industry is, is that you can just put initials after your name and people think they mean something. Don't be fooled just because someone has initials doesn't mean anything. And some of those initials or some of those designations are nothing more than bought and paid for. When someone says they're a senior specialist, what does that mean? I'm a J.D, I'm an attorney at law.  Well, I had to go to school, I had to pass exams and I still have to follow a group of rules and ethics. Well, some of these other titles they're just bought and paid for, you don't have to do anything. And so you want to make sure that you look at the initial behinds someone's name and check them out. You can go even one step further; you can also find out if when someone puts that they’re a CFP that they're actually a CFP. We have seen this all too often is where people nowadays will just say their lawyers say their CPAs when they're really not, and that's causes all sorts of problems. And so I would tell you don't get caught up with the initials; they're relatively meaningless. Get caught up with what the advisor does and how they treat you. 

Those are the eight things that I think are important that you check out about financial advisors, financial advisory firms.  But also, never forget what's also important -- you have to be able to communicate with your advisor.  If your advisor can't talk in simple English, can’t explain things to you in simple ways, why are you investing with them? They work for you. You don't work for them. So you should never be uncomfortable asking them questions. And if they don't give you straightforward answers, you know, you're not dealing with the right person.  It is important to always remember, it's your money, you're in control, you’re the boss.They work for you. You don't work for them. 

As I've mentioned at every show, we're going to take your email questions. So if you have questions, you can email me – Rick@rickbloomtalksmoney.com.  And the first one comes from Don.  I'm in my mid-50s and lived through a couple of significant market corrections.  And because of that, I've become very cautious as to where to invest my money. My first question -- when the U.S. stock market index has approach a multiple 20, I begin to wonder if I should reduce my 401k contribution so I can still get company match, then take that amount and put it down on my mortgage. My mortgage rate is less than four percent, but I want to pay it off before I turned 60 years of old.  What do you think? Does it sound reasonable? 

Well, Don, I don't have a problem with that strategy. If you want to pay down the mortgage, I don't think that's a mistake at all, especially in today's world. However, the one thing I want to caution you is, think about how long you're going to live. You're in your mid-50s, you could easily live another 40 years, easily.  And during those 40 years, you want to make sure you have a rising income. Therefore, it is important that you look at your retirement dollars to make sure you're still going to have enough to last you.  But I have no problem, once you get the company match if you want to take some of that extra money and put it down on the house, I don't have a problem.  And I liked the idea when someone is retired, that they do have their house paid off.

Don’s second question -- I've been contributing to my 401k for over 25 years now, and I'm worried that with all the debt our country is in that inflation or an increase in tax is going to reduce a lot of the value that I have been built up.  What do you think?

Well, unfortunately, Don, I do believe we're going to have higher taxes in the not so distant future. I think somewhere along the line, we’ll have to pay for this crisis.  As to inflation, I'm not sure about that at this point time.  You know, one of the things that has helped inflation throughout the last a number of years is the fact of the global economy.  Corporations were able to get things made cheaper at different places around the world. I'm not so sure how much longer that's going to last. So, I'm not overly concerned about the inflation right now. I am very concerned about the debt.  There's no doubt that our country has taken out a lot of debt and it doesn't seem anyone in Washington is concerned about the debt or deficit.  So, I do believe that will be a problem down the road. 

This is from Sue. Hi Rick. I transferred money from a 403(b) plan with TIA to Vanguard IRA in December 2019. I then received my RMD from Vanguard in February. If I wanted to return the RMD by July 15th, which is now available to me, would it violate the once in 12-month rollover rule? It was transferred directly, but it was treated as a rollover on my 2019 tax return.

Well, first of all, we explain what that is. There's a rule now that the IRS came up with a couple of years ago that you're only allowed to do one rollover in any 12-month period. And the way a rollover is defined is when you take money, let's say from one IRA, that IRA company issues, you a check personally, and then you take that money and invest it somewhere else.  Or. If you had a 401k plan and they wrote you a check personally, and then you invest that money in an IRA; that is considered a rollover. And under the rules, you typically have 60 days to do a rollover. A transfer is where it goes from custodian to custodian. So if you had an IRA at Fidelity and you’re moving it to Vanguard, as long as it went directly from Fidelity to Vanguard, then that's not considered a rollover.  It's considered a direct transfer and you can do as many of those as you choose. So the way you explained it to me in the letter, Sue, you actually did a direct transfer because it went from trustee to trustee. So you will not violate the rules if you put your RMD back, if you transfer it right back or roll it back over into the IRA.  And as I've mentioned in the past, one of the exceptions we've have these days is that if you received your RMD this year, not in January, but any time after February and you don't really want it, you can roll it back into your IRA and you have until July 15 to accomplish that. 

This is from Cheryl. Hi, Rick.  I'll be 62 at the end of the year and plan on retiring at age 70. I'm divorced and worked for the State of Michigan and have $213,000 in my 401k. I've heard you say Roth IRAs can be a good thing. I hear you can leave money tax free for heirs, take non-tax distributions. You also stated be prepared to pay the taxes with outside money.  But today I got info from Voya. It says I have to take RMD at age 70 ½ and they take the taxes out at the time of conversion. So Rick, should I take the money out of my 401k and put it into a Roth IRA in another institution?  Am I too old or too late to do a Roth conversion?What about the five year rule?

Well, first of all, Cheryl, you are far from too old to do a Roth conversion and Roth conversions make sense.  Let me first say that Voya was wrong. Voya sent you the wrong information. We had a new law and the new law now says required minimum distributions are at 72; they're not at 70½ anymore. And since you are over 59½, you actually can take an in-service withdrawal from your State of Michigan 401k if you choose and you can directly transfer that into an IRA.By directly transferring that money into an IRA there's no tax consequences, and then you can do a Roth conversion.  And that's what would make sense. And the key with the Roth conversion, you have to have the money to pay the taxes without touching any of the money that you're converting; it won't throw you into a higher tax bracket and; 3) you can leave it there at least five years. So if you meet those three criteria, it makes sense to do a Roth conversion. The benefit for you is down the road you'll be able to withdraw that money on a tax-free basis. And I love the fact that it gives you flexibility down the road.  And the five-year rule, that more deals with, you know, when are you going to withdraw money from the Roth IRA and in your situation, you're going to work for another eight years; that should not be a problem. So, in summary, Cheryl, I think it would be a great strategy for you to look at doing, you know, and in service rollover and you could look at companies like Vanguard, Fidelity, Schwab, as an example, and they can all do the transactions for you without cost. And then you could decide how much you should convert and you don't have to convert the whole thing at once. What you can do is convert a little every year so by the time that you retire, you've had so much money converted. I'm a big believer that Roth IRAs are a great way of going. In fact, when I meet with young people and they're starting in their career, I always tell them, go into a Roth 401k, go into a Roth IRA because yes, you're taking a little bit of a hit today because you ended up paying a little higher taxes, but you're getting huge benefits in the future.  And that's where I would tell everyone that they should relook at how they're contributing new money into their 401k and consider 401k Roth as an option because it gives you a lots of options down the road, especially with taxes. 

Well, as usual, I want to thank you for the company and our podcast. I want to thank John and Jennifer behind the scenes for all their help.  Also, I want to remind you about our email – Rick@rickbloomtalksmoney.com; that's the email. If you have any topics you want me to cover. If you have any questions for our podcast, we'd love to help you.

Have a great week and thank you so much for listening. Bye now. 


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