Selecting a financial planner is an arduous task.
Still, this decision holds a significant weight in shaping your financial health. The financial prescriptions provided by a financial planner nurture your financial well-being and help you build a better future.
Financial planners are of two types – fee-based and commission-based. There are pros and cons of both fee-based and commission-based advisors. To better understand this, let’s first look at how certified financial planners earn money.
How Do CFPs Make Money?
Certified Financial planners make money in two ways:
Some CFPs earn commissions on the financial products they recommend and sell to their clients. When clients purchase these products, such as insurance policies or mutual funds, the CFP receives a percentage of the sale as their compensation.
Other types of CFPs are called fee-only financial advisors who charge upfront fees to clients for their financial recommendations.
What Are Fee-Only Financial Advisors?
Fee-only financial advisors, as the name suggests, are financial professionals who are compensated only on the fees they charge their clients for providing investment recommendations. Their investment recommendations are conflict free and have a client-first approach. Fee-only advisors charge an upfront fee and do not earn any incentives or commissions on the product recommendations they make.
Fee-only advisors adhere to the highest standard – the fiduciary standard.
How Do Fee-Only Advisors Charge?
Fee-only advisors only earn money through advisory fees. Here’s how they charge fees:
Let’s say you have an investment portfolio worth 50 lakhs, and your advisor charges an annual asset-based fee of 1% which amounts to 50,000 per year. When your portfolio value increases, the fee increases and vice versa.
Some financial advisors have a fixed hourly rate. For instance, take an advisor’s fee of Rs. 2000 per hour. If they spend 3 hours helping you develop a financial plan, you will be charged a total fee of Rs. 6000. Per hour consultation fees are usually taken for services like tax consultations, retirement planning and financial planning consultations.
Although less common, there are financial advisors who may charge a fee based on the performance of your investments. If your portfolio grows by 10% in a particular year, the advisor’s fee will be 10% of your profit.
Commission-Based Financial Advisors
A commission-based advisor earns income by receiving commissions from the financial products they recommend to their clients. Their income is directly related to the products they recommend. Hence, the recommendations of a commission-based financial advisor can be biased. They may not always recommend the best product as per your financial needs, thereby creating a conflict of interest.
Most commission-based advisors work with major fund houses as independent contractors or agents. Such mutual fund houses only provide operational support to them, not a full-time salary. Hence, their only source of earning is when they sell their product and earn a commission on it.
When working with a commission-based advisor, always double-check if their recommendations are in sync with your financial aspirations.
Pros of Fee-Based Financial Planners
Right & Unbiased Advice
There’s a proper system as to how fee-only financial advisors work. They spend a considerable time understanding you, your income and expenditure, and your financial goals. Based on this, they create a financial blueprint for you and recommend the right asset allocation to safeguard your investments. In short, all their recommendations revolve around your financial goals. Hence, their style of work is unbiased and conflict-free. This helps you to achieve all your financial goals at your desired time.
Your Personal CFO
Fee-only financial planners serve as your personal CFOs. From tax saving guidance to retirement planning and asset allocation, fee-only advisors’ holistic financial planning encompasses all these aspects. They integrate various financial pieces into their plan.
Working with fiduciary planners is a sought-after process, as they are transparent about their compensation structure and do not take any hidden costs. Such transparency fosters trust and helps clients understand the value they receive.
An Objective Second Opinion
You can even consult a fee-only financial advisor to get an objective second opinion. Since their compensation is not influenced by products, they can offer unbiased and genuine advice that you need.
Pros of Commission-Based Financial Planners
An advantage of working with a commission-based advisor is that they handle the entire transaction on behalf of the client. From filling out necessary forms to making purchase orders and automating the transaction, a commission advisor assists you in every step or can do it all on your behalf. On the contrary, a fee-based planner only gives you recommendations, the transaction has to be done by you.
No Upfront Charges
This can be quite beneficial for beginners who just want to get into the groove and experience investing. This can also benefit investors who do not have the financial means to pay an exorbitant consultancy fee to the fee-only advisor. However, in the long run of a 10-20 years horizon, commissions can eat up a major portion of your returns.
Choosing Between Fee-based and Commission-based Advisors
When it comes to choosing between fee-based and commission-based advisors, there’s no one-size-fits-all answer. The right choice depends on your preferences and goals. Here are a couple of things you can consider while making this decision:
Understand Your Needs
What are the financial goals you have? For how much time can you stay invested? For example, if you want to invest for 10-20 years, you should consult a fee-based planner as he/she can create a holistic financial blueprint to optimize your long-term investment returns.
You can work with a commission-based financial advisor for short-term goals as they can help you park your funds in fixed-income assets which have a lower risk. Commission-based advisors excel in transactional assistance, and hence, they can execute these transactions efficiently.
Consider Long-Term Horizon
When selecting between a fee-based or commission-based advisor, always keep a long-term horizon in mind. While commissions earned by advisors may not appear significant in the short term, they can have a significant impact on your returns over a 15-20 year period. On the other hand, fees paid to a fee-based fiduciary planner may appear expensive today, but considering it as an investment in your bright financial future is essential. By paying transparent fees to a fee-based advisor, you are likely to receive objective advice and tailored strategies, and ultimately maximize your long-term returns.
How Can You Become a Certified Financial Planner?
Ready to become a Certified Financial Planner (CFP)? Join IMS for industry-relevant CFP training. The comprehensive curriculum can help you gain the knowledge you need to excel in financial planning. It also comes with placement assistance that can help you secure lucrative job opportunities.
From portfolio managers to independent financial planners, the career opportunities for CFP-certified students are infinite.
What is the difference between fee-based and commission-based planning?
The main difference between the two is in their compensation structure. A fee-based planner charges a flat fee for their investment advice, whereas a commission-based advisor does not charge a separate fee but earns money through commissions on the product he/she recommends.
How long does it take to complete the CFP certification?
On average, it takes 18-24 months. However, the time varies as per student’s circumstances.