How do financial advisors get paid?

A fat pile of receipts -- maybe from a financial advisor. If so, how do they get paid? Photo by Ben Osteen.

A fat pile of receipts — maybe from a financial advisor. If so, how do they get paid? Photo by Ben Osteen.

Whether you already have a financial advisor, or are just looking for one, the way that they get paid can seem like a mystery. Trust me, I know. I can’t tell you the number of times I’ve gotten the question, “How do financial advisors get paid?”

Fear not, gentle reader! The answer doesn’t have to be complicated. Most things in the life of an investor are not that complicated and, when they are too complicated too understand, this is a red flag. How was Bernie Madoff making his returns of 12% per year,  year after year? If his investors had understood how, they might not have lost their money.

Indeed, if financial gurus had actually understood the mortgage-backed securities that they were buying, they would have understood that they were built on untenable foundations, and we might not have experienced the 2008 financial crisis.

How do financial advisors get paid? Let’s go over it together.

How do financial advisors get paid? Types of financial advisors

The first thing you need to understand about financial advisors is that there are a huge number of different ones. I’ve covered this before in my post on the types of financial advisors, where I covered 14 different acronyms, and I could have covered a lot more.

Luckily, if you just want to understand the answer to the question, “How do financial advisors get paid?” you only need to understand three of those types:

  • Fee-based and fee-only financial advisors: Fee-based and fee-only financial advisors generally charge an hourly fee, just like a lawyer, or a per-project fee. Some might even have a fixed rate for each financial plan that they produce. I’ve mentioned this before, but I like fee-based and fee-only financial advisors for people who are willing to be active in their finances. The difference between fee-based and fee-only advisors is that fee-only advisors only make money off their rates, while fee-based advisors also earn a commission, which brings me to my next type of financial advisor.
  • Commission-based financial advisors: Commission-based financial advisors earn a cut of everything that they convince you to buy. Brokers, for instance, often charge this way, as do people who sell life insurance. I don’t really like this type of financial advisor, because they are mostly interested in sales, and not so much in, you know, actually helping you.
  • Percentage-based financial advisors: Percentage-based financial advisors will watch over your assets, but they take a cut of them each year. In this sense, they’re a lot like money managers.

So that’s how each type of financial advisor gets paid — but how much should they be paid? No problem, that’s an answer I’ve answered many times before. Check out any of the following posts:

And to be really informed, don’t miss my post on the true cost of a financial advisor.

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