Fee-Only Financial Planning & Investment Advice...
- Fee-Only Financial Planning & Investment Advice (for brevity, ‘Fee-Only Financial Planning’) involves an individual (the ‘Client’) explicitly paying a Fee-Only Financial Planner for advice.
- To avoid conflict of interest, a Fee-Only Financial Planner does not earn anything else from your investments, from any other source
- Fee-Only Financial Planning is the opposite of the almost universal approach that is followed in India, which could be called the Commission Based Business Model
...is the Opposite of the Commission Based Business Model
- Wealth Managers at Banks / almost all other Wealth Managers / ‘Independent Financial Advisers’ or ‘IFAs’ / Mutual Fund Agents / Insurance Agents / most Online Investment website or app businesses, whatever one may call them, follow the Commission Based Business Model. Hence for simplicity, lets refer to all of them as Distributors
- The Distributor’s main role is to sell financial products to clients. The regulations allows Distributors to not be fiduciaries. Hence the regulations also limit Distributors to provide only "incidental" and limited investment advice to clients
- Since clients do not explicitly have to pay a fee for this incidental and limited investment advice, the advice appears to be free
- However, the mutual fund or insurance investment products that the client purchases from the Distributor, deduct an additional significant amount each year from the client’s investments and pays it as an annual commission to the Distributor
Fee-Only Financial Planning over Commission Based Business Model - Simplistic advantage…
- For a client, the simplistic advantage of a Fee-Only Financial Planning service is its significantly lower cost compared to what the client effectively pays a Distributor
- For example, for a client with an equity plus fixed income / debt mutual fund portfolio of say Rs 3 crores, the client would effectively pay ten times more to a Distributor compared to the average fees that I charge...
- ...another way to think of this is that such a client would effectively pay an average commission to the Distributor of approximately 0.60% of the portfolio each year which is around 16.5% of the portfolio over 30 years (relevant article). This is compared to my average fees for such a client which can be back-calculated to be around 0.06% of the portfolio each year
…and the more Important advantages
A Fee-Only Financial Planner does not sell any products to a client, and hence is on the same side of the table as the client. As a result, a Fee-Only Financial Planner:
- Is free to recommend products that make the most sense for a client but don’t pay any commissions e.g. a certain amount in bank fixed deposits for emergencies, ‘Direct Plans’ (i.e. 'Zero-Commission Plans') of Mutual Funds / NSE NIFTY Index Funds or NSE NIFTY Index ETFs
- Is free to ignore products that pay high commissions to Distributors such as ‘Regular Plans’ (i.e. ‘Commission Plans’) of all active equity mutual funds e.g. ‘Regular Plans’ of equity mutual funds pay 7 times the commission compared to 'Regular Plans' of NSE NIFTY Index Funds
- Is not required to be overly optimistic about any products and will therefore be more honest with a client about the drawbacks and advantages of such financial products, giving the client a clearer picture of the trade-offs involved
- Is free to primarily focus on bigger-picture aspects, as detailed below
Some of the bigger-picture aspects that a competent Fee-Only Financial Planner will focus on are:
- Whether the client is saving enough for their critical needs and wants, and particularly, their retirement
- Ensuring that the client is not relying on overly optimistic calculations, and making the mistake of retiring too early (relevant article in Mint)
- Ensuring that the client is not taking on more equity risk than they can handle
- Assuming that the client does not have an excessive amount of equity risk, he will advise the client to stay invested even after a bear market or stock market crash that persists for many years (even though no one can correctly forecast equity market performance even over a twenty-year horizon)