What’s the difference between a financial advisor and a financial planner? Between fee-only and fee-based? Between CFP® and CFA®?
The financial services industry is the wild west when it comes to the different titles and terms used by financial advisors. Most other professions have clear titles and requirements to use those titles – such as doctor or attorney. But in the financial world, most terms are completely unregulated and used mainly as sales tactics.
As a result, it can be extremely difficult to distinguish one advisor from another. If you’ve ever searched for a financial advisor, you can probably relate to what I’m talking about. This article will help you understand what the various terms mean and who can use them.
Most importantly, it will empower you to find the right kind of advice for your situation.
Financial Terms That Anyone Can Use
First, let’s start with a list of terms that are completely unregulated. This means anyone can use these terms, without having any qualifications whatsoever.
- A high school dropout or a Phd with decades of experience
- Insurance salesmen, investment managers, brokers, bankers, or anyone else in financial services
- Even your auto mechanic!
This is the most common title in the industry. Advisors use this term in place of more descriptive, but less glamorous alternatives – such as broker, insurance sales rep, etc. Someone telling you they are a financial advisor really doesn’t tell you anything at all. Unfortunately, you’ll have to do more digging to understand who you’re dealing with.
This title is similar to financial advisor, just a bit less common. It’s not regulated, and it doesn’t tell you anything about who you’re dealing with.
Wealth manager is often used by advisors who work with more affluent clients. A wealth manager likely manages investments for his clients. But beyond that, the term isn’t very descriptive of either the qualifications of the advisor or the way he does business.
Financial planners often wish to emphasize the planning work they do, rather than the management of investments. Some who use this term don’t manage investments at all, but some do.
This is not an exhaustive list but gives you an idea of the common titles used in the industry. If you hear a term like this, just know that you have a little more work to do before understanding who you are dealing with.
Financial Terms That Require Further Clarification
This list contains terms that should mean something, but have been overused and purposefully mis-used by those in the industry. If you see an advisor using one of these terms, you should make sure to verify that they are using it correctly.
This term describes how an advisor gets paid. Many financial advisors earn commissions for selling financial products like mutual funds, life insurance, or annuities. Because the financial incentives are so strong, these advisors often recommend certain high-commission products to all of their clients. Some claim these types of advisors are intentionally deceptive while others believe they simple don’t know that better options exist.
Either way, the financial incentives often lead to poor financial outcomes for their clients.
By contrast, fee-only advisors are paid directly by their clients for the advice they give. They do not make more money for recommending one product over another. The result is fewer conflicts of interest and better client outcomes.
While attempts have been made to regulate this term, some advisors still use it erroneously. For example, some advisors use a so-called “hybrid” business model, in which they manage investments for a fee, but also sell insurance products on commission. Because of the rise in popularity of the term “fee-only”, many advisors who use the hybrid model claim to be fee-only, when in fact they also earn commissions.
If someone claims to be fee-only, ask them if they hold an insurance license or if they receive any outside compensation for recommending insurance or other products. You can also find out by reviewing their ADV Part 2, Item 10. You can search for their firm ADV here.
“Fee-based” is a misleading derivative of “fee-only”. Many consumers believe the two terms are synonymous. They aren’t.
As “fee-only” has gained popularity, commissioned advisors have begun using the term “fee-based” to try to join the party.
“Fee-based” tells you that your advisor probably charges a percentage fee on your investment accounts, but it is also a guarantee that he is not fee-only. He also earns commissions, bonuses or other awards for selling specific products, which can create significant conflicts of interest.
If your advisor says he is “fee-based”, ask him to detail all the ways he makes money and explain to you the conflicts of interest that exist. Here are some examples of advisor compensation from a prominent brokerage firm who likes to use the term “fee-based”:
- Asset-based Fees
- Account-based Fees
- Distribution and/or Service Fees
- Trail Commissions
- New Asset Compensation
- Internal Incentive Programs
- Credit Cards
- Margin Fees
- Travel Awards Program
- Training and Marketing Incentives
If you are hoping to work with an advisor and not a salesman, I don’t think a compensation scheme like that is what you’re looking for.
A fiduciary is legally obligated to put his clients’ interests ahead of his own. Traditionally, this term has applied to Registered Investment Advisers (more on them later) who operate under a fee-only model. These advisors typically manage investments on their client’s behalf for a fee. As such, they are required to put their clients’ interests ahead of their own.
However, more and more commissioned advisors have begun to refer to themselves as fiduciaries. Once again, this is an attempt to ride a wave of popularity. The term “fiduciary” has received a good deal of media attention the last few years.
Personally, I have a hard time understanding how it can be possible for an advisor to sell the highest commission product (whole life insurance) to every client who walks in their door but claim to be putting their clients’ interests ahead of their own.
If your advisor claims to be a fiduciary, you want to confirm 2 things:
- Are they a fiduciary 100% of the time? Or are there times when their advice falls under the suitability standard? Will they state that in writing?
- Do they earn commissions for product sales? No offense, but even if a person claims to be putting your interests ahead of theirs, you need to understand if they have a strong financial incentive to recommend certain financial products.
I believe that to receive the best advice, you need an advisor who is a fiduciary 100% of the time AND fee-only 100% of the time.
Regulated Financial Designations
Because the titles financial advisors use are so vague and unregulated, one way you can distinguish one advisor from another is by the credentials he holds. The financial industry has quite the alphabet soup of credentials. However, only a select few have rigorous enough criteria to be worth paying attention to.
Certified Financial Planner® (CFP®)
The CFP is the most comprehensive designation for personal financial planning – covering insurance, investing, taxes, retirement, estate planning and more. In my opinion, this is a minimum standard for anyone claiming to offer financial advice or planning.
Chartered Financial Analyst® (CFA®)
Considered by some to be the most difficult financial designation to acquire, the CFA designation focuses on investments and portfolio design. If you are hiring someone to manage your investment portfolio, you may want to consider a CFA Charterholder.
Certified Public Accountant (CPA) or Enrolled Agent (EA)
Advisors who hold these designations are experts in accounting and tax issues and may even offer tax preparation services.
Other designations may provide a more in-depth knowledge of a particular planning situation (though many are just marketing ploys). However, they should come in addition to these core designations, not as substitutes.
Other Important Regulated Financial Terms
A registered rep is an agent of a broker-dealer. This term is regulated by the SEC and FINRA. To use this term, an advisor must pass a licensing exam (which is not difficult). You have likely never heard this term because it isn’t very consumer friendly. In the past registered reps were often referred to as stockbrokers or insurance agents. But today, they mostly call themselves financial advisors. Importantly, if an advisor is a registered representative, they are not fee-only.
Registered Investment Adviser & Investment Adviser Representative
These long titles refer to fee-only advisors. Registered Investment Adviser (RIA) refers to the firm, and Investment Adviser Representative (IAR) refers to the advisor. RIA’s are regulated by state securities regulators and the SEC.
If a firm refers to itself as RIA-only that indicates that they are not associated with a broker-dealer or insurance agency. It also would indicate that they are fee-only.
You can confirm a firms’ status as Registered Investment Adviser here.
NAPFA Registered Advisor
The National Association of Personal Financial Advisors (NAPFA) is the country’s leading organization of fee-only financial advisors. Because NAPFA vets advisory firms, membership in NAPFA is a great indicator that a firm truly is fee-only, and is not just claiming to be. In fact, the odds of a firm actually being fee-only, but not a member of NAPFA, is quite small.
Sorting Through Financial Lingo
To sum up, don’t pay any attention to general financial terms or titles. For the most part, they aren’t regulated. They are purposefully used to confuse and distract you from what really matters.
Instead, focus on the things we discussed that can’t be faked:
Do they hold the CFP® and other relevant designations?
Are they fee-only and a fiduciary 100% of the time? And will they state that in writing?
Do they work for a Registered Investment Adviser (with no insurance or broker-dealer affiliation)?
Are they NAPFA members?
These questions will help you sort through the noise that Wall Street and the big financial firms pump out.
For a more detailed list of questions to ask a prospective financial advisor, see 19 Questions You Should Ask Your (Prospective) Financial Advisor.