Managing your money can be difficult. Knowing how to construct an effective investment portfolio, when to buy and sell investments, and how you can best use your money to achieve your financial goals takes time and effort.
Many people choose to employ the help of a financial professional when it comes to handling their investments. Most people immediately think of a financial advisor when they’re looking for help with their money. However, the type of advisor you choose is very important. In most cases, you’re going to want to find someone who acts in a fiduciary capacity.
Fiduciary vs. Financial Advisor — Key Differences
The job descriptions for fiduciaries and financial advisors may read pretty similarly, but these two types of financial professionals are not interchangeable. Here are the key differences between a fiduciary and a financial advisor.
Standard of Care
The most essential difference between financial advisors and fiduciaries is the standard of care they must provide. “Standard of care” refers to the rules that they must follow when helping you make financial decisions.
Fiduciary Standard of Care
The fiduciary standard of care means that a fiduciary must act explicitly in the client’s best interest. The decisions they make and the advice they provide should be in the best interest of the people who hire them for advice and should not account for benefits that other parties can receive. Fiduciaries must avoid conflicts of interest and aim only to help their clients.
For example, if a fiduciary advisor has two investment options for their client that are identical in all ways except that option A costs more but earns the fiduciary a commission and option B is less expensive but doesn’t offer a commission, the fiduciary must recommend the less expensive option B to their client.
Financial Advisor Standard of Care
By contrast, financial advisors only need to meet what is called the suitability standard when making recommendations to their clients.
In short, financial advisors can make recommendations to clients so long as those recommendations are reasonable and “suitable” for the situation their clients are in.
In the above scenario, where fiduciaries must recommend the less expensive option because it benefits the client, financial advisors are free to recommend either because both are equally “suitable” investments. What this means is that financial advisors are free to offer non-optimal advice in search of earning a commission.
That isn’t to say that financial advisors provide poor financial advice, or that all financial advisors will recommend more expensive options that profit them personally. However, you need to be aware that they may have multiple motives for making a specific recommendation.
Fiduciaries and financial advisors perform similar duties. They help clients with financial planning and provide investment advice.
As mentioned, a fiduciary financial advisor has to act solely in the best interest of their client. That means making recommendations with only the client in mind.
Fiduciaries also have a duty of loyalty to clients. That means they must disclose potential conflicts of interest. For example, if a fiduciary will earn a commission if a client follows their advice, they have to disclose that.
Financial Advisor Duties
Financial advisors perform many of the same duties that fiduciaries do. They help people come up with financial plans, provide investment management help, and assist people with other aspects of their finances.
Their duty to their clients may depend on the exact certifications they hold. For example, a Certified Financial Planner (CFP) must adhere to specific standards. In fact, the CFP code of ethics requires that CFPs act as fiduciaries.
Investment advisors and broker-dealers have a duty to provide good advice to their clients but aren’t required to act purely in a fiduciary capacity.
Registration & Licenses
There are various registrations and licenses people need to earn before they can start providing financial advice. The registration process and licensure requirements can vary depending on the type of certification the advisor is seeking and which standard of care they plan to offer.
The Financial Industry Regulatory Authority (FINRA) maintains information about different licenses and designations people can receive, as well as the requirements to earn them. These designations are granted by third parties, so if your advisor claims a specific designation, you can research the requirements and duties associated with that designation.
Fiduciary Registration, Licenses, and Designations
There are many common licenses and professional designations that involve a fiduciary duty.
Certified Financial Planners (CFP) are required to maintain a fiduciary duty to their clients. Earning the designation involves earning a bachelor’s degree, completing coursework that takes on average 12 to 18 months, passing an exam, and gaining 4,000 to 6,000 hours of experience in financial advising.
Registered Investment Advisor (RIA) is another designation someone who provides financial advice can receive. RIAs must pass specific exams and register with their state and the Securities and Exchange Commission (SEC). RIAs must also operate under a fiduciary standard.
There are many other designations that financial professionals can earn that require them to commit to being a fiduciary. If your advisor claims a designation, you can do your own research to learn about the related requirements and regulations.
Financial Advisor Registration, Licenses, and Designations
Even advisors that don’t plan to commit to acting as a fiduciary need to meet some requirements before they can provide financial advice to clients.
Any person or company that offers investing advice for compensation has to register with the SEC as an investment advisor. Investment advisors do not need to meet a fiduciary duty but must meet the suitability standard with the advice they provide.
The term “financial advisor” itself is largely unregulated. Almost anyone can call themselves a financial advisor and there is no licensing requirement or exam to pass. Instead, the requirements are based on the products the advisor provides and how they are compensated.
For example, anyone can call themselves a financial advisor and get paid for advice as long as they register as an investment advisor. There are no tests required. However, to sell investments for a commission, advisors must pass exams based on the investments they plan to sell.
Fees play a major role in the success of your portfolio. Even a small fee, over the long term, can have a big impact on your overall returns. Keeping fees for financial services low is one of the best ways to increase your returns.
Fiduciaries must adhere to certain standards when providing investment advice, including not making recommendations based on the commissions they might earn from selling you certain products. However, that doesn’t mean fiduciaries offer retirement planning and other advisory services for free.
One common fee structure that fiduciaries use is to charge clients a percentage of their invested assets. For example, a fiduciary may charge 1% of invested assets each year. If you have $500,000 in your brokerage account under their management, they’ll charge $5,000 for the year.
This type of fee structure offers the fiduciary additional incentive to offer good advice. The more money you make, the more they wind up making too.
Fiduciaries may also charge for advice on an hourly basis. For example, you may ask them to help you one time with estate planning or a review of your personal finances. The fiduciary can charge on an hourly basis for the time it takes them to review your finances and offer advice.
Financial Advisor Fees
Financial advisors are free to set the fees they charge to their customers. Some financial advisors choose to charge a percentage of invested assets like many fiduciaries do.
Financial advisors can also earn commissions when they sell securities to their clients. This is permitted so long as the investment products they sell meet the suitability standard.
A common way that financial advisors earn commissions is by having their clients invest in mutual funds that charge a load. A load is a type of fee charged when an investor buys or sells shares in the fund.
For example, if you buy $10,000 in shares of a mutual fund that charges a 3% front-end load, you’ll only get $9,700 worth of shares. The remaining $300 pays the fee. Some of the load may go to the financial advisor as a commission.
The Verdict: Should You Choose a Fiduciary or a Financial Advisor?
In many ways, a fiduciary is a financial advisor who holds themself to a higher standard when it comes to offering wealth management or other financial advice. Investment advisers who don’t act as fiduciaries can still provide good advice, but you have to pay more attention to the other reasons they may make specific recommendations.
If you work with a fiduciary, you can feel confident that the fiduciary has only your best interests in mind and that they don’t have ulterior motives, such as earning a commission when giving advice.
That means most people will benefit from finding an advisor who acts in a fiduciary capacity.
You Should Hire a Fiduciary If…
A fiduciary is a better fit if:
- You Want Confidence That You’re Getting The Best Advice. Financial advisors can provide good advice, but fiduciaries are obligated to provide the advice that is in your best interest.
- You Want Someone To Manage Your Portfolio. Fiduciaries — especially those whose fees are based on your invested assets — have a vested interest in helping you earn the highest return. Financial advisors, by contrast, may manage your money and make investment choices based on commissions.
You Should Hire a Financial Advisor If…
A financial advisor is a better fit if:
- You Want A Simple Financial Plan. If you’re paying someone on an hourly basis to help you build a budget or come up with a basic financial plan, there’s less concern that they’ll try to push you to high-commission investment products. In these cases, a financial advisor is perfectly suitable.
How Can I Find a Fiduciary?
You can find a fiduciary in much the same way you can find any financial advisor. Recommendations from family, friends, and colleagues are a good place to start. You can also do a search for local financial firms.
The National Association of Personal Financial Advisors (NAPFA) and the Financial Planning Association (FPA) maintain directories of advisors and can tell you the fee structure they employ, which can aid with your search.
How Can I Tell if My Advisor Is a Fiduciary?
Advisors that have certain designations, such as CFP, must act in a fiduciary capacity. If your advisor claims any designations, check the requirements and code of ethics for those designations to see whether they come with a fiduciary standard.
Are Robo-Advisors Fiduciaries?
Yes, robo-advisors act as registered investment advisors, meaning they must act with fiduciary responsibility. Given that most robo-advisors charge fees based on clients’ invested assets, they also have a vested interest in providing the best advice possible.
What Happens if an Advisor Breaches Their Fiduciary Duty?
If an advisor breaches their fiduciary duty, they may be subject to sanctions from their professional organization. For example, a CFP who breaks that duty may lose their designation.
Clients who received bad advice from someone who broke fiduciary duty may also be able to take legal action against that advisor or go through arbitration to recover their losses.
The bottom line is that if you’re looking for financial advice, you should try to get it from someone who will act in a fiduciary capacity. While financial advisors who aren’t fiduciaries can still provide excellent advice, fiduciaries have an obligation to provide the best advice possible without a conflict of interest.
If you’re looking for a fiduciary advisor who can provide inexpensive services and help you implement advanced investment strategies like tax-loss harvesting, working with a robo-advisor might be a good idea. They can build and manage your investment portfolio automatically, selecting the financial products that fit your goals and risk tolerance, making it easy to plan for your financial future.