I was meeting with a new friend recently when she told me of an interaction with her financial advisor that completely changed her view of their professional relationship. She had received a lump sum of meaningful size, and following the advisor’s presentation of his recommendations for the new money, she did the unthinkable—she asked him how he would be compensated and how much he would receive if she followed through with his recommendations.

I know, crazy!  Who in their right mind would ask a service provider how they’re getting paid and exactly how much he or she would receive for services rendered?  The nerve of some people!

Yes, this is how the financial industry has treated the check-writers lining its mahogany-trimmed custom leather coffers for…ever.

Back to the story.  The advisor took off his jacket, began pacing and started sweating as though Ray Lewis (of the world champion Baltimore Ravens—woo hoo!) was staring him down.  The gig was up.  His list of recommendations was catered to his personal financial best interest and not his client’s; he was completely busted.  All it took was a simple question anyone would expect as common practice in any other business, and the advisor imploded.

But not everyone in the financial industry is so bashful.  I know one financial sales person, in particular, who told me of an instance in which a prospect popped the question.  He responded with indignant self-righteousness, “You have no right to know how much money I make!”  I guess he forgot that he was talking to the person making his mortgage payment that month, possibly throwing in a vacation on top of it.

Now, I’m not suggesting you become a crass inquisitor with your broker, banker, insurance agent or financial planner—they are due appropriate compensation for a job well done—but you absolutely have a right to fully understand how your advisor is compensated and to what degree, for the following three reasons:

1. Without understanding your advisor’s compensation regime, you’re unable to balance his or her economic bias in your decision making process.  For example, if the advisor is going to make more money if you pursue one recommended path over another, you should be able to weigh that conflict of interest.  It doesn’t mean you shouldn’t pursue the option that pays the advisor more, but he or she darn well better offer compelling justification.
2. You have other options.  Fee-only financial advisors are required to provide full disclosure of all fees received, and if they are truly fee-only (note: “fee-based” is not fee-only), they are unable to receive any other compensation from referral sources or otherwise.  It doesn’t mean fee-only advisors don’t have an economic bias, but at least the transparency offers you an opportunity to see exactly what you’re paying.
3. You ought to be getting a service that is proportionate to what you are paying.  But if you don’t know what you’re paying, how can you know if you’re getting your money’s worth?

And here’s the best reason to ask your financial advisor how and why he is compensated based on the recommendations you decide to implement: if he starts sweating like he’s in your hot yoga class, you should probably work up a sweat yourself…running for the door.

The economic and dogmatic biases of financial planners are so powerful that the tendency to overemphasize certain recommendations and underemphasize others is quite often the norm, not the exception.  Here are three of the most overrated recommendations and their corresponding biases followed by the least appreciated, most underrated recommendations.

MOST OVERRATED

1. Tax privilege – Whether deferring, deducting, avoiding or evading, financial planners go to great lengths to minimize taxes today and in the future (and sometimes in the past).  This is not only a good idea, but a duty on the part of a qualified financial or tax advisor.  But any time tax privilege is billed as the tip of the spear, it’s probably a sales pitch.  Unscrupulous advisors prey on the elderly who, living off of a fixed income, are very sensitive to taxes as a meaningful factor over which they have no control.  But many are also in a very low tax bracket, nullifying the supposed benefit of the tax-free status of muni bonds or the tax-deferral of fixed annuities.  Many advisors also encourage their clients to maintain a mortgage into retirement “for the tax deduction,” but last time I checked, you need to pay the bank a dollar to save a quarter; and since you can only deduct mortgage interest, mortgages nearing the end of their amortization schedule offer very little deduction.  These advisors may just want to see the money you’d use to pay off your mortgage invested in the accounts they manage—and charge fees and commissions on.  The avoidance of taxes is a worthy endeavor, but “don’t let the tax tail wag the dog.”
2. Rates of return – No, I’m not denying the power of compound interest, for goodness sake—my calculator and a bazillion sales slicks from mutual fund companies prove it works, and that even a slight difference in annualized rates of return over a lifetime have a powerful impact.  But the amount of attention this gets in the financial planning process is nearly absurd.  This is because in order to retain your investment management business (the primary cash cow for most advisors), they need to convince you of the positive difference that their skill or style will add to your bottom line.  But guess what factor has an even bigger role to play than your rate of return toward the goal of financial independence?  The amount of money you save and invest.
3. Retirement goals – Beginning with the financial industry’s epiphany some years ago that the biggest, wealthiest generation the world has ever seen would be colliding with the largest transfer of wealth (to that biggest, wealthiest generation from their parents) in history, the practice of financial planning has become increasingly retirement-centric.  It’s almost as if every recommendation in a financial plan is serving the sacred cow of an extended, blissful, effortless retirement.  I’m all for reaching financial independence, but making financial planning solely about deferred gratification means that the practice adds very little value to our todays.  Additionally, as it turns out, both doctors and number crunchers confirm that most people would be better off to maintain some degree of productive work as long as possible.

1. Career – Most of us will spend the majority of our waking adult hours engaged in the act of work.  It is often the way we support our families, contribute to society and make our mark on this world, and it is also the means toward the end of saving and investing for the future.  But how many advisors engage in (or are skilled at) career counseling?  As the primary source of funding for our financial future—and the way we expend much of the energy we have to give in our lifetimes—this is the most underrated (and under-resourced) financial planning recommendation.
2. Liquidity –401(k)s, IRAs, Roth IRAs, 529s, annuities, cash value life insurance policies and irrevocable trusts have tangible benefits, but they all lack the intangible and underrated benefit of liquidity.  All these accounts that have been given special federal dispensation to allow for various (typically tax oriented) benefits have handcuffs, making it difficult to access your cash for any other reasons.  And life is filled with “any other reasons”!  Surprises and change are two of the only guarantees a financial planner can make, and that means we must plan for them by infusing financial plans with the capacity for flexibility through margin.  This means you should have cash in the bank and boring, conservative investments in an individual or joint brokerage account to fund the short-and mid-term, in addition to the long-term.  Liquidity isn’t sexy enough to sell and your advisor doesn’t get paid on your cash in the bank—that’s why you don’t hear about it as much.
3. Simplicity – As a young stock broker and insurance agent, I was taught to make things complex to convince prospects that they were in desperate need of my proprietary knowledge (and products) to secure their financial futures.  But in addition to the economics of manipulation, ego also comes into play here.  Advisors love to talk about the most complex things they know because it makes them feel smart, but a truly gifted advisor will take complex matters and simplify them for you.  And, in my opinion, unless there is compelling evidence that your life or balance sheet is going to be materially impacted to the positive, advisors should err on the side of simplicity, not complexity.

Economic and egotistic bias drives the financial industry, but it need not drive your financial planning.