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Is A Financial Advisor Worth The Cost?

Some benefits are easy to quantify, while others are less universal and concrete.

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By Michael Johnston, CFA

By Michael Johnston, CFA

April 2024

Many investors struggle with the decision of whether or not to hire a financial advisor

At a high level, this should be an easy decision: compare the costs of hiring a financial advisor with the benefits of doing so. If the benefits outweigh the costs, the right decision is to hire an advisor.

The costs are easy enough to calculate. Advisor fees are determined in different ways, but most advisors – or at least most good advisors – are transparent with fee structures.

Quantifying the “benefits” side of the equation is tougher, for several reasons.

First, many benefits provided by advisors are not delivered on a regular basis. They might not be conveyed at the same time each month or each year, but rather sporadically.

Second, many benefits are not universally applicable; advisors are able to add more value for some clients than others.

And, of course, many of the benefits are inherently difficult (or even impossible) to quantify into basis points or dollars.

Below is a summary of the benefits associated with hiring a financial advisor, which fall into three main categories.

  1. Tax Efficiency. A good advisor can meaningfully lower the lifetime tax bill for many clients. This is the easiest bucket to quantify explicitly.
  2. Catastrophe Avoidance. A good advisor can dramatically lower certain risks for clients, in a cost efficient manner.
  3. Peace of Mind. As you can imagine, the value of these benefits is essentially impossible to quantify with any degree of precision. But most investors will agree that there is definitive, and often significant, value associated with the peace of mind that a good advisor brings.
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Tax Efficiency

What matters is what you keep; for investors, that means that “triple net” returns – after fees, taxes, and inflation – is the metric that ultimately matters. A good advisor will help clients lower their lifetime tax bill, thereby increasing their bottom line returns.

Financial advisors can maximize tax efficiency by helping clients to do three things:

#1: Get More Money Into Tax-Advantaged Accounts

Advisors will often be able to spot “missed opportunities” for clients to increase contributions to tax-advantaged accounts, claim tax credits, or maximize deductions.
For example, an advisor may identify opportunities to make a “backdoor” contribution to a Roth IRA, set up a Health Savings Account, or “superfund” a 529 plan.

#2: Get Money Into The Right Tax-Advantaged Accounts

The concept of Asset Location is poorly misunderstood by many investors, to their detriment. Essentially, there will often be an optimal location to hold certain asset classes. For example, it’s typically not a great idea to hold bonds in a Roth IRA.

A good financial advisor will optimize the asset location within client portfolios, which can result in lower lifetime taxes. According to a Vanguard study, asset location can add up to 60 basis points annually to returns.

#3: Get More Money Out Of Tax-Advantaged Accounts

Many investors spend a good deal of time and energy thinking about how to get more money into tax advantaged accounts like an IRA or 401(k).

Perhaps more important, however, is the strategy around getting money out of these accounts. A good advisor can help to plan these withdrawals during retirement, and also position their clients for efficient withdrawals before retirement.

According to a Vanguard study, withdrawal optimization can add up to 70 basis points annually to returns.

Other (Potential) Tax Efficiency Wins

There are additional ways that a good financial advisor will minimize client taxes.

  • Tax Loss Harvesting: This involves selling any positions that have declined in value in order to lower the current year tax bill. Envestnet estimates that tax loss harvesting can add 100 basis points annually.
  • Tax-Managed Mutual Funds & ETFs. Russell Investments estimates that in the five years ended December 2021 investors in non-tax-managed funds lost about 2.1% of returns every year to taxes. That compares to a tax drag of just 0.9% in tax-managed funds.

Catastrophe Avoidance

At a high level, advisors can add value in two ways: increasing your expected returns, and lowering your risk. The benefits in the first bucket – tax efficiency – generally increase expected returns by minimizing the “drag” of taxes.

A good advisor can also help clients to lower risk. Put another way, they can help clients to avoid financial catastrophes.

This value add – catastrophe avoidance – can be segmented further into two buckets. First, advisors can reduce risk is by eliminating the likelihood of a client overlooking something important. Let’s call these “Oversight Catastrophes.”

The second bucket is more behavioral in nature; a good advisor can reduce the risk that their clients fall into a so-called “behavioral trap” and make a really dumb decision. Let’s call these “Behavioral Catastrophes.”

“Oversight” Catastrophes

The most valuable service that an advisor provides may actually lead to a decrease in expected net worth. But when a slight decrease in net worth can cause a massive decrease in risk, that can be a very desirable trade-off.

The most obvious example of this is insurance. A good advisor will help clients to identify and purchase the insurance that they need, and steer clear of expensive policies that don’t make sense given their circumstances.

In doing so, they eliminate a number of potential catastrophes including the risk that a client dies unexpectedly and leaves behind a family that relied on their income.

Beyond insurance, there are a number of potential catastrophes that a good financial advisor will help clients to avoid, including estate planning, longevity risk, and tax risk.

Behavioral Catastrophes

In addition to protecting clients from unexpected difficulties, a good financial advisor can protect clients from themselves. It’s human nature to get caught up in waves of both panic and euphoria, and make financial decisions that we later regret. We tend to buy high and sell low – the opposite of what we’d ideally be doing.

According to Morningstar’s “Mind the Gap” study, investors “lose” about 1.7 percentage points per year because of poorly timed purchases and sales of fund shares.

An experienced advisor will help clients to avoid this cost. They will help clients to stick to a plan and avoid the temptation to trade based on fear or exuberance.

Peace Of Mind

The third bucket, peace of mind, is the hardest to quantify — but likely the most valuable. Many investors place significant value on three benefits provided by an advisor: knowing where they stand, having a consistent source of accountability, and the knowledge that important tasks have been completed.

Knowing Where You Stand

First and foremost, having a thoughtfully crafted plan brings peace of mind to most investors.

In order to put together a retirement plan, you need a lot of information. You need to estimate what your Social Security benefits will be, how much healthcare and college will cost, what tax bracket you’ll be in, and – of course – what kinds of returns your portfolio will generate.

Those are just a few of the assumptions that go into a financial plan – there are dozens more, some of which get pretty complicated.

In other words, it’s really, really hard to build a realistic retirement plan. 

And without this, most Americans will have no clue if they are on track for the retirement that they want. And that can be stressful.

A good financial advisor can build a comprehensive financial plan, and answer that question about whether a client is on the right track. And that typically brings tremendous peace of mind just to know where you stand.

Accountability

Financial advisors can cause positive behavioral changes by providing a source of consistent accountability.

This is most evident when someone is not on track for their financial goals. A good financial advisor will help clients to understand all the options to get where they want to be.

An analogy to physical fitness is appropriate here here. Everyone knows how to get and stay fit – it really just comes down to diet and exercise.

But that is, of course, much easier said than done. In practice, most people benefit from some kind of professional assistance: coaching, personal training, or something along those lines. In addition to the expert advice, this ensures a level of accountability that actually changes behavior and drives results.

There’s a similar phenomenon when working with a good financial advisor. The financial plan that they provide – and the regular updates they make – will often be enough to change investor behavior for the better.

In other words, many investors will find that a financial advisor creates significant value by clearly communicating whether they are on track for the retirement lifestyle that they desire – or by illustrating, in very practical terms, what needs to be done in order to get there.

While this might not be an activity that directly creates wealth, it has the potential to improve behavior – which can indirectly lead to a massive increase in net worth.

Important Tasks Done

Another hard-to-quantify benefit is the knowledge that important tasks are actually getting done.

In theory, many investors could do many of the tasks that a financial advisor does. But most investors won’t do those things. Hiring a good financial advisor ensures that everything gets done that should get done. And there is huge value in that.

It’s hard to assign a dollar value to the peace of mind that comes from knowing that important financial tasks are done – especially if you don’t particularly enjoy rebalancing portfolios or tax loss harvesting. There is peace of mind that comes with knowing your portfolio is well diversified, low cost, and allocated in a way that is consistent with your risk tolerance.

A good financial advisor ensures that everything gets done that needs to get done – but that might not have otherwise.

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Ultimately, most people have two things pretty high up on their wish list: more time and less anxiety. A good financial advisor can provide both. Quantifying this is essentially impossible, but most investors will immediately understand the value in it.

Bonus Bucket: Counsel In High Leverage Moments

The vast majority of retirement wealth is accumulated rather slowly, through regular contributions and distributions and appreciation. But, occasionally, we have “high leverage” moments where a decision has the ability to create significant wealth.

This may be refinancing a mortgage or taking early Social Security or converting a Traditional IRA to a Roth. These are decisions that are often difficult or impossible to reverse, and that can have a big impact on your financial well being.

Maybe you’re being granted equity in a startup, or considering a job that would require you to relocate internationally.

It might be something a little more wonky like structuring your business as a C corp to take advantage of the QSBS exemption upon a sale, or making an 83(b) election to reduce a future tax liability.

A good financial advisor is your personal CFO, and will be able to assist with analyzing the different options in these situations. This is one of those benefits that may not accrue on a regular basis, but instead will occur sporadically – or perhaps never at all. But when these types of decisions do arise, a trusted financial advisor can be an extremely valuable asset.

Bottom Line On Financial Advisors

Hopefully this has provided some helpful perspective on the ways that a good financial advisor can add value.

Not all financial advisors are created equal. If you’re convinced that you would benefit from hiring an advisor, do your homework and find an advisor who is right for you. That means looking at fees, incentives, experience, areas of expertise, and temperament.

If you’d like a free introductory call with a vetted advisor from our network, use our Advisor Match tool (it takes less than 2 minutes to complete).

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