MDRT financial planning guide
What is the difference between a financial planner and a financial advisor? What are the most common client goals and obstacles when working with a financial planner? How should risk management be addressed with clients?
MDRT members Bhupinder Anand, ACII, Dip PFS; Sylvia Brim, CPA, CFP; Adrian George, CFP, TEP; Roy Hall; Thomas Henske, CFP, ChFC; Max Horne, CFP; and Barbara Pietrangelo, CFP, ChFC, together possessing more than 130 years of combined experience as financial planners, advise on everything you need to know about financial planning.
A sample of what you’ll see addressed thoroughly in this guide:
The difference between financial advice and financial planning: Financial advice is reactive, product-specific, transactional, topic-specific and usually general; financial planning is long-term, comprehensive, education-based, multifaceted regarding different aspects of financial life, proactive, strategic, goals-driven and starts with the end in mind.
The key components of a financial plan, though varying by firm and country, generally include:
● Defining the relationship and expectations between client and planner
● Identifying objectives and gathering data
● Recognizing problems, opportunities, present plans and future recommendations
● Implementing the plan, then monitoring and updating
Cash-flow modeling is essential to align client needs and priorities with the advisor’s understanding of how to move forward with a plan. Through these conversations, advisors can address concerns, hypotheticals and any other client questions about their past, present and future.
"I was a financial planner from my first day in this profession, as I felt it happier to offer my clients a holistic solution rather than just a product."
How many years have you spent as a financial planner?
BA: 21 years. I was a financial planner from my first day in this profession, as I felt it happier to offer my clients a holistic solution rather than just a product.
SB: I have worked in financial planning for 28 years, following a career as a CPA in tax planning and have been a certified financial planner since 1992.
AG: While I’m entering my 25th year in the financial industry, I need only look back each year to see ways that I would have liked to have improved a plan provided. This is not to suggest the plan was bad, but rather in my continuing quest to improve myself and in understanding my clients that much better— to say nothing of the lessons which can only be learned by experience — it makes it a challenge to be happy with any planning. But ultimately my clients are the better for it!
RH: I have had over 15 years of experience as a financial planner.
TH: 21 years.
MH: I feel that I have been a subconscious financial planner since I came into this profession back in 1979. However, the certificate on my wall says that I have only been a Certified Financial Planner since 2007, but I think that in line with most MDRT members when we first heard Harold Zlotnik talk about "The Broad Concept," then we all became subconscious financial planners. Zlotnik’s Broad Concept is basically, where have you been, where are you now and where do you want to get to and how do we get you there? That for me was the beginning of my subconscious financial planning, and I have probably been doing that since I first heard it 25 years ago.
BP: 20 years.
“I have always shared with clients, ‘If you don’t know where you are going, you will probably end up someplace else.’”
Why is financial planning important?
BA: Buying a product is usually a one-off transactional event — whereas financial planning is a lifetime process that involves trust and relationship building. Financial planning is arranging a financial strategy for achieving a client’s goals and objectives. The plan considers the current situation, the outlook for the client’s future and then creates a path, or direction, for the client to follow. The various steps along this path may or may not involve an actual financial product.
The financial plan will, however, propose strategies for action and appropriate financial products where applicable. Ideally, the financial plan will incorporate some form of cash-flow planning to assist the client in knowing how long his funds will last and the impact of varying rates of income, expenditure, investment return and inflation. Implementing the plan will include at least a two-year strategic review and tactical revisions in between.
SB: The importance of a financial plan is to help set and achieve your financial goals. To get the big picture or the road map. It provides an opportunity to work with a licensed financial planner that can help guide you in discovering your short- and long-term goals, and prioritize them. I have always shared with clients, “If you don’t know where you are going, you will probably end up someplace else.” The Yale Study of 1953 still applies today: They surveyed the class of 1953 and found out only 3 percent had clearly defined goals. And 20 years later, the 3 percent with clearly established goals had greater financial net worth than the 97 percent combined.
I have seen within my 28 years of planning that the majority of my financial planning clients that went through the financial planning process and continued to meet with me on a periodic basis to monitor their progress either achieved their goals or exceeded them. Financial planning is a relationship that develops over time through trust. Financial planning not only helps set the short- and long-term goals but it also provides a benchmark to measure your progress in achieving those goals.
AG: Financial planning is important for much more than the basics of outlining their path to achieving their goals. Proper financial planning addresses HOW they want to achieve their goals, what they’re concerned about in achieving them, and providing a base comparison to see the impact of a significant financial decision or impact in the future. With the road map initially laid out, it becomes a lot easier to discuss changes to their plan and how an event can impact their ultimate success or failure.
TH: As any good carpenter will tell you, “measure twice and cut once.” Unfortunately there are many individuals who probably spend more time planning their vacation than they do mapping out their financial future. Having a plan and then executing on that plan is what makes someone successful in life. And not having a plan is a quick road to nowhere that most of us wish to avoid. At the core, having a sound financial plan that you are executing on gives you purpose, confidence, security and dignity.
MH: I happen to think that financial planning is vitally important, as the alternative would be to amble through life with no financial ideas at all and just take every financial bump in the road as it comes. With no planning, people will often arrive when they finish their working lives with very little money for the future, having to rely on social security and other handouts to sustain their lives.
BP: Financial planning is important because it helps the client make good decisions today, tomorrow, and many years down the road. It allows the client to live well at all stages because there is a big picture in sight. Clients don't realize that they may live too long, die too soon, or have unexpected health or job issues.
“Too many just want their advisor to tell them what they already believe to be true, rather than what they need to know and do.”
Who is the target audience for a financial planner?
BA: Everybody needs a financial plan. However, the reality is that not everyone has the financial ability to implement such a plan. So the target audience ought to be clients with sufficient financial capacity to be able to take advantage of such a plan. This is usually measured by disposable income and/or capital available to invest. I have further criteria also: Our clients must have not only the “economic capacity” but also the “mental capacity.” What I mean by this is they must be a willing partner in the creation and implementation of the plan and not be an obstacle. Put in simple terms, they must allow us “to do the job.”
SB: My target audience are clients 50 and older that have spent time trying to do things on their own and recognize the need to work with a financial professional that has wisdom and experience in working with different phases of their life’s journey. As they get closer to retirement, they want to make certain they are doing things right and have enough time to make shifts in their plans.
I work with my clients’ children when they become adults and many times the senior parents that are transitioning to needing assistance in moving out of independent living to assisted living. I also help individuals who are going through a divorce identify their income needs and expenses going forward, and help them determine which assets would best suit their needs. Over half of my top clients are now retired, living a financially comfortable life in another state.
I am also asked to provide second opinions on portfolio recommendations that other advisors make but may not be clearly explained to individuals, and they want to see what the benefits would be to convert their assets to different investments. I help them understand how these new investments will affect their financial goals and objectives and how their current portfolios are doing in comparison. I have also prepared plans for clients of insurance agents that do not have the expertise to do a financial plan.
AG: Having money — or at least the ability to free up money as a result of proper planning — is of course essential. But all of the assets or income a client can have are completely irrelevant without the desire to truly work with their financial planner in a collaborative fashion to achieve their goals and objectives. The target audience is really anyone who views the relationship with their advisor as a partnership, has the ability to establish and grow trust, will question but only to be better informed, and ultimately with the information provided be able and willing to make a decision they feel is in their best interests. Too many just want their advisor to tell them what they already believe to be true, rather than what they need to know and do.
RH: My target market is self-employed and employees around 30 – 40 years of age, in the wealth accumulation phase and actively interested in planning for financial security for the future.
TH: It is scary to see where legislation is heading and the unintended consequences it will bring. The relationship between a financial planner and their client needs to be mutually beneficial – both from a financial and human experience. A financial planner who wants to develop a long-lasting, enjoyable and profitable career should seek out clients who:
• Are not “do it yourselfers” and value a knowledgeable professional to help them make financial decisions.
• Fit into their business model so that the paid services they render fit the needs of that particular client.
• Share the planner’s core values and enjoy a relationship of mutual respect.
MH: I think the target audience is anyone who has money and has a desire to put their financial affairs into order. The reality of it is that as we charge for financial planning and advice it is only those that can afford our fees that are our target audience, and so it tends to be the more affluent client that is my particular target.
BP: Anyone who is concerned about their future. The person also has to be willing to see all sides of the question and be open-minded.
“Financial advice is just the set of recommendations a qualified financial planning practitioner gives to someone. A financial planner will not only give the advice but make sure that the advice is followed up on and implemented.”
What is the difference between financial planning and financial advice?
BA: Financial advice is a current situation snapshot, dealing with current financial issues that need addressing. It tends to be product-related (but not necessarily) and is not necessarily forward-looking or holistic in nature. Financial planning is not an event but a process, with a forward-looking attitude. It takes into account relevant circumstances, now and later. Financial planning could be called strategic in nature while financial advice is tactical.
To use an analogy that I use in my business, I am a financial architect, therefore I help my clients to design and create their future financial home, which is a strategic financial plan. Once I have done this, I then help them to find the right financial furniture (the tactical product and solutions). Strategic changes are slow and slight, whereas tactical changes are more frequent and rapid, adjusting to changes, such as market movements, etc.
SB: Financial planning is a process that revolves around an ongoing relationship and includes taking a look at the big picture of an individual financial life or just a component of it. Financial planning lends itself to engaging with clients on a more intimate level and understanding clients’ thoughts, concerns, goals, joys, and fears. We tend to have a more vested attitude and desire to see our clients achieve their goals.
Financial advice doesn’t necessarily indicate that an ongoing relationship exists and is typically more centered on a specific goal or concern and may not continue through to the achievement of the goal.
AG: Financial advice is often the direct answer to a direct question in my opinion. How much of a mortgage someone can afford is a simple piece of advice. But how much of a mortgage SHOULD that person have is a matter of financial planning. For example, if the client is a business owner, there is a balance to be struck between freeing up cash flow, the amount of interest saved (which is on a diminishing return basis the more aggressively one goes), and the amount of taxation they’ll be exposed to by taking the funds from their company which could have gone to other options such as risk management or savings. That is financial planning, where you look at “if this, then what” options.
RH: This is a broad area. As a planner, strategize today for the financial future of the position the client wants to be in. Whereas financial advice can sometimes be just transactional.
TH: In my opinion financial advice is just the set of recommendations a qualified financial planning practitioner gives to someone. A financial planner will not only give the advice but make sure that the advice is followed up on and implemented. The responsibility of implementation is the burden of the planner.
MH: Financial advice is merely the generic, “I think it is a good idea that you do this,” whereas financial planning is taking the client’s hopes, dreams and aspirations and turning them into a financial picture and putting in place different strategies to obtain these goals. The other key difference is that a financial plan should be reviewed regularly as people’s circumstances change, and a huge element of financial planning is, I believe, financial coaching to ensure a financial plan is adhered to and followed.
BP: Financial planning takes the client’s big picture into account. Financial advice is often on a single topic or concern of the client. It is much easier to help the client make good decisions when you are aware of the total situation.
"The components of a financial plan include the agreement to work together and define the scope of our relationship and the fees charged. This stage also includes the discussion of the length of the relationship and the expectations going forward."
What are the key components of a financial plan?
BA: Typically there are six steps:
1) Setting the purpose and objectives of the plan.
2) Identifying the current situation, which includes hard facts, soft facts and experience (e.g. attitude to risk). This stage also will explore goals, objectives and aspirations.
3) Analysis of the information provided and research of the various solutions, strategies and products.
4) Production of a formal written plan and explaining it to the client.
5) Implementing strategic and tactical elements of the plan; not everything may be possible in this stage.
6) Reviews of the plan to make relevant adjustments and implement new or additional solutions as required.
SB: The components of a financial plan include the agreement to work together and define the scope of our relationship and the fees charged. This stage also includes the discussion of the length of the relationship and the expectations going forward.
Information-gathering stage: We gather all their financial documents, define and set the goals, discuss concerns, risk tolerance, and set timeframes. I also include a client-provided cash flow summary.
Analysis stage: I review their income and spending and their assets and debt to determine whether they can achieve their goals based on their current method of spending and saving and assets held.
Development stage: Based on the analysis we determine what needs to be changed in order to achieve the goals the client has stated. It might include a combination of changes, spending less, earning more on their investments, earning more income, or delaying the date the goal is desired to be achieved. We also review accelerating debt reduction versus increasing savings.
Recommendation stage: Takes into consideration how we perceive the client comfort level in implementing a plan to achieve their financial goals. I typically like to give clients some time to digest the recommendations and come back to implement them.
Implementation stage: We implement the plan and work with their other advisors and through their employer plans to implement the recommendations.
Monitoring stage: Monitor the progress of the plan and make adjustments as needed.
I have found that the more time I spend in knowing my clients during the fact-finding stage, the less choices I will have to present because I have a greater sense of what they are likely to agree to implement. I present what I believe is most fitting to help them achieve their goals in a committed way. My goal is to help clients implement a plan that will get them to their goals, not just do an analysis and give them options. I am action-oriented. I want them to be successful and feel good about what they are accomplishing and the progress they are making.
"Hopefully if we see the semi coming at us, we will know to jump aside. But it’s the semis we don’t see coming for which we need to know what we’re going to do and how we’re going to fund those decisions."
AG:
1) It has to start with a thorough review of their goals, values and concerns. Their goals are the measurable results they wish to achieve; their values are how they want to achieve them; and their concerns ultimately will drive them toward or prevent them from achieving their goals. For example, if my goal is to start a business because my value is I know I can do it better, but my concern is the debt or cash-flow interruption in starting my business, that needs to be tackled first before any discussion on such things as debt, savings, insurance or estate planning can occur.
2) Next would be to control the uncontrollable. Hopefully if we see the semi coming at us, we will know to jump aside. But it’s the semis we don’t see coming for which we need to know what we’re going to do and how we’re going to fund those decisions. This is where personal and legal documents are essential, and just as importantly the cash and insurance to fund what those wishes are.
3) Third would have to be an understanding of how they spend their money on a day-to-day basis. Clients do not like to be put on a budget, and if they provide a budget they greatly underestimate what they spend. The former is loss aversion, which will cause them to react badly to planning if they feel unduly restricted in how they can spend their money. The latter is where they ignore expenditure such as not including unexpected expenses, which are only unexpected in the specific need but for which the amount is almost always present in their monthly expenditures. Here I’m mostly looking to see if what they’re spending on a day-to-day basis is reasonable given their income, so I know that if we start on debt-reduction strategies we’re not spinning our wheels as they accumulate debt when I’m trying to pay it off.
4) Next I look at debt management. I say management and not elimination, since their values may or may not show a concern for having debt (at least not credit card debt) as well as my previous comment about cash flow versus interest or taxation. We also need to consider if personal or corporate debt should be dealt with first as some are OK with “good” debt such as their mortgage but want to protect their company by paying off a corporate loan which is done with corporate not personal dollars. As for cash flow, while they’ll save more on interest paying against a mortgage over a no-interest car loan, the car loan represents a bigger amount of payment vis-a-vis their balance when compared to a mortgage, and it can be paid off faster as well which frees up cash flow. If they have a job interruption or a slowdown in the economy, their top-line reduction is offset by having reduced their bottom line as well.
5) Finally, if the first four stages have been done properly, then what can now go into investments can stay in investments and not be needed in an emergency and potentially withdrawn at the bottom of a market correction. This allows the client to focus on their long-term objectives and not have a revolving door of investments or re-accumulating debt.
RH: Investment planning, taxation planning, retirement planning, financial planning, estate planning, insurance planning, wealth accumulation.
TH:
• Family money constitution: Values around money outlined in a formal written document.
• Risk management: Preparing for all of the what-ifs that can derail your family financially.
• Goal setting:
o Retirement funding
o Large purchases
o Budgeting
o College funding
• Asset management: Matching the risk/return needs to your personal needs and perspectives.
• Estate planning: Figuring out where it all is supposed to go and getting it there in the easiest and most tax-efficient manner.
• Charitable intentions: Understanding what your charitable urges are and how to participate in those both while living and at death in a manner which allows you to accomplish your own financial needs/objectives.
MH: The key components for us would be: Where are you now, what have you got in place currently, where do you want to go and what do we need to put in place to get you where you want to go? Other key components would be: What risk appetite or capacity for loss do you have when it comes to your investments, and how long should we set up a plan for? Currently we are doing it to age 100, but I believe some people are doing it to age 120 or 140 for younger clients.
BP: Cash management (cash flow and expenses); major expenses (homes, second homes, college, weddings); retirement planning; investment planning; tax planning; risk management (life, health, disability insurance, long-term care, critical illness); estate planning
"We have a mantra in our office that we want to ensure that our clients 'have enough money to last them for the rest of their life in the lifestyle to which they have become accustomed.'"
What are the most notable client goals, obstacles and risks? How do you suggest addressing and working to embrace or avoid them as appropriate?
BA: I explain that financial planning goals can be broken down into short-, medium- and long-term in nature. They should all be considered equally and then priorities between them established. Short-term includes aspects such as debt consolidation and protection of current assets through insuring life, health and income. Medium-term includes mortgage funding and regular savings, which may be for specific purpose or targets or generally accumulating wealth. Savings can also be long-term. Long-term includes investing of lump sums of money, perhaps from matured savings, bonuses, windfalls or inheritances, to get the best return. Investments can be for specific or general purposes and can also be medium-term. Long-term also includes long-term care needs and estate and legacy planning.
While considering all these simultaneously and their interaction with each other, tax is a major potential factor that needs to be minimized within all the levels. There also would need to be a clear and frank discussion of investment risk – both in terms of explaining what it is and the need to take some risk in order to achieve goals. Of course, with sufficient wealth, the levels of risk can be reduced. Once these areas have been addressed and quantified and the solutions presented, I help the clients to prioritize their implementation strategy.
SB: The biggest and most common goal I typically see is a desire to retire at a certain age. The risk many times today is company downsizing or changes in the workplace where clients do not want to work anymore at their current employer. They are not happy in their current jobs. Among my clients nearing retirement, some obstacles are health issues, disability, mental issues, divorce, caring for adult children and a desire to help raise their grandchildren or moving to be closer to the grandchildren.
AG: Probably the most notable goal is in my experience debt reduction, but obstacles are often when both in a relationship aren’t focused on achieving the same results. If one is OK with debt (or is the primary “spender” in the relationship and doesn’t want to cut back), it’s going to cause a stalemate for how to proceed. It’s the same with their investment styles. If one is aggressive and the other is anxious when the markets drop, the more aggressive style can upset the one half while the need to be conservative can impact long-term growth and taxation of their portfolio. These and many other goals they may have will need to be addressed by a spirit of compromise and allocation of income or use of assets to achieve common goals or to find middle ground. The values discussion reasserts itself here as a paramount consideration if you’re going to both make headway as well as have them stick to their planning afterwards.
RH: One of the main questions is, “Will I have enough money in retirement?” To achieve this they must give all relevant information (income, expense, assets, debt, their view on risk insurance). One of the obstacles is the client needs to gain your trust before all information is given, and the risk is not gathering all the information will affect the end-game.
MH: We have a mantra in our office that we want to ensure that our clients “have enough money to last them for the rest of their life in the lifestyle to which they have become accustomed.” That fairly general client goal we think embraces everything that we need to take into account. Of course, we don’t know how long the client is going to live and we don’t know what financial variables are going to take place along the way. There are also personal risks that the client would endure that is just part of normal life, whether they get ill, sick or hurt, whether they lose their job and need to retrain for another, how long they live for and, more importantly, how they would cope with a financial crisis, as we have seen over the past 30 years there is no guarantee that this will not happen in the future. I think, above all, a financial plan should be truthful, and all these obstacles and risks should be noted as best-case scenario and the worst-case scenario and most likely scenario.
BP: People underestimate how long they may live. Another area of concern is helping children or family members. People need to make sure they are OK first. The ones they help can generally never repay them.
“Obstacles are often found when both in a relationship aren’t focused on achieving the same results.”
What recommendations do you have for someone looking to get started as a financial planner?
BA: There are some very good articles in the MDRT Resource Zone, which is a good starting point. I have received excellent feedback from a speech I gave at the 2005 Annual Meeting in New Orleans called “How to be a Financial Architect.” It may be an old article, but the principles have not changed and it remains relevant today.
AG: Definitely join industry associations such as Advocis, and look for the many professionals who are happy to provide guidance and advice. No one method is the best for everyone, and getting to know the styles of other successful advisors and adapting them to make your own is a great first step. You have to be dedicated to your professional growth, through your ongoing pursuit of designations and reading as well as getting involved with amazing associations such as MDRT. Come into planning with a view to make a difference in the lives of your clients and to be a positive role model for our industry to follow.
RH: Understand your target market (age, employed/self-employed, dollar amount to invest) and ensure you have the support to give good advice.
TH:
• Understand what your strengths/weaknesses are:
o Kolbe
o Strength Finder
• Map out the educational track that will teach you the skills you need to help clients make the right decisions.
• Develop a prospecting plan. You have to have enough people to tell your story to. Many a person who failed out of the business did so because they weren’t good prospectors.
MH: Some people within MDRT have specializations. For example, estate planners, investment planners, retirement income planners, specialist life assurance planners. Financial planners need to embrace all of these skills, and that probably goes against everything you are told at MDRT Annual Meetings that the only way to be successful is to specialize and be a niche marketer. There are other niches in which you can be a financial planner, specializing in different occupations or careers. I think the term financial planner will be replaced very soon by the term financial coach, and you can look for clients who require financial coaching. Many professionals, whether they are at the start of their careers or nearing the end, require financial guidance, and they often come up with the question, “What would you do in this situation?” To get started, you should look for as many people as possible that are not good at planning their finances, and this can be quite easily obtained at the first meeting, as you get an idea if someone is financially astute or whether they are just wanting to leave everything to someone else.
BP: If you want to work as a FP, work under an experienced one. They will hopefully have a wealth of knowledge to pass on.
“Clients typically come to us with some of the basic forms of protection, and it is our job to match what they have with what they feel they need--and budget accordingly.”
How would you advise addressing risk management with clients?
BA: Cash-flow planning helps a client to consider what level of risk is appropriate. If they have sufficient wealth, then they may not need to take more risk. Others may need to take higher risk and understand volatility in order to reach their goals. I use a psychometric financial analysis tool that asks the clients a number of questions that determines their emotional attitude toward investment risk. The answers are fed into a computer program which arrives at a risk rating score between one and 10 (one being cautions and 10 being aggressive). I then discuss this with my client to agree on a risk strategy based around that number.
SB: Several years ago I shared with my clients that because our times were changing so rapidly, it would be advisable to keep an open mind and know things may come up that alter their long-term goals and planning. I seldom do comprehensive planning anymore for a flat fee but charge by the hour for my services. Market volatility is an example of change, where we are shortening our time horizon, and we tend to meet more often to make adjustments to the plan. Since I began financial planning, not only has the inflation rate assumption changed but also the projected rate of return has been lowered.
AG: I like to help my clients understand there ultimately are only four places their money can go, regardless of short-term, medium or long, personal or corporate. They are lifestyle spending, risk management, debt management and investments. When I take a look at the premiums of a recommended risk strategy, if they aren’t buying into why they need to protect their income and the lives of those they love, I try this tactic. Show how much more interest they will save against your recommended models if they put that money instead on their debt. Run an illustration to show the net after-tax gain on an investment portfolio if they got a reasonable rate of return. Finally, ask them which will have the greatest financial impact on their lives 15 years from now: the additional interest saved, the extra savings, or a death, disability or critical illness on their income levels, making the first two options – as well as the rest of their planning – utterly moot. At this point they realize we’re trying to make an impact, not a sale.
RH: This is an interesting question as I feel a lot is to do with their age and their experience in investing. We have a tool that we use to give us a guide to the style of investing that the client is comfortable with. The benefits are in completing this, and if the market swings you can repeat the guide to confirm your original reasons for the investments.
TH: In its simplest form, risk management covers the 3 main things that can happen to you: live, die, disabled.
o Live: Making sure that if you live a long life, you don’t run out of assets.
o Die: Maintaining your families' and/or business’ lifestyle if you were to die prematurely.
o Disabled: Insuring that if you become too sick or hurt to work, or too sick or hurt to carry on your activities of daily living, that you have money available to cover that care and replace your lost income.
Clients typically come to us with some of the basic forms of protection, and it is our job to match what they have with what they feel they need--and budget accordingly.
MH: This is the part where clients get a little uncomfortable, but you have to tell them the truth. There will be some health scares along the way. They will actually die! Many individuals have to give up careers because of mental illnesses, and this is something that they just don’t want to address. They also have the risk of them living too long and outliving their money. Some frank discussions need to take place around budgeting and only spending what you earn. Most people don’t like these conversations. The other area of risk is in investment risk, and we use some specialist investment risk profiling questionnaire to drill down to a client’s core risk. With investing, some clients don’t think they have a capacity to take a risk, but by drilling down into their core risk-taking capability you may find that they do have a capacity for taking a risk that they didn’t know about. At the other end of the scale you will find people who have been a bit “gung ho” and think they have a capacity for taking risk, but when it actually happens, they grow fearful, head for the exit and cash all of their investments, virtually always at a loss. It is for this reason that we need to find out the core risk-taking capability of a client before putting together a financial plan.
BP: It's our duty to address risk management with clients. Most are unaware of what products are out there and how it can benefit them and their families. We need to educate them on managing these risks, which can include self-insuring, along with different insurance products.
“Cash-flow modeling is something we do with all of our financial planning clients. I believe it is the core of being able to illustrate the value of what we do.”
Is cash-flow modeling something you discuss with clients? If so, what are some do’s and don’ts?
BA: Yes, it is very useful as it provides a graphical and/or tabular representation of how their income/expenditure and assets/liability situation may change over the years. It helps to illustrate if they will outlive their wealth or whether they may need to work longer, reduce their expenditure or even downsize their home in the future. It is important to understand it is only a guide and not guaranteed. In fact, the only guarantee is that it will be wrong - the various variables cannot be guaranteed. However, it does provide a useful path for strategic planning. It is important to not be too aggressive with growth rate assumptions or too cautious with inflation outlook.
SB: My entire financial planning process revolves around cash-flowing planning. I help clients through various spending and saving exercises until we are able to arrive at a good fit for them. It is trial and error. Many times most people who are still working don’t know what they spend nor what they earn. They are too busy doing other things. There are times I have them save more to see what amount of money they can live on without using credit cards. I find the younger clients today tend to have more conversations together on their goals, and they share the financial responsibilities.
I have had clients take a small notebook and write down expenses such as Starbucks and going to Target for several months to see what they could cut out if they need to save more. Cash-flow planning can be a fun exercise for clients that desire to improve their financial picture.
Many of my clients are retired, and cash-flow monitoring is much easier since they are living on a fixed income, and we only need to plan for the major expenses such as new cars, home improvements. As their wealth accumulates, gifting or increasing their spending is a conversation I enjoy having. It is a great experience to work with clients that have more than enough and are comfortable beginning to gift and experience the joy of giving. Over the years I have had several clients that moved out of state after retirement, but because we built our relationship on sound principles of trust, honesty, integrity, compassion, they are still working with me today. This past year I had my first client celebrate their 20th anniversary of retirement, and they have not lived here since retiring.
My commitment to my clients is that I will do the best job for their benefit above mine, and my desire is when they take their last breath, I will have the opportunity to be by their side praying for them and letting them know I care.
AG: It’s not something, it’s everything to discuss with your clients. We don’t think in terms of how great that mortgage elimination will feel like in 20 years when it’s repaid, or how retirement 30 years from now rather than enjoying life today will be. Clients plan long-term but live short-term. Helping them allocate effectively toward their debt, risk management and savings goals will allow them to spend the rest of their money guilt-free should they wish. It’s almost the opposite of a budget. Rather than seeing what’s left over to save, it’s what’s left over to spend that will keep them living within their means and ultimately on the path to success.
RH: Yes, certainly discuss with your clients. I would always try to have some of this information completed by your client prior to the meeting, as gathering this information can be very time-consuming. When trying to confirm budgets, you can actively assist with their surplus to have additional investment strategies.
TH: Cash-flow modeling is the first and many times most important exercise we go through with a new financial planning client. All other decisions that a client will make, including aggressiveness of their asset allocation, estate planning, gifting, insurance planning, are all based on the future outlook of their cash flow.
"With cash flow, I ask clients to total checkbook ledgers and credit card statements for the year. Most people are shocked to see what they really spend."
MH: Cash-flow modeling is something we do with all of our financial planning clients. I believe it is the core of being able to illustrate the value of what we do, and we use several financial modeling tools to do this. The most common one we use is a U.S. piece of software called Voyant. What we want to do with clients is show them graphically what their financial life will look like under normal circumstances. The beauty of doing this is you can show a client what their net worth is when they are elderly, and you get two typical reactions. For those more affluent clients it is, “I don’t want to die with a huge amount of money, so I want to start giving some away to my children and other interests such as charities,” or you can point out to clients when the money is going to run out and they should possibly apply for a job flipping burgers at McDonald’s. Being extremely truthful with clients during this process is key. We can also do all of the “What if” scenarios: What if you had a critical illness at this age, what if you died at that age--would your wife be able to sustain the lifestyle you have created for her? The fundamental one is back to our core, “Will I have enough money to last for the rest of my life in the manner to which I have become accustomed?” All of these can be answered by cash-flow planning.
One of the “dos” that you have with cash-flow planning is that you need to align the assumptions with the client. These are assumptions around investment growth, inflation rate, longevity, when they want to stop working, any capital sums they want to give away to children, charities, etc. And fundamental ones: For example, do they want to leave a legacy, or do they want to die on the day that their funds diminish to zero?
There are several “don’ts,” but the main one is not to lull the client into a false sense of security that they are going to be OK if a major catastrophe hits them. For example, 10 years in, what would happen if the stock market crashed to 50 percent of its value? How long would investments take to recover? If you don’t tell them the truth a sense of complacency settles in, and you may be open to litigation at some stage in the future if a client’s outcomes were not as they expected. Don’t use overly optimistic investment return guesses; perhaps use and stick to a 4 percent per annum net investment return rather than the average of the S&P 500 over the past 20 years, or the FTSE 100 index. We would say, “Don’t be optimistic; be fairly pessimistic doing this.” If things turn out better, the client’s outcome is better.
BP: With cash flow, I ask clients to total checkbook ledgers and credit card statements for the year. Most people are shocked to see what they really spend. That is more accurate than asking them to guess. Most people can tell you what their mortgage is but have no idea what food actually costs. Other things like clothes and personal upkeep also cost more than people know or are willing to admit. Gifts are another category people have no idea about. Some people can live well on $40,000 a year, while others live poorly on $400,000. It's all about perspective and what's important to you. By seeing what clients actually spend, we can make potential changes if necessary.
"I do not yet know the full ramifications that the DOL will have on my hourly fee arrangement. However, most of the investments that are placed through me are also in a fee-based account."
To what degree do you think regulation will impact your work?
BA: In the UK, we have been through similar changes for many years. It has certainly caused problems for some advisors. The biggest issue for some is that it forces a conversation about what value an advisor is providing for their client. And value is not necessarily monetary; it may be about how we make your client feel. My definition of value is “doing something for our client that they may not, or cannot, do for themselves in such a way that they enjoy the experience.”
SB: I do not yet know the full ramifications that the DOL will have on my hourly fee arrangement. However, most of the investments that are placed through me are also in a fee-based account.
AG: Being a Canadian, DOL isn’t applicable to us. However, there is a move to look at holding the industry to a fiduciary standard and to nationally regulate the use of the term financial planner. While there are concerns with how they might structure compensation on a fiduciary level such as the banning of commissions (which has had a significant impact on the number of advisors in countries which have done so, making access to advice much more difficult for the average consumer to obtain), I am strongly in favor of regulating the use of the term financial planning. I want to bring our industry to be viewed on par with the accounting and legal professions. This includes consistent training, accreditation and professional standards and consequences.
RH: We are a little bit different here in Australia. We have had a fee-for-service model, as commissions were banned about 3 years ago. Although the impact was big, we have now been able to move forward. This change affected the whole industry, and now we just have to work with it.
"When doing the plan, it is important to really listen to the clients and understand their whys."
What else should people know about financial planning?
BA: Being a financial planner is a way of distinguishing ourselves from those who only sell products. Products will suffer price competition, known as “commoditization,” whereas a financial planner is able to differentiate their overall proposition. In doing so, and being creative with it, a financial planner is somewhat immune from the commoditization trap.
SB: I would encourage you to use as much of the CFP board information they maintain on financial planning. They have had years of experience guiding us through the changes in our industry.
AG: I’m incredibly passionate about behavioral finance. So much so that I believe it impossible to do a credible financial plan, let alone one that the client will stick with, unless you have factored client behavior into every aspect of your process. From how you interact and ask questions in discovery, to how to use the information and your tools with what your clients have shared with you, to testing your planning assumptions for how your client will react in different circumstances, to how to convey the information meaningfully and managing their investments and insurance accordingly, it’s impossible to do without a behavioral approach. Additionally, it has the significant added benefit of making you and your process much more referable to their friends and colleagues.
RH: I believe there needs to be risk protection/insurance products discussed with the full advice plan. Remember: We are the financial professionals, and clients don’t know what they don’t know.
MH: As I mentioned, I am convinced that the term financial planner should be replaced by another designation: that of financial coach. As well as putting together a financial plan which should be reviewed in any case, a financial coach undertakes to review not only the financial plan but to stop people making stupid financial decisions. Planners are also a sounding board as to what would you do in this particular case, and for that reason the more experiences a financial planner has, the better. Recent surveys around behavioural finance and the way people react to differing financial situations has shown that a good financial coach can stop making people do stupid things with money and panicking and selling at the wrong time, creating losses. A recent Vanguard survey in the UK has estimated that good financial coaching with behavioural finance can yield up to 1.5 percent per annum in the client’s portfolio. When we were in a low return environment, this saving by good financial coaching adds considerable value to a client. I am thoroughly convinced that this aspect of financial coaching is the most important job that we will do in the future. I had witnessed many people in the financial crash of 2007/2008 do extremely stupid things for which they will take a lifetime to recover. On the contrary, those people that took good financial coaching advice from their financial planner, financial advisor, whatever you want to call them, are those people that will survive and thrive in the future.
BP: When doing the plan, it is important to really listen to the clients and understand their whys. It is just as important to follow up regularly and adjust the plan as things change. We try to plan for the "expected unexpected" things that happen. Those could be a job change or loss, health issues, or family issues.