Weekend Reading For Financial Planners (Oct 15-16) 2022

Author: Adam Van Deusen

Team Kitces

Adam is an Associate Financial Planning Nerd at Kitces.com. He previously worked at a financial planning firm in Bethesda, Maryland, and as a journalist covering the banking and insurance industries. Outside of work, he serves as a volunteer financial planner and class instructor for non-profits in the Northern Virginia area. He has an MA from Johns Hopkins University and a BA from the University of Virginia. He can be reached at [email protected]

Read more of Adam’s articles here.

(John Manganaro | ThinkAdvisor)

Inflation has remained stubbornly high throughout 2022, with the latest data released for September showing an 8.5% increase in the past twelve months for the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W). And while those working might be receiving pay bumps to help deal with rising prices, retirees are often reliant on the annual Social Security Cost Of Living Adjustment (COLA) to allow their spending power to keep pace with inflation. Which historically had been very modest, at an average COLA of less than 1.7%/year from 2011-2020, rising to a 5.9% COLA in 2021 as inflation had begun to pick up last year.

But now, with far more rampant inflation in 2022, the increase in the CPI-W (Social Security’s annual inflationary benchmark) reported for September means that Social Security beneficiaries will receive an 8.7% COLA starting with benefits paid in January, 2023, the largest increase since 1981. And while the inflation rate going forward is not yet known, the COLA will provide some support to Social Security recipients dealing with the higher prices experienced during the past year. And for some clients, this may result in an immediate shift to the longevity of their retirement portfolio when Monte Carlo retirement projections are updated for Social Security benefits that are 8.7% higher going forward.

Notably, the COLA increase has the potential to have other follow-on effects for Social Security recipients, as well as the Social Security system itself. For example, the increased benefits could lead some recipients to have a higher percentage of their benefits subject to taxation (as the income limits are not adjusted for inflation). And the increased benefits could lead some higher-income households to be subject to an Income-Related Monthly Adjustment Amount (IRMAA) on their Medicare Part B and Part D premiums for the first time, or be bumped up to a higher surcharge level. And given the greater level of benefits Social Security will be paying out, it is possible that the COLA will push up the date of the Social Security trust fund’s insolvency (slated for 2035 in the latest annual report from the Social Security and Medicare Trustees), though this would not necessarily mean that benefits would not be paid (and Congress has options to prevent the trust fund from being exhausted, and nearly 70% of benefits can still be paid even without adjustments).

Ultimately, the key point is that the Social Security COLA for 2023 will help many seniors adjust to continued rising prices, and may have an even more immediate impact on sustainability for retirees as updated retirement projections with Social Security benefits that are 8.7% higher reduces the need to make portfolio withdrawals at a time when markets are down. Though again, for financial advisors, the increased COLA could kick off a broader tax- and income-planning conversation with clients to help them stay below tax and IRMAA thresholds as well!

(Ed Slott | InvestmentNews)

Passed into law in December 2019, the “Setting Every Community Up For Retirement Enhancement (SECURE) Act”, introduced a plethora of substantial updates to longstanding retirement account rules. One of the most notable changes was the elimination (with some exceptions) of the ‘stretch’ provision for non-spouse beneficiaries of inherited retirement accounts. As prior to the SECURE Act, beneficiaries of inherited retirement accounts were able to ‘stretch’ out distributions based on their own entire life expectancy, but now most non-spouse beneficiaries would be required to deplete their accounts within ten years after the original owner’s death.

However, an outstanding question remained as to whether these non-spouse beneficiaries would be required to take annual Required Minimum Distributions (RMDs) until the account was fully depleted. In February 2022, the IRS issued Proposed Regulations that indicated that certain beneficiaries who inherited an account from an individual who died on or after their Required Beginning Date (for RMDs) would in fact have to take annual RMDs until the account was fully distributed. Because these regulations remain in a proposed status, many advisors and clients have been left to wonder whether they might be responsible for RMDs on these accounts in 2022 (or even 2021).

But the IRS this week provided some clarity, at least for this year, by issuing Notice 2022-53, which waives the excise tax (the 50% penalty for missed RMDs) for missed 2021 and 2022 inherited retirement account RMDs for beneficiaries subject to the SECURE Act’s 10-year rule. Unfortunately, the IRS did not clarify whether RMDs on these inherited accounts might be required starting in 2023 (and Congress could pass legislation clarifying this issue), but for now, it appears that RMDs do not have to be taken for 2021 or 2022.

In the end, while these beneficiaries will not be required to take RMDs from the inherited accounts this year, they still may want to consider doing so. Because distributing the entire account in a single year could put the beneficiary in a significantly higher tax bracket, advisors can work with these clients to create a distribution plan (potentially including strategic distributions in lower-income years) that keeps the clients in the lowest-possible bracket throughout the 10-year period!

(Jeff Benjamin | InvestmentNews)

While in decades past, personalized investment management might have been at the center of an advisor’s value proposition, the commoditization of investment management and the rise of alternative options have led advisors to outsource many of these tasks. One option for advisors is to use a Turnkey Asset Management Platform (TAMP), which can both create an appropriate portfolio for a client and provide ongoing back-office support (e.g., trading, rebalancing, and ongoing management of the investment model). But with the growing capabilities of “robo” automation tools, the need for a TAMP’s back-office support because less relevant, leading many advisors to turn to potentially less-expensive model marketplaces, which are centralized platforms where advisors can select from a series of third-party-created investment models, but retain control and discretion to implement the trades themselves (in an efficient manner) by leveraging trading and rebalancing software.

And a new report from consulting firm Cerulli Associates quantifies the time savings advisors can get by using investment models compared to individualized portfolios. According to Cerulli’s research, advisors who create customized portfolios for each client spend 29.5% of their time on investment management, while those who use in-house custom models spend 18.5% of their time on these tasks. However, firms who use model portfolios spend less than 10% of their time on investment management!

Overall, the Cerulli report shows that outsourcing aspects of portfolio management, whether by using model portfolios or a more comprehensive TAMP solution, can free up significant time for advisors, particularly those whose client value proposition is not focused on managing investments. And given the wide range of tasks vying for an advisor’s limited available hours, this extra time could be used for business development, providing deeper service to clients in other planning areas, or even allowing the advisor to take more time away from the office!

(Steve Garmhausen | Barron’s)

After years of relatively low interest rates, the past year has seen a dramatic rise in a variety of rates relevant to consumers. For those with cash holdings, rising rates have meant improved returns compared to the sub-1% rates often seen on cash products over the past few years (and presents advisors with an opportunity to add value by optimizing client cash management). But for individuals looking to purchase a home, the rising rate environment (combined with continued elevated prices) has made doing so significantly more expensive.

Nevertheless, advisors have several ways to help clients looking to purchase a home make the best decision given their individual circumstances. To start, analyzing the client’s cashflow situation in the context of their overall financial plan can give them a better idea of how much of a mortgage payment they can afford (and don’t forget to include maintenance, taxes, and other carrying costs of owning a home in the calculation!).

Advisors can also help clients consider the best mortgage product for their situation. While fixed-rate mortgages have been popular during the low-rate environment of the past decade, adjustable-rate mortgages (which typically offer a lower initial rate that adjusts after a certain number of years) could become a more attractive option (and for clients who currently have a mortgage that is about to adjust to higher rates, a recast could help minimize the increase to their future payments). Another option for buyers with wealthy family members could be an intra-family loan, whose interest rate could be significantly lower than commercial rates. Relatedly, advisors can also help clients assess the optimal down payment amount. While a larger down payment might be attractive to clients with the available funds (to reduce the amount being financed at elevated rates), those purchasing larger homes might want to have a mortgage large enough to qualify for “jumbo” status, as the average rates on these loans are currently lower than those for conforming loans (though an advisor will want to consider the tax implications of taking on a larger loan as well).

Ultimately, the key point is that higher interest rates create a range of challenges for those looking to purchase a home with a mortgage. Nonetheless, it also presents advisors with the opportunity to add significant value to their clients, not only by assessing the impact of a purchase on their cashflow (and future goals), but also by helping them to select the mortgage product and down payment that best fits their needs!

(Ron Lieber | The Wall Street Journal)

When parents and students look at the sticker price of attending a given college, they are often shocked at the number they see. In reality, though, many families do not end up paying this amount, thanks to financial aid, merit scholarships, and other aid offered by the colleges. But given the huge number of college options (each with its own aid policies), it can be challenging for families (and their financial advisors) to compare the characteristics of different schools as well as how much they might have to pay to attend.

This is where a tool called the Common Data Set (CDS) Initiative comes in. The CDS is a common form that colleges can fill out to provide standardized information to publications that rank colleges (e.g., U.S. News & World Report). And while completing the CDS is not mandatory, many colleges do so to ensure they are ranked fairly. In addition to providing CDS data to publications, colleges often post this data on their websites, allowing families to compare schools across a range of areas, from the percentage of students who live off campus to the percentage of faculty who are members of minority groups.

The CDS can provide valuable financial information as well. For instance, the CDS includes information on how much of a family’s demonstrated need, on average, a school is able to meet. The CDS also provides information on “institutional non-need-based scholarship or grant aid”, sometimes referred to as “merit aid”, which allows colleges to adjust the cost of attendance for certain students they want to attend. This figure can be particularly useful for higher-income families who might not qualify for need-based aid but could be eligible for merit aid if their student (and, perhaps, the tuition dollars their parents would be able to pay) would be attractive to the school.

Altogether, the CDS provides a treasure trove of useful information that families can use to compare different colleges. And while an advisor might not want to read through this data for every school the children of clients might be considering (though those who do could create an advisor niche opportunity?), by being conversant in its contents and where to find key information, advisors can add value to clients with children (or grandchildren) considering where to attend for college.

(J.D. Roth | Get Rich Slowly)

In the days before the internet, shopping often involved going to a store, browsing the available inventory, and selecting the item that was the best fit. For example, if you were looking for a new pair of socks, you could go to a department store and choose from its available selection (or, perhaps, drive to another store nearby if you didn’t find a pair you liked). But the advent of the internet greatly expanded the number of goods available, so that in a few clicks you could browse socks from large retailers as well as smaller shops around the world.

This expanded market presents an opportunity to engage in what Roth calls “self-centered shopping”. With this method, rather than letting a store’s available inventory drive your decision of what to buy, you first choose the criteria of the item you want to buy (e.g., black socks with extra heel and toe padding) and then find the store that has the best product for you. This can take some extra research time up front, but this process can increase the chances you end up with a high-quality item (say, a shirt of a certain color), allowing you to save time in the long run by purchasing it again rather than starting a brand new search.

Notably, this process can extend beyond goods to finding and purchasing services, such as financial advice. While in the past a consumer might have been limited to the advisors working in their city, the rise of virtual planning practices gives them the option of working with advisors around the country (or even around the world!). And just as consumers might want to buy socks with certain characteristics, they might also seek out an advisor that provides the specific services they need, creating an opportunity for advisors to market to their ideal client persona to differentiate themselves from the pack and attract a potential client match that could last for years to come!

(Scott MacKillop | Wealth Management)

“Bigger is better” is a commonly heard phrase and when it comes to business, can apply to a range of industries (particularly ones that require significant start-up capital), such as car manufacturing or airlines. Often, companies in these industries will consolidate to take advantage of economies of scale (e.g., combining operations into fewer factories than the companies used separately) to run a more efficient business. Given these potential benefits, some pundits have predicted over the past 20 years a future for the financial advisory industry of a few large players gobbling up smaller firms to create a few giant competitors with immense economies of scale.

But, as MacKillop argues, this has not come to pass. While there has been significant consolidation at the top end of the industry, the overwhelming majority of advisors are still “small” or solo practices, and new independent advisory firms continue to form and succeed, creating a robust number of available options for consumers. This could be due in part to the challenges (rather than economies) of scale for larger firms in service industries in particular, such as trying to maintain a high level of customer service as well as the personal touch when the firm has dozens or hundreds (or even thousands!?) of advisors – something that is much easier and more straightforward when working with a smaller firm. Similarly, while several large firms operate in the legal and accounting fields, each of these industries also includes a huge number of successful smaller firms as well, that also have not been stamped out by decades of consolidation.

Several aspects of the financial advisory industry make it particularly amenable to smaller firms. For example, because planning is personal, it can be more challenging for a larger firm to meet the specific needs of its clients, while a smaller firm that focuses on the needs of a specific type of client with a focused specialization can offer a higher level of service to those clients. In addition, while large firms often have more capital to invest in technology, the breadth of AdvisorTech offerings allows smaller firms to compete by investing in a tech stack that meets their specific needs – and in practice, the technology firms serving independent advisors are much larger tech enterprises than what most large firms can build for themselves internally anyway.

Ultimately, the key point is that there is still plenty of room for both big and small firms in the financial advisory industry. While some consumers might prefer the size and brand of larger, established companies, others might turn to smaller firms that specialize in their specific and specialized planning needs. Which means that in the end, an advisory firm’s success is less likely to be determined by its size, and more likely to be influenced by its clarity about how exactly it will differentiate itself to win new clients from competing advisory firms… that might be large or small!

(Sam Bojarski | Citywire RIA)

One of the major trends in the financial advisory industry in the past several years has been the growth of mergers and acquisitions (M&A) activity, which has seen a jump in the number of deals and the average AUM per deal. And given the lofty valuations seen in recent years, some firms looking to add clients have turned to a different acquisition target: accounting firms.

Accounting firms have been attractive acquisition targets for several reasons. First, they can often be acquired for about 1.5x revenue, significantly lower than RIA valuations. In addition, adding a tax practice can enhance the service offerings of an RIA, often extending the firm’s capabilities from tax planning to preparing and filing clients’ tax returns as well (giving clients a ‘one-stop shop’ for their planning and accounting needs). Further, acquiring an accounting firm gives the acquiring RIA the opportunity to cross-market wealth management services to the acquired firm’s clients.

Amid this background, such deals in recent weeks have included Savant Wealth Management’s acquisition of accounting and consulting firm Terry Lockridge & Dunn, as well as OneDigital’s purchase of KB Financial Companies. And while there are risks to these acquisitions (e.g., alienating the accounting firm’s clients if they receive poor service, or experience weak portfolio returns, after working with the acquiring RIA), the current valuation environment and growth desires of many large RIAs suggest that the trend of acquiring accounting firms could just be getting started.

(Julie Littlechild | Charles Schwab Advisor Services)

Financial advisory firms traditionally have offered a similar suite of services to a broad range of clientele. But with the growth in the number of options for consumers, it has become harder for these firms to stand out from the pack. And given that this trend is relevant to a broad range of industries, looking at how other companies have differentiated themselves can provide insight into how advisory firms might do so themselves.

Littlechild, an advisory industry consultant, identified four steps firms can take to better differentiate themselves. The first, defining a niche, involves creating more focused services based on client type or area of expertise. Notably, the description of this niche should be authentic and should be compelling to both the advisor and prospective clients. For example, “I work with families with a minimum of $500,000 of investible assets” comes off as cold and does not describe the added value the advisor offers, whereas “I help families with young children create a plan that will help them meet their unique goals, from education to retirement” allows prospects to see themselves in the description.

The second step is co-creation, where advisors can work with clients to create experiences that fit into the clients’ lives. For instance, Starbucks directly asks their customers’ opinions on everything from products and ordering to the company’s charitable work. Similarly, advisors can gather feedback from their clients on the customer service experiences (from another company) that most resonated with them, and then use recurring themes to design interactions that address the issues and values important to their clients.

The third step is mapping out a client journey, which represents the lifecycle of clients’ evolving needs over time as they interact with the firm. This ensures that clients receive a consistent experience across the many touchpoints they will have with the firm (from when they first become aware of the firm through becoming an established client). By considering a client’s questions, information needs, and action items at each stage of the discovery and onboarding process, the advisor can give their client a more thoughtful experience throughout this journey.

Finally, it is important for advisory firms to innovate and create new ways to personalize the client experience. For instance, offering a range of advisor-client communications options (from in-person meetings to asynchronous video messages) can allow a client to interact with the firm in the way they prefer.

In the end, advisory firms have a range of ways to differentiate themselves, from providing planning services targeted at a specific client niche to offering a personalized client journey. The key is for firms to take proactive steps to understand the clients they want to serve, market to them based on their specific needs, and then work with their clients to co-create a service experience that is satisfying for both parties!

(Nick Maggiulli | Of Dollars And Data)

Some people readily accept “good enough” in their lives (so-called “satisficers”) while others want to optimize everything they do (“maximizers”). While a satisficer might be satisfied walking down the street in a new city and eating at the first restaurant that looks good, a maximizer is more likely to study Yelp reviews for an hour to find the best option (guilty!).

While neither style is inherently better than the other, Maggiulli is wary of trying to optimize too many things in life. Not only can doing so take up time (as you try to research the best products) and energy (if you try to squeeze as much productivity as possible out of every minute of the day), but it can also lead to regret (“If I had only made a different decision I would be so much happier”!). Of course, getting the “big” decisions, whether it be choosing a spouse or a place to live, is an important driver of happiness, but in a world of inherent uncertainty, worrying about whether you made the optimal decision can be counterproductive.

And as a financial advisor, it can often be tempting to optimize a given client’s financial situation. Whether it’s improving the risk-adjusted returns of a portfolio or adjusting a plan to move the Monte Carlo success rate from 99.5% to 99.6%, there are a never-ending number of ways to optimize a client’s finances. But ultimately, life is not a math equation and an advisor’s best efforts to optimize a plan are subject to changes in the client’s life and the whims of the market. Perhaps the key is to create a plan that helps a client live their best life, accepting that the plan (and the client’s goals?) is not likely to be perfect but recognizing that it can be changed in the future!

(Khe Hy | RadReads)

Everyone has 24 hours each day to use, but each person will have different levels of productivity. To get more out of each day (whether in work or in personal fulfillment), some people look to maximize their time, whether it is through ‘time hacks’ to reduce the time spent on certain tasks, or perhaps creating a hyper-efficient schedule. But Hy suggests that a better approach is to manage your energy rather than your time.

For instance, think about the time you are awake and consider during which of those hours you have the most energy. For some, it might be first thing in the morning when they wake up, while others might have more energy in the afternoons or evenings. By identifying the periods of high energy and using those times for high-impact work, you can apply your energy to the most important tasks during your day (whether work or personal).

Next, you can consider ways of managing your energy. For instance, you can boost your mental energy by prioritizing the different tasks that are in your head and focusing on the highest-leverage items on your to-do list to prevent the lower-priority tasks from sapping your mental energy. One way to increase your emotional energy is to practice emotional regulation, including identifying mental states that can drain your energy, including the scarcity mindset (believing you are one mistake away from catastrophe), the inner critic (negative self-talk), and the envy trap (comparing your greatest shortcomings against others’ top successes). And physical energy can be managed by being more mindful of your eating habits and strategically using physical activity to refresh and boost your energy (perhaps by taking calls as a walk-and-talk).

Ultimately, the key point is that managing your energy can help you make the most out of the limited time you have on a given day. Whether it is scheduling your highest-priority tasks in the hours when you are at peak energy levels or getting outside to restore your energy after a period of deep work, even the smallest steps can help you make the most out of each day!

(Jack Thomas | The Boston Globe)

One of the peculiar quirks of life is that most people do not know when they are going to die. If you knew you were going to die tomorrow, or a month or a year into the future, you might make dramatic changes to your day-to-day life, but in the absence of this knowledge, most people act with the faint knowledge in the back of their minds that they will die at some undetermined point in the future. One exception to this rule, though, is those with terminal illnesses, who might not know the specific day they will pass but recognize that they only have a limited number of months to live.

Thomas held a wide range of jobs for the Boston Globe over the course of a 60-year career, but in his early 80s was diagnosed with terminal cancer (he passed away earlier this month). After his diagnosis, he was full of a range of emotions, from the heartbreak of having to tell the news to his children to the wonder of what might come after his eventual death. More than anything, he was appreciative of all of the memories he collected and the relationships he built during his life, but wished he had more time to create more of them.

So while a terminal diagnosis can be a clarifying moment, such a tragedy is not required to think about how one might make the most of their remaining days. For instance, advisors can use George Kinder’s Life Planning approach to help clients (or themselves) realize what is most important to them. This program has individuals consider what is most important to them by asking three questions concerning how they would live their life if they were forever financially secure, how they would live their life if they only had 5 to 10 years to live, and how they would look back on their life if they only had one day to live. In the end, the key point is that a terminal diagnosis is not necessary to explore your (or your clients’) life priorities; by exploring hypothetical scenarios, you can discover what is most important to you and make changes to better align your daily life with these goals!

We hope you enjoyed the reading! Please leave a comment below to share your thoughts, or make a suggestion of any articles you think we should highlight in a future column!

In the meantime, if you’re interested in more news and information regarding advisor technology, we’d highly recommend checking out Craig Iskowitz’s “Wealth Management Today” blog, as well as Gavin Spitzner’s “Wealth Management Weekly” blog.