Weekend Reading for Financial Planners (Jan 1-2)

Authors:

Ben Henry-Moreland

Team Kitces

Ben Henry-Moreland is a Senior Financial Planning Nerd at Kitces.com, where he specializes in writing and speaking on financial planning topics including tax, practice management, and technology. He also co-authors the monthly Kitces #AdvisorTech column. Drawing from his experience as a financial planner and a solo advisory firm owner, Ben is passionate about fulfilling the site’s mission of making financial advicers better and more successful.

Read more of Ben’s articles here.

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Adam Van Deusen, CFP

Team Kitces

Adam is a 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 local and national non-profits.

Read more of Adam’s articles here.

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Social Security Offices To Remain Closed Indefinitely (Mary Beth Franklin, InvestmentNews) - Prior to March of 2020, local Social Security Administration (SSA) offices were a common resource for individuals to get help with Social Security-related services like applying for retirement benefits or Medicare. As the COVID-19 outbreak forced large parts of the country into lockdown, however, SSA closed its local offices to the public. But despite most businesses and government agencies having re-opened since then, SSA has kept its doors shut, instead focusing on expanding and revamping its online services to make it possible to access most – if not all – Social Security services without the need for an in-person appointment. Among the changes were a redesigned retirement benefits portal, an updated My Social Security account page (including the revamped Social Security benefits statement), and the ability to request a replacement Social Security card online (in most states). In November, however, the media began reporting that SSA would begin to re-open its network of field offices starting on January 3, indicating that in-person services could finally be an option again after nearly two years. But on December 22, SSA reversed course, announcing that the January 3 date had been part of a “draft re-entry plan”, and that the agency currently has no plans to return employees to local offices. Notably, individuals with an urgent need for benefits – such as those without food or shelter – are able to request an in-person appointment, but the vast majority of individuals will need to continue to access services online or via phone for the foreseeable future. Which creates even more opportunities for financial advisors to work with their clients approaching retirement to set up their own online My Social Security account page, and begin to familiarize clients with the process (and check their current online Social Security statements for accuracy!).

Is The SEC Telling Advisors Not To Call Themselves Fiduciaries In Relationship Summaries? (Tracey Longo, Financial Advisor) - For decades, RIAs and broker-dealers were held to two different standards when giving investment advice: While RIAs were held to a “fiduciary” standard, requiring them to act in the best interests of their clients at all times, broker-dealers were merely required to recommend products that were “suitable” (or at least, not unsuitable) for their clients. The SEC’s Regulation Best Interest Rule, released in June of 2019, raised the standards of conduct for broker-dealers, requiring them to act in their customers’ best interests when making a recommendation (while stopping short of imposing a full fiduciary-at-all-times standard on broker-dealers). Additionally, the rule required both RIAs and broker-dealers to create a new Form CRS (Customer Relationship Summary), detailing (among other things) the standard of conduct which applies to them. But despite RIAs and broker-dealers being held to clearly different standards of conduct (since broker-dealers are still allowed to sell investment products and receive conflicted compensation that may not be in their clients’ best interests), the SEC prescribed nearly identical language on Form CRS for both types of firms, which did not include the word “fiduciary”. And even though the SEC initially clarified that RIAs could still refer to their “fiduciary duty” on Form CRS, it later released a Staff Statement specifically targeting the term as “extraneous” language. For some RIA owners, the SEC’s lack of clarity on Form CRS is a sticking point, keeping firms from describing themselves (accurately) as having a fiduciary obligation (which firms have used almost since the birth of the fiduciary obligation itself as a way to differentiate themselves from commission-based financial salespeople). But in reality, the Best Interest standard itself narrows the difference in standards between RIAs and broker-dealers to the point that, in the eyes of consumers, there may not actually be that much distinction between the two anymore. Meaning that, rather than the SEC-mandated language on Form CRS (which, for RIAs, is technically accurate), perhaps the sticking point should be how the SEC defines (and enforces) the rules that allow broker-dealers who also are paid to give investment advice to avoid registering as investment advisors (and therefore being subject to fiduciary duty at all times) in the first place!

Report Projects Wirehouses To Keep Losing Market Share (Jeff Berman, ThinkAdvisor) - According to a new research report by Aite-Novarica, the total amount of client assets across the wealth management industry (including broker-dealers, RIAs, and bank trusts) rose from $15.7 trillion to $37.3 trillion in the decade between 2010 and 2020. But even as the overall size of the wealth management ‘pie’ grew, the ‘slices’ – i.e., the market share of different service models – significantly changed their shape during that time. Most notably, the market share of wirehouse broker-dealers, which started the decade at 33%, fell to less than 26% in 2020—and the report projects the decline to continue over the next five years, estimating a 21.9% market share by 2025. And though the news is not all bad for wirehouses – all four major firms (Morgan Stanley, Merrill Lynch, Wells Fargo, and UBS) have continued to grow their assets in total dollar terms – the firms are continuing to steadily lose advisors to other channels such as independent broker-dealers and RIAs. The report cites the “increased accessibility of independence” as a primary reason for the departure of wirehouse advisors for other channels, with various turnkey platforms available for independent RIAs making for a smoother transition to the advice channel. Interestingly, the report also notes that the shift to remote work in the COVID era has also contributed to the departure of wirehouse advisors, who “reconsidered the value of their [wirehouse] firms’ operational support” once they began working remotely—or in other words, some wirehouse advisors realized that once they began working from home offices, the “support” that the wirehouses provided in exchange for a significant share of the advisor’s revenue was no longer worth what it had been when the advisor was working from a physical branch office!

High-Income Business Owners Escape $10,000 SALT Deduction Cap Using Path Built By States, Trump Administration (Richard Rubin, Wall Street Journal) - The Tax Cut and Jobs Act of 2017 imposed (among many other things) an upper limit of $10,000 on the amount of State and Local Taxes (SALT) that can be taken as itemized deductions on a taxpayer’s Schedule A. But while raising or repealing that cap has been debated ever since and was even included in the Build Back Better legislation (which, for the moment, appears to be going nowhere), owners of closely-held businesses in some states have been able to take advantage of a workaround that effectively removes the SALT deduction limit. The workaround generally functions by allowing owners of pass-through businesses to treat their personal state income taxes as an entity-level business tax (which can be deducted, with no limit, from the business’s Federal taxable income, which makes it pre-tax for the business, while not passing through the income to the individual where it wouldn’t have been deductible). And though the workarounds have been enacted at the state level – having been adopted in about 20 states so far, including New York, California, and Illinois – the strategy was OK’d by the Treasury Department in the final months of the Trump administration (which is ironic, given that the same administration enacted the SALT deduction cap to begin with). But although many business owners have taken advantage of the workaround strategy (and it has been increasingly adopted in states eager to lure new business), the Treasury Department has yet to issue final regulations on the matter, and the Biden administration could prove less receptive to the workaround than its predecessor. For advisors of business owners for whom the workaround could apply, then, it will be important to balance the potential benefits of using it, with the downside that could occur if the current administration decides to reverse course and disallow it after all. Though for the time being, the primary driver of whether the more favorable treatment will be available in 2021 or not is simply whether the business owner lives in a state that has enacted the treatment.

When You’re a Billionaire, Your Hobbies Can Slash Your Tax Bill (Paul Kiel, Jesse Eisinger, and Jeff Ernsthausen, ProPublica) - The IRS’s “hobby loss” rule is, on its face, relatively straightforward: for a taxpayer to be able to claim a loss on their business activities, they must intend for the business to (eventually) make money. If the business turns a profit in at least three of five years (or, in one of my personal favorite tax loopholes, two out of seven years if the business involves training, breeding, or racing horses), the taxpayer does not need to do anything further to prove that their business is genuine. But if the business fails to meet that threshold, it is supposed to be the responsibility of the taxpayer to show that they are truly trying to make money (rather than generate losses solely for tax purposes). ProPublica’s reporting shows that, in defiance of the spirit of the hobby rule, ultra-wealthy individuals commonly use their leisure pursuits (including cattle ranching, real estate, and perhaps most egregiously, horse racing) as vehicles to generate consistent “hobby business” losses—which they can then use to offset their other income and reduce their taxes (in some cases, all the way to zero). And with a variety of strategies that push the limits of tax law – such as taking business losses on private jets and claiming to “materially participate” in far more businesses than is physically possible for one person to do – those individuals rely on the IRS’s well-publicized ineffectiveness at auditing wealthy taxpayers to continue claiming losses that might not hold up under audit. Ultimately, though attempts to claim suspect business losses (and the IRS’s efforts to prevent those losses) are nothing new, the report highlights how hobbies with at least some semblance of economic activity – while still predominantly being ‘just’ a hobby that incurs losses, not income – are still often being claimed as a business for tax purposes, and how the IRS is challenged in figuring out how to better limit the abuse.

The 'Cowboy Cocktail': How Wyoming Became One Of The World's Top Tax Havens (Debbie Cenziper and Will Fitzgibbon, Washington Post) - Earlier this year, the International Consortium of Investigative Journalists released their blockbuster investigation into the Pandora Papers, a trove of millions of pages of leaked documents detailing how many ultra-wealthy individuals and public officials have hidden their wealth via complex business structures and trusts in tax havens around the globe. One of the investigation’s most surprising revelations was the fact that, despite the common conception that tax havens exist primarily offshore, many of the most popular methods of concealing wealth actually take place within the United States itself, either through the purchase of assets like real estate or art, or by taking advantage of the laws of trust-friendly states such as South Dakota or Wyoming to create complex tax shelters. And though the investigation has garnered less attention since its initial announcement in October, it is still ongoing, producing new revelations about the “shadow financial system” that has sheltered billions of dollars of wealth from income and estate taxes. The most recent investigation focuses on the state of Wyoming, where at least a dozen individuals who were identified in the Pandora Papers (and many more who were not identified) took advantage of a unique state law allowing unregulated private businesses to serve as trustee for a trust, essentially enabling those individuals to add enough layers to the trust structure to completely shield any visibility regarding their ownership of the assets within the trust—a strategy dubbed the “Cowboy Cocktail”. The strategy is not the result of an accidental loophole in Wyoming’s laws: Rather, the state legislature intentionally created a trust-friendly ecosystem with the aim of attracting jobs and business, and Wyoming actually advertises itself as a place where wealthy people can stash their assets anonymously (not necessarily for the purposes of tax evasion, but simply for general asset protection purposes). And though state legislators insist that their aim is to protect only ”reputable” clients who use the trusts for bona fide asset protection purposes, and to prosecute any criminal activity (including illegal tax evasion), the reality is that the state’s privacy laws are so ironclad that it is impossible for regulators or law enforcement (or even the state itself) to know who is doing business there—at least until investigations like the Pandora Papers expose them.

Here Comes FinPsych — Time To Learn About Financial Psychology (David Conti, Financial Advisor) - The financial advising industry has evolved from focusing on selling products to clients, to selling advice itself. And the shift towards advice-based planning has increased the importance of understanding exactly what makes each client ‘tick’, to get them to actually implement the advice itself. In recent years, behavioral finance has gained in popularity among financial advisors and the broader financial industry. Using behavioral finance techniques, advisors can understand clients’ biases (e.g., confirmation bias or familiarity bias) that might be negatively affecting their financial decisions, and use nudges, smart heuristics, and behavioral coaching to overcome them. And now, the CFP Board has added a new category, “Psychology of Financial Planning”, that will be integrated into the education requirements for CFP certification, and added to the list of topics appearing on the CFP Exam starting in March. Issues in the new category include knowledge of client and planner attitudes, values, and biases; behavioral finance; sources of money conflict; principles of counseling; general principles of effective communication; and crisis events with severe consequences. Given the increasing emphasis on financial psychology, advisors have many options to incorporate these concepts in their firms. Programs such as George Kinder’s Life Planning and Carol Anderson’s Money Quotient allow advisors to take a more holistic approach with clients to help them maximize their life satisfaction and not just their portfolio value. In addition, a wide range of financial technology tools are available for advisors who want to not only better assess client risk tolerance, but even delve deeper into which clients have the financial psychology makeup to be more likely to be successful wealth accumulators. The key point is that incorporating financial psychology into the financial planning process can lead to better client outcomes by helping ensure clients actually act on the advice they’re given, which matters both financially and in terms of life (and advisor?) satisfaction!

Health Anxiety: The Wealthy And The Growth Of Concierge Medicine (Russ Alan Prince, Private Wealth) - Declines in stock market performance can often lead to worry among financial advisory clients and subsequent frantic calls to their advisors. It’s at these times that clients often appreciate having an advisor ‘on retainer’ to be there to answer their questions and calm their nerves. In addition to ups and downs in financial markets, the pandemic has also brought health concerns to light for many individuals. Previously, while a cough or sore throat might be waved away as being caused by the common cold, some individuals now might worry that it could portend a life-threatening illness. For individuals who want more frequent access to reliable professional medical advice, concierge medicine offers patients the opportunity to receive enhanced care and attention (compared to standard primary care physicians) in exchange for an annual retainer fee. This care often comes along with a reduced patient load for the physicians, allowing for greater familiarity with each patient’s background and needs. And just as financial advisors can help their clients overcome financial stress and anxiety by creating a ‘safe’ place for clients to discuss their concerns, working with a concierge medical practice can help individuals reduce their health anxiety (and the physical manifestations of the anxiety itself!). Ultimately, having an advisor (or doctor) who is intimately familiar with a client’s needs and on call when needed is a source of ongoing value to clients and, like concierge doctors, advisors who take a high-touch approach with clients can set their fees to match the level of service offered!

What You’re Really Worried About When You’re Worried About Money (Arthur Brooks, The Atlantic) - Money is a source of worry for Americans across the income and wealth spectrum. In fact, one survey found that even during the pandemic, more than half of workers said that money was the issue that caused them the most stress (health was the fourth most popular choice, behind money, employment and relationships). And while those with limited incomes do have to worry whether they will have sufficient resources to cover their basic needs, those with enough income or wealth to cover their basic needs worry about money as well, with a separate survey showing that half of Millennials and more than a third of Baby Boomers with a net worth greater than $1 million feared losing their wealth. Part of the problem might be that, of Abraham Maslow’s Hierarchy of Needs, money can only help with the first level of needs, including food, shelter, and safety. The higher-level needs — including love, belonging, self-actualization, and transcendence — cannot be bought with money. In fact, working more to earn more money can even backfire by reducing the amount of time an individual takes to pursue these higher-level needs (which is why using money to buy time can be one of the best ways to improve one’s happiness!). And so, for financial advisors, considering this hierarchy (and what it means for client income and spending needs) can improve the financial planning process and decrease client anxiety. Also, for advisors themselves, while advisor happiness tends to increase on average alongside income, it also tends to decrease with the number of hours worked each week. This suggests that improving the efficiency of an advisory firm (and not just growing revenue for its own sake) can not only provide the income level to meet basic needs, but also the time to develop relationships and pursue self-fulfillment for the advisors themselves!

The Pandemic Has Made Most People Richer (Ben Carlson, A Wealth Of Common Sense) - While some observers might have suspected that a pandemic and the related economic disruption would have reduced the wealth held by Americans, it turns out the opposite has occurred. According to Federal Reserve Data through the end of September, the net worth of American households has increased from $110 trillion to $137 trillion since the start of the pandemic. Given the strong performance of the stock market and other risk assets during this period, it is not surprising that the top 1% of wealth holders (who predominantly hold these assets) have seen their net worth soar by 30%. What might be more surprising is that wealth of the bottom 50% of wealth holders has increased 74% during this period, a larger percentage increase than any other wealth group (perhaps thanks in part to government stimulus payments, expanded tax credits, and a tightening labor market). Which means the pandemic has actually benefitted the wealth of the majority of the population (the top 1% and the bottom 50%). However, while those in the 50%-99% bracket of wealth holders have also seen their wealth increase in absolute terms (by about 20%) during the pandemic, their share of national wealth has decreased in relative terms compared to the other two groups. In fact, looking in the longer term, this cohort of middle- and upper-middle class Americans made up 37% of the country’s wealth in 2003, but now holds under 28% of the total. And with many financial planning clients likely falling into this group, some might feel as though they are falling behind others, even though their wealth is increasing in absolute terms, which could lead to them wanting to take more risk or bringing ‘hot’ investment ideas to boost their returns. For advisors with these clients, helping clients craft a financial purpose statement can help to aid them in considering why they are growing their assets in the first place! The key point, though, is that while much attention has been paid to the rising wealth of the top 1%, the bottom 50% have indirectly ‘benefitted’ from the government response to the pandemic as well… though for the broad middle class, rising wealth partially masks a declining share of relative wealth that may still add stress, especially in a rising inflationary environment!

Why Are So Many Knowledge Workers Quitting? (Cal Newport, The New Yorker) - The pandemic has changed the way many Americans work, from the dramatic increase in remote work to the more recent “Great Resignation”, where workers across the white- and blue-collar spectrum have decided to leave their current employers. And while some have moved to other jobs, others have decided to downsize their work lives or leave the workplace altogether. On the other hand, there is a long history of leading a ‘simpler’ life –from Henry David Thoreau’s Walden to the modern Financial Independence, Retire Early (FIRE) movement – and the pandemic appears to have contributed to an increase in workers making this transition. With in-person socializing and international travel more limited, some workers have been able to spend less, and have come to the realization that perhaps driving themselves in the workplace for increasing pay (and the things that they can buy with that money) is no longer worth the tradeoff of the time they could be spending with their family or on other endeavors. Of course, it is unclear whether this shift will be permanent, or whether workers will return to their normal ways once the full range of activities and spending opportunities open back up in a post-pandemic world. Similarly, for advisors themselves, while the financial advice business is both personally and financially rewarding, advisors and firm owners could see their options change in the new environment. Some advisors might decide that they want to have more control over their time and start their own firm, while others might look for ways to create a profitable ‘lifestyle practice’ that fits their financial and personal needs. Firm owners concerned that their employee advisors or staff might leave the firm could consider reevaluating their compensation model as well as the benefits and perks that they offer in order to improve employee retention (though they could also stand to benefit from individuals looking to make a career change into a rewarding industry like financial planning as well!). The key point is that while the pandemic has disrupted working life in the United States, it has also provided employees (and their managers!) an opportunity to reevaluate what they want their work lives to look like going forward.

Omicron Is The Beginning Of The End (Yascha Mounk, The Atlantic) - The COVID-19 pandemic has touched the lives of every American in some way. From those who fell ill, to those whose jobs were put into flux, to parents who had to navigate the world of at-home schooling, the pandemic has caused many challenges. The arrival of vaccines earlier in 2021 brought hope to weary Americans that the pandemic could be in its last throes, but the arrival of new variants (and non-universal uptake of the vaccines) has led the effects of COVID to continue throughout the year. Most recently, the Omicron variant has led to skyrocketing case counts in many parts of the country, but the national reaction is very different to what occurred in early 2020. Whether it is due to the protection against severe disease offered by vaccines, or early indications that the symptoms of Omicron might be milder than previous variants, many Americans appear to have little appetite for making major lifestyle changes to slow the spread of Omicron. And while a future, more severe variant could change the minds of the broader public, it appears that daily life for many could soon become more like 2019 than 2020, even amid a rapid spread of COVID cases. Of course, some changes brought on by the pandemic could stick around, such as the increase in remote work. And for financial advisors specifically, many clients (who might be at higher risk of complications from COVID due to their above-average age), might want to continue holding meetings remotely, creating an incentive for advisors to seek ways to enhance client intimacy in the virtual environment. Which means while many Americans might be acting like the pandemic is ‘over’, its effects are almost certain to linger well into the future! Nonetheless, as Americans show less willingness to change behavior in response to each new wave of variants, it appears that, whether COVID is ‘gone’ or not, society is advancing towards a ‘post-pandemic’ lifestyle.

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.