Weekend Reading for Financial Planners (August 9-10)

Author: Michael Kitces

Team Kitces

Michael Kitces is Head of Planning Strategy at Buckingham Strategic Wealth, which provides an evidence-based approach to private wealth management for near- and current retirees, and Buckingham Strategic Partners, a turnkey wealth management services provider supporting thousands of independent financial advisors through the scaling phase of growth.

In addition, he is a co-founder of the XY Planning Network, AdvicePay, fpPathfinder, and New Planner Recruiting, the former Practitioner Editor of the Journal of Financial Planning, the host of the Financial Advisor Success podcast, and the publisher of the popular financial planning industry blog Nerd’s Eye View through his website Kitces.com, dedicated to advancing knowledge in financial planning. In 2010, Michael was recognized with one of the FPA’s “Heart of Financial Planning” awards for his dedication and work in advancing the profession.

Read all of Michael’s articles here.

Weekend reading for August 9th/10th:

Industry Gears Up for Fiduciary September (Melanie Waddell, ThinkAdvisor) - The Institute for the Fiduciary Standard has dubbed next month to be "Fiduciary September" and, working with TD Ameritrade, has a number of high-profile events scheduled to bring awareness to fiduciary issues and push for more debate and ultimately action on the fiduciary rulemaking currently under consideration by both the SEC and the Department of Labor. The Institute, which includes industry luminaries like Vanguard founder John Bogle, will honor former Commodity Futures Trading Commission chairman Gary Gensler with its "Frankel Fiduciary Prize" at a luncheon at Columbia University on September 19th for his work in protecting the public; the organization will also hold a Fiduciary Leadership Summit in Washington DC on September 15th-17th, and members of the Institute will also be meeting directly with SEC officials in September. The discussions are expected to focus not only on advancing current fiduciary rulemaking under consideration, but to begin exploring how a fiduciary standard for consumers could be advanced by the profession itself if regulators continues to not act.

Financial Planning Programs Face Challenges Amid Rapid Growth (Megan Leonhardt, Wealth Management) - The total number of CFP Board-registered financial planning programs continues to rise, up 13% since 2010, and programs offering bachelor's degrees are rising even faster, up a whopping 40% in the past 4 years (and now comprising 34% of all registered programs). Notwithstanding growth in the number of programs, though, the schools offer the programs themselves report that they're still struggling to get students to enroll, to retain students throughout the program, and to get them to follow-thru with completing the CFP exam. At its Program Directors' conference this week, the CFP Board pledged to take steps to help registered programs on these enrollment, retention, and exam completion challenges. But first, it's necessary to better understand the problems, and accordingly during the next cycle of registered program renewals, the CFP Board will be asking for data on student graduation rates and completion metrics, and intends to work with programs to set realistic targets about how to improve them; the CFP Board also wants programs to encourage students to register with the CFP Board and get an ID number, so that the CFP Board can track in the long run how often students move through to completion of the designation. In other CFP Board news this week, the organization also announced veteran planner Joe Votava will become the 2015 Chairman-Elect, is trying to turn around its lawsuit with the Camardas by compelling them to produce a similarly voluminous series of discovery documents, and is being questioned about whether it is quietly cutting deals with advisors behind the scenes regarding compensation disclosure violations.

Determining the Optimal Fixed Annuity for Retirees: Immediate versus Deferred (David Blanchett, Journal of Financial Planning) - For those who are willing to give up liquidity to maximize guaranteed income for life, the solution has always been relatively straightforward: purchase a lifetime Single Premium Immediate Annuity (SPIA). However, in recent years, annuity companies have begin to offer Deferred Income Annuity (DIA) contracts, also known as longevity annuities, which similarly provide guaranteed income for life but an income stream that doesn't start for years or decades into the future (i.e., the income is deferred). The downside of the DIA approach is that the retiree still has to fill the income gap between now and when the DIA starts; the upside is that it requires far less of an investment into the DIA to get what ultimately is still income for life, because of both the years that income won't be paid, and the opportunity to accrue both interest and mortality credits during the waiting period. Yet with more choices now between SPIAs and DIAs - not to mention whether to include features like inflation-adjustment and death benefit riders - it becomes difficult to determine what is the "best" allocation amongst such contracts. Blanchett analyzes the issue looking at various equity allocations (for the non-annuity portion), the portion of income attributable to Social Security, the withdrawal rate, the inflation and return environment, the risk aversion of the retiree, the desire for leaving an inheritance behind, and adjustments for anticipated life expectancy. The overall conclusion of the results is that nominal SPIAs are often most favorable, although it would only take a small increase in payout rates from DIAs to make them dominant in most situations, suggesting that if pricing for DIAs gets just a little more "competitive" (i.e., payouts improve as more companies offer such contracts and compete for retiree dollars) they may soon deserve far more consideration as a client solution.

States Take Auto IRAs Into Own Hands While Washington Dawdles (Mark Schoeff, Investment News) - This week, both Maryland and Connecticut launched efforts to explore in the coming year or two whether they should begin state programs that would effectively auto-enroll workers in their states into IRAs. The state proposals appear to be a response to the fact that Congress has its own proposed legislation that would establish automatic IRAs for employees of firms that don't offer retirement plans, but after being introduced last year by Rep. Richard Neal (D-Mass) the legislation still only has three co-sponsors and seems to be making little headway. The lack of progress appears to be because Republicans view the legislation as the equivalent of a burdensome government mandate on small employers who would have to facilitate the enrollments. The state alternatives are exploring options like a requirement that employers with at least 5 employees (in Maryland; an Illinois version would have a 25-employee threshold) must establish retirement for employees and automatically enroll them at 3% of compensation, either into a standalone IRA or into a state-administered plan (the Illinois version would be a Roth style account as a default). All the plans would still allow employees to opt out of contributing, but they would be automatically enrolled by default until/unless they opt out.

Understanding Medicare Enrollment Periods (Katy Votava, Journal of Financial Planning) - While the common view is that seniors become eligible for and enroll in Medicare "at age 65", the reality is that there are actually several related and overlapping enrollment periods tied to the various parts of Medicare that have to be considered, especially for those who do not fully enroll the first time. The starting point is the Initial Enrollment Period (IEP), which runs for 6 months from the three months before the individual's 65th birthday until the end of the third month past the birthday. Those eligible for Medicare should generally apply for at least Part A during their IEP; failing to do so can result in delays and even lifelong penalties (10% excess premiums per year for each full year of delayed enrollment) if they later seek out Medicare coverage, unless they covered by a current employer's group health plan, which makes them eligible for a Special Enrollment Period (SEP). The SEP is an 8-month period that begins in the month after employer coverage ends (whenever that may be), providing a transition for those who delayed Medicare due to employer coverage but now need it. For those who skipped the IEP and don't have a SEP, their next option for Medicare is during the "General Enrollment Period" (GEP), which runs from January 1st to March 31st of each year (with coverage becoming effective in July). Notably, the GEP is for Medicare Parts A and B, and enrolling during the GEP actually creates a SEP for someone to also add on Medicare Part D (prescription drug plan) or a Part C Advantage plan (though a premium penalty will still apply for Part D coverage if there was not "creditable" coverage already in place, e.g., from a prior employer). There is an annual Open Enrollment Period (OEP) that still runs every year from October 15th to December 7th, which is actually used not for new enrollments for for those already enrolled who with to make changes to their Part D prescription drug plan, or to add or change their Medicare Advantage plan (in turn, Medicare Advantage also has a "disenrollment" period from January 1st to February 14th of each year to switch back). For those who wish to supplement Medicare with their own Medigap supplemental policy, bear in mind that the Medigap Open Enrollment Period (when Medigap can be purchased without any medical underwriting) is generally a six-month period starting the month the person turns age 65 and enrolls in Medicare Part B; if the Medigap Open Enrollment Period is missed, then a future application for Medigap will be medically underwritten, with any associated underwriting consequences for coverage availability and cost.

North Carolina Bank Starts Christmas Early with Cheap Advisor-Friendly Loans to Fund Acquisitions (Scott Martin, Trust Advisor) - The number of banks that will lend to advisors is the rise; the latest is Live Oak Bank, which announced a few weeks ago that it had financed $100M of advisor loans in just the past 18 months, of which about 40% was used to fund acquisitions and another 22% supported internal succession plans. Historically, the challenge has been that banks like to lend against collateral, and the value in a typical advisory business ultimately boils down to client relationships that theoretically could be terminated at any time, which is not exactly appealing and secure collateral for a lender. Notwithstanding the lack of physical assets, though, advisory businesses are very strong recurring cash flow businesses, which some lenders are comfortable to underwrite and lend against; Live Oak Bank blends together some people from the advisory industry (who know how to evaluate acquisition deals) with those who understand small business banking (and how to evaluate those risks) to arrive at a comfortable solution, looking at the mechanics of an acquisition or succession deal to ensure that it is economically viable.

Breaking Through Your Career-Track Barrier (Caleb Brown, Investment Advisor) - Amongst the growing ranks of employee advisors, an increasingly common problem is hitting the "career track barrier", where often-next-generation associate advisors feel stuck and unable to advance into a full lead advisor role. In some situations the problem is that the associate advisor really lacks the skills to advance, while in others the real issue is that the firm itself is managing the growth improperly (or is just not growing at all). For the young/associate advisor who wants to move up, Brown suggests targeting the "three C's" to advance: Communication (learning to communicate more effectively is critical, not just within the firm, but because in the end the key role of a lead advisor is communicating with clients and getting them to adhere to the plan and stay on board), which can be advanced with anything from courses in counseling and psychology to joining a group like Toastmasters; Competency (if you want to be a lead advisor, you need to be competent enough to handle at least 90% of your client's questions directly), where getting CFP certification is a minimum but getting other post-CFP advanced designations is preferable; and Confidence (it's critical for clients to have confidence in you, but they won't believe in you if you don't believe in yourself!), so keep focus on how improving your communication and competency can also improve your confidence!

Use the Rule of Reciprocity to Gather AUM (Dan Solin, Advisor Perspectives) - Research in psychology has shown that human beings will often go astonishingly far out of their way to repay what they perceive to be a "debt", even when they didn't occur the debt voluntarily; this "rule of reciprocity" has been studied in many contexts, from participants in one experiment who bought twice as many raffle tickets if they were solicited after having been given an unsolicited can of Coke, to Hare Krishnas in the 1960s and 1970s who used to offer flowers to passer-bys on the street and then ask for money, a tactic that was remarkably successful despite the fact that the passer-bys didn't necessarily want the flower, ask for the flower, have any interest in supporting the Hare Krishna faith. Solin suggests that advisors can also use the rule of reciprocity in their own business to attract prospects and convert them into clients; for instance, proactively referring clients out to others can incur an implied debt to reciprocate on the referral, though offering to write letters of recommendation, acting as a reference, sponsoring a club, agreeing to speak at a conference, or giving a charitable donation, are all other examples that can apply the technique (albeit hopefully still in a prudent and ethical manner!).

When Time Runs Out (Liz Skinner, Investment News) - Dan Candura is a financial planner from Massachusetts who, at age 64, thought he had time to spend with his grandchildren, with wife, some hobbies, and to continue his advisory firm and eventually create a continuity plan... until earlier this year when he was diagnosed with prostate cancer, and found out that it was inoperable and that treatment could at best only slow the pace of the cancer's spread. Fortunately Candura's health is still good enough for the time being to continue serving his clients, and work on either making them more self-sufficient or facilitating a continuity plan for those who will need ongoing help, but situations like Candura's highlight what is still a frightening lack of effective continuity plans for most advisors. A recent survey by SEI found only 45% of advisors have a continuity plan, and only about half of those actually have an actual signed, formal agreement executed. And notably, a continuity plan must go beyond "just" a succession plan, as in some cases a founder may die or become disabled before the transition is complete. And a disrupted succession plan - or the lack of a continuity plan altogether - isn't just about the financial loss to the advisory firm; it can leave clients in the lurch as well, who must seek out their own new advisor on short notice, after having anticipated a long-term advisory firm relationship. Candura notes that situations such as his, especially in the absence of a continuity plan, also raise challenging ethical decisions for the advisor as business-owner - should you tell clients, realizing that some may leave (and new ones will likely not join) given a sadly limited time horizon for the advisor, potentially losing revenue for the advisor at a time he/she can ill-afford it?

(Technology) Things That Keep Me Up At Night (Joel Bruckenstein, Financial Advisor Magazine) - Advisor technology guru Joel Bruckenstein is concerned about the state of affairs in the world of advisor technology. Not that we're facing Armageddon or anything, but Bruckenstein is very concerned about the complacency of advisors about their current technology and systems, suggesting that the ongoing 5+ year bull market has taken away the impetus from advisors to improve the technology and efficiency of their businesses, and that few are reinvesting into their business. Of course, in the midst of a bull market when revenues are rising and times are good, advisors may not "need" the upgrades; however, Bruckenstein cautions that when the next market downturn comes, and client calls and service demands jump, a gap may quickly become evident between the firms that invested in systems and technology and were prepared, and those who struggle their inefficient systems and lack of automation. Bruckenstein also laments the current state of software integrations; there are some platforms that have come a long way, including Advisor Xi from Envestnet/Tamarac, Morningstar, and Orion Advisor Services, and the major RIA custodians have improved as well, but in the end Bruckenstein suggests that while software integration for advisors has "never been better", it's still not actually very good. Account aggregation is another pain point, where consumers have services like Mint.com and Personal Capital, but advisors still struggle with their own tools (as Bruckenstein notes that even amongst advisors who do use the account aggregation tools available to them, few are totally happy with the accuracy of the results). These issues can be improved, but Bruckenstein claims that there just isn't enough collective will and cooperation to get it done, whether it's putting pressure on 401(k) and 529 plan providers to give better data for account aggregation, or the establishment of more uniform data standards for the industry. Fortunately, Bruckenstein does think that progress is possible, and actually sites the technology of robo-advisors of evidence of what can be done; say what you want about the service model of robo-advisors to relate to their clients, but there's little question that their technology itself is superior to what most human advisors have. In fact, Bruckenstein points out that there are now a number of technology platforms coming forward that seek to allow advisors to run their practices more like a robo-advisor, including Oranj and Advyzon, and some newer custodians like Folio Institutional are stepping up as well. But perhaps in the end, the biggest sticking point is simply what advisors are willing to pay; when advisors will pay tens of thousands of dollars for portfolio management and trading software, but only $500-$1,500/year for financial planning or CRM software, is it any surprise that the latter tools continue to lag?

When Advisers Charge You to Fire Them (Jason Zweig, Wall Street Journal) - While things like surrender charges and exit fees have long been common on many financial services products, a number of fiduciary advisors are now charging various forms of "termination fees" that may apply to clients who terminate their services as well. In some cases the fees may be fairly modest, like one firm that charges $200 if a client leaves within 90 days; others are far more costly, like a firm that charges a full 1% termination fee for a client that leaves in the first year (on top of their advisory fees already paid). Another trend are advisors requiring clients to give 30-90 days notice before terminating their relationship, ostensibly to allow time to unwind illiquid investments, but in practice it may just be another means to rack up another month or few of fees. Obviously the point of the fee is to induce clients to stay - or at least, to not make a hasty decision to leave - which many simply view as "good business", but there is some concern about whether such an arrangement could itself be a violation of the advisor's fiduciary duties. Unfortunately, the line is currently quite gray; a termination fee isn't automatically a violation of the rules, but a fee that's 'too high' and 'unfairly' penalizes a client for terminating a bad relationship can be, and right now the SEC views each situation based on the individual facts and circumstances (though it appears there's little actual enforcement at all at this point). Nonetheless, even if it's not a violation of fiduciary rules, Zweig suggests that consumers might do more due diligence and ask any advisors who charge termination fees to justify why it's appropriate to do so, especially when recognizing that there are other advisors who do the exact opposite and refund fees for unhappy clients!

Ten Reasons the Advisory Business is Unlike Any Other (Bob Veres, Advisor Perspectives) - A lot of practice management advice for advisors basically boils down to "run it like a business, like any other [good] business" yet Bob Veres points out in this article that there really are a lot of very unique aspects to how advisory firms operate compared to other "normal" businesses. For instance: advisory firms have to be unusually profitable during good years to make up for the bad ones, especially since advisors in practice often have to work hardest in the years they're getting paid the least (e.g., when markets tank, AUM fees are down, and clients are calling); advisors have a unique glimpse into their client's ability to pay when setting their fees (which means we know when clients can afford to pay more, and may be tempted to charge less for those in need, both of which may be inappropriate or dysfunctional and are unlike most other professionals who simply set their fees for the work they do); it's harder to grow when the economy is booming and times are good (because clients are making money and tend to become complacent about whether their advisors are doing a good job or not); we're regularly in a position where the best advice we can give is to tell people to do the exact opposite of what they're doing (as Veres puts it, "advisors are like salmon swimming upstream against a very strong current, except that they never get to the spawning point!"); we have to compete with the general media (people don't skip their doctor to get medical advice from a TV show or a magazine, but advisors face that challenge regularly!); our regulatory structure treats us all like we're potential criminals on the brink; and in the advisory world, the smaller firms are actually taking market share from the large (a beacon of hope for independent advisors!).

I hope you enjoy the reading! Let me know what you think, and if there are any articles you think I should highlight in a future column! And click here to sign up for a delivery of all blog posts from Nerd's Eye View - including Weekend Reading - directly to your email!

In the meantime, if you're interested in more news and information regarding advisor technology I'd highly recommend checking out Bill Winterberg's "FPPad" blog on technology for advisors. You can see below his latest Bits & Bytes weekly video update on the latest tech news and developments, or read "FPPad Bits And Bytes" on his blog!