Weekend Reading For Financial Planners (March 11-12)

HNW Tax Increases, Expanded Low-And-Middle-Class Credits, Featured In Biden Budget Proposal

(Laura Davison | Bloomberg)

Each year, the president submits a budget proposal outlining their policy priorities in the year ahead. And while it can be a challenge to pass many of the measures when the president’s party controls the House and Senate, it becomes even more difficult when the opposition party controls one or both chambers (which is the case today, as President Biden’s Democratic Party controls the Senate while Republicans control the House of Representatives). Nevertheless, the president’s budget proposal can often set the tone for legislative discussions in the coming year. And President Biden’s latest budget proposal, released Thursday, will give Congress plenty to debate.

The president’s budget includes a range of tax hikes on wealthier and higher-earning Americans to pay for proposed spending programs while reducing the overall budget deficit over the course of the next decade. These include increasing the top marginal tax rate to 39.6% and raising the top long-term capital gains tax rate from 20% to 39.6% for those earning at least $1 million in order to equalize taxation on wage and investment income for high earners. In addition, the 3.8% Net Investment Income Tax would be increased to 5% and would be extended to include pass-through business income (e.g., for S-Corp owners) above $400,000 in an effort to shore up the Medicare Trust Fund. Other proposed measures would limit the amount taxpayers with incomes over $400,000 could hold in Roth IRAs, apply wash sale rules to cryptocurrencies, and eliminate the ability of real estate investors to conduct like-kind exchanges when the deferred gain is worth more than $500,000 for single taxpayers and $1 million for joint taxpayers. Among tax credits proposed in the budget, the one most likely to benefit financial planning clients would be an increase in the Child Tax Credit from $2,000 per child to $3,000 per child for children 6 years and older and to $3,600 for children under age 6 (returning it to the temporary levels in place in 2021).

Advisors might recognize that some of these measures (e.g., increasing the top income and capital gains tax rates) were previously proposed as part of President Biden’s “American Families Plan” tax proposal, released in 2021. Considering that these measures did not pass when Democrats controlled both the House and the Senate, it seems likely that that the proposals will face even stronger headwinds with a Republican-controlled house. Nonetheless, the president’s latest budget proposal can give advisors an idea of the types of proposals that are top of mind for the administration and will likely feature in Congressional debates in the coming year (and perhaps into the future)!

Now Self-Clearing, Altruist Becomes A True Custodian

(Diana Britton | Wealth Management)

The RIA custodial landscape has long been dominated by big players like Charles Schwab and Fidelity, which offer the scale and experience that many RIAs (and their clients) seek. At the same time, a number of smaller custodial options are also available, which typically try to compete with the bigger players by offering features such as better service levels (think wait times on the phone), more targeted niche solutions for particular advisors needs (e.g., better support for options or futures trading, for alternatives, or for international clients), and/or more modern, user-friendly software interfaces.

One custodial platform that has seen significant growth in the past few years is Altruist (which saw assets on the platform grow by 400% in the past year). Thanks in part to it being designed specifically for small-to-mid-sized RIAs who don’t want to buy expensive investment tech on top of their custodial relationship, the absence of asset minimums (which, unlike some larger custodians, allows new and small RIAs to come on board), and its modern interface, Altruist has become an increasingly popular option, particularly among newer firms without legacy ties to the larger custodians (who have little or no repapering to worry about and can simply start from scratch with Altruist). However, until this month, the company was not a ‘true’ custodian, as it could accept trade orders but could not accept the money for the trades nor hold client securities directly (relying on Apex Clearing as its ‘behind-the-scenes’ clearing firm), which limited the types of accounts it could support and the depth of customization it could build for advisors.

But this month, Altruist announced that its own self-clearing platform, Altruist Clearing, has gone live, the final step in becoming a full-service custodian. Like many other custodial platforms, Altruist does not charge RIAs a platform fee for its services, but rather makes money from cash sweeps (i.e., the platform earning a spread between its returns on client cash holdings and the yields clients receive) and payment for order flow (though Altruist CEO Jason Wenk says this is “negligible”). Notably, in addition to traditional custodial services, Altruist offers advisors several software features (e.g., fee-billing and performance reporting) that advisors using larger custodians frequently purchase (for an additional fee) separately from vendors like Orion, Black Diamond, or Tamarac. Another attractive feature for some advisors is that Altruist does not have a direct-to-consumer offering, meaning that advisors on the platform are not competing with the custodian itself for retail clients (or for research and development spending to improve the platform).

Altogether, Altruist’s introduction as a ‘full-service’ RIA custodian not only offers an additional option for new firms, but also those who are ‘fed up’ with their current custodian’s offering. In particular, the timing of Altruist Clearing positions it well to attract firms on the TD Ameritrade platform who still may not be happy about their acquisition by and upcoming transition to Schwab (set to take place over Labor Day weekend later this year). Nevertheless, given that RIA-custodian relationships are often very ‘sticky’ (as the process to change custodians can be time-intensive for advisors and their clients alike, and creates risks for advisors who may be concerned that on-the-fence clients may use the change as an excuse to terminate the advisor by not signing the transition paperwork), it remains to be seen how effective alternative custodial options like Altruist will be at prying away larger firms from their current custodians, with whom they have built established systems, integrations, and long-term relationships!

SEC To Increase Onsite Advisor Exams

(Melanie Waddell | ThinkAdvisor) 

The pandemic shook up many common practices of RIAs, at least temporarily, from moving to remote operations to conducting client meetings virtually. And regulators were no exception, with the Securities and Exchange Commission (SEC)’s Division of Examinations shifting to remote work and primarily conducting its periodic examinations of RIAs remotely. Though in turn, alongside many RIAs returning to in-person operations, the exam division has signaled a shift to a pre-pandemic footing as well.

Earlier this month, Natasha Greiner, deputy director of the SEC’s exam division, said her office has resumed onsite exams, and is likely to significantly increase its onsite presence (as opposed to remote exams) in the next 6 months. Notably, though, this doesn’t necessarily mean that the SEC will be examining more firms overall; in fact, Greiner said the SEC examined approximately 15% of RIAs in 2022, in line with the previous two years (of fully remote exams during the pandemic). However, given that the number of RIAs (which currently number 15,500) and the assets they manage (more than $125 trillion) continue to grow, the SEC requested and received a $210 million funding boost for 2023, which it indicates will be used in part to hire additional staff within the exam division to expand its exam capabilities. Still, though, a 15% examination rate means SEC-registered RIAs will only be visited by the SEC – virtually or onsite – just once every 6-7 years on average.

Ultimately, the key point is that as many RIAs have returned to the office, those that are selected for an SEC examination can anticipate that examiners will be coming to their office rather than conducting exams virtually. And with a wide range of topics on the SEC’s announced examination priority list, from ensuring compliance with its new marketing rule to recommendations regarding certain types of investments (particularly complex products), ensuring that they are in compliance before they receive notice of an examination could make the exam process go much more smoothly!

HSAs Not Used To Full Potential, EBRI Says

(Ben Mattlin | Financial Advisor)

Health Savings Accounts (HSAs) have become increasingly popular among advisors and consumers alike, thanks in part to their ‘triple tax advantage’ (tax-deductible contributions, tax-deferred growth, and tax-free withdrawals for qualified medical expenses), which can make it one of the best tax-preferenced savings vehicles. But a new study from the Employee Benefit Research Institute (EBRI) suggests that those with HSAs are not necessarily taking advantage of all of the possible benefits the accounts offer.

For instance, using a database with information on more than 13 million HSAs, EBRI found that average contributions in 2021 were $4,527 less than the statutory maximum contribution for accountholders with family coverage (which was $7,200 in 2021) and $927 below the maximum for individuals ($3,600 in 2021), limiting the balances accountholders could amass. In addition, only 12% of accountholders invested in assets other than cash, limiting the tax-deferred growth benefits HSAs offer. Also, just over half of accountholders withdrew funds from the account, further limiting the potential for tax-deferred compound growth in their accounts.

These findings present several potential ways for advisors to support clients who have HSAs (or to analyze whether to recommend that a client changes to a health insurance plan that offers an HSA in the first place!), from encouraging them to make the maximum allowed contribution (as long as doing so fits within their broader budget), investing the account balance (to promote tax-deferred growth), and refraining from using the account for current medical expenses (instead perhaps waiting to use the account for medical expenses in retirement if the client has sufficient outside funds to cover current health-related costs). In addition, advisors with clients who are changing jobs (or who have an HSA from an old job) can help them consider potential rollover options, as the fees and investments available from different HSA providers can vary. And for clients who do take significant HSA balances into retirement, advisors can help them and their heirs create a strategy to spend down the assets (because for non-spouse beneficiaries, the accounts lose their HSA status and become taxable to the recipient in the year of the original owner’s death).

In the end, the EBRI research suggests that while HSAs can be an effective tax-planning tool, many consumers are not maximizing their full benefits. Which offers advisors an opportunity to demonstrate their value in the potential tax savings gained by maximizing the use of their HSA!

Get Ready To Resume RMDs From Inherited IRAs In 2023

(John Manganaro | ThinkAdvisor)

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 10 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, among other things, 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 remained in a proposed status, many advisors and clients were left to wonder whether they might be responsible for RMDs on these accounts in 2022 (or even 2021). In late 2022, the IRS provided some clarity by issuing Notice 2022-53, which waived the excise tax (the then-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, but did not clarify the status of the Proposed Regulations for 2023.

While the previously issued IRS Proposed Regulations have yet to be finalized, leaders from life insurance company EquiTrust speaking on a webinar earlier this year said that their understanding is that the IRS will finalize these proposed regulations in the coming months and that applicable beneficiaries will indeed have RMDs for 2023. In the meantime, advisors could prepare for the adoption of the Proposed Regulations by gathering information on which of their clients might need to take RMDs, calculating the size of the RMD, and considering the tax implications of the mandatory distribution.

Though notably, whether or not these beneficiaries will 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 distribution period!

How Rising Interest Rates Can Make (Certain) Trusts Effective Wealth Transfer Tools

(Jeff Stimpson | Financial Advisor)

The rapid rise of interest rates has been one of the major economic storylines of the past year due to their impact on common financial products, from savings vehicles to mortgages. Yet while those products might be making headlines, financial advisors can also consider how rising interest rates affect a range of trusts that act as estate planning vehicles but are sensitive to interest rates when calculating their estate tax savings opportunities.

As in practice, the key valuation or calculation metrics of many trusts used as estate planning vehicles is tied to the “Section 7520” rate (a reference to the section of the Internal Revenue Code under which the rules to calculate it are found), which is tied to the market yield on U.S. government debt. For instance, the current Applicable Federal Rate (AFR) for a mid-term Grantor-Retained Annuity Trust (GRAT) is around 4.6%, up from 2.24% a year ago; as a result, in the past a GRAT ‘only’ had to out-earn 2.24% to allow any additional estate growth to be shifted to beneficiaries, while now the hurdle rate of 4.6% means less growth that can be shifted (and a higher threshold for the strategy to generate any estate tax savings at all). In other words, as rising rates lead to higher hurdle rates, it becomes more difficult for the underlying investments in a GRAT to generate returns that exceed it (as the excess returns are eventually passed to beneficiaries outside of the grantor’s estate), potentially thwarting the intended goal of reducing the size of the grantor’s future taxable estate. Or stated more simply, GRATs are becoming somewhat less appealing as interest rates rise.

At the same time, other estate planning vehicles using trusts (e.g., Qualified Personal Residence Trusts (QPRTs), Charitable Remainder Annuity Trusts (CRATs), and charitable gift annuities) can become more effective in a higher interest rate environment. For example, with a QPRT (which is used to transfer a personal residence to trust beneficiaries while allowing the grantor to live in the residence for a certain term), a higher interest rate results in a greater level of discounting on the remainder interest, reducing the value of the taxable gift and making it a more attractive tool (than if interest rates were lower).

After more than a decade of historically low interest rates, understanding how higher interest rates affect various planning topics can help advisors help advisors craft a more effective financial plan for their clients. And when it comes to trusts used for estate planning and charitable giving purposes, understanding how different vehicles perform when interest rates are higher (where GRATs and Charitable Lead Trusts (CLTs) are worse off, but QPRTs and CRATs could be better) can help them recommend appropriate solutions for their clients in the current environment!

Market Conditions Are Pushing RIAs To M&As, Firm Execs Say

(Karen DeMasters | Financial Advisor)

While RIA Mergers and Acquisitions (M&A) activity has been brisk during the past few years, many industry observers have expected a slowdown amid higher interest rates (which can make it more expensive for acquirers using debt to finance their deals) and a market downturn (which could hinder firm revenues and their available cash for acquisitions). And recent deal flow has borne this out, with data from M&A advisory firm DeVoe & Company showing that the pace of RIA M&A deals slowed in the first two months of 2023 compared to the same period in 2022.

But some industry participants see a rosier picture for RIA M&A in the coming year. For example, Bluespring Wealth Partners President David Canter said that his firm achieved 9 deals last year and has more in the pipeline for the coming year. He noted that firm founders are aging and that they are still able to demand a fair value for their firms, making a potential sale attractive. In addition, as firms continue to offer a broader range of services, smaller firms might seek to link up with larger firms that offer a more robust technology platform and additional back-office services that can provide efficiencies. Further, he cited weak market performance (and the growth challenges it can create) and increased regulatory requirements as factors that could lead firms to seek firms to consolidate or merge.

Ultimately, the key point is that while maintaining the torrid pace of M&A experienced in the past few years might be challenging in the current economic environment, there appears to be continued interest in striking deals that can benefit both the buyer (who gain additional advisor talent and client assets) as well as the seller (who can access liquidity and/or a more robust platform)!

4 Tips To Help Advisors Initiate Succession Planning

(Dan Cupertino | Wealth Management)

For financial advisors, it can sometimes be challenging to get their clients to act on the recommendations they have formulated together. But advisory firm owners themselves are not immune to procrastination either, particularly when it comes to succession planning. Whether they want to delay the work required to create an internal succession plan or prepare the firm for a sale, or perhaps just want to avoid confronting the fact that they are aging, many advisors do not have a succession plan in place (though a recent survey suggests more firms have established succession plans in the past few years).

For firm owners who have not yet established a succession plan, a first step can be to envision what they want their retirement to look like. For instance, a firm owner who wants to focus on leisure might decide on a sale that allows them a clean exit, while one who wants to remain active in their firm (perhaps on a part-time or ‘advisor emeritus’ basis) would want to choose a succession plan that allows them to have a continued role. Next, the advisor can consider the pros and cons of having an internal or external successor. For example, while selling to an outside buyer can be less time consuming (as the owner does not have to take the time to select and groom a successor from within the firm), the owner could end up with less control over what happens to the firm’s culture and how clients are served going forward.

Of course, firm owners do not have to create an execute a succession plan on their own. Whether it is consulting another firm owner who went through a succession or engaging a succession planning coach, a partner can help the owner weigh the potential advantages and disadvantage of different courses of action. Further, a coach with valuation experience can help the firm owner estimate the value of their firm and what changes could boost the value further. Finally, because transitions can be difficult for all parties involved, it is important to communicate clearly the timetable for the succession plan and how it will affect different stakeholders (e.g., what it means for staff members’ job security or how clients will be served going forward).

Ultimately, the key point is that just as having a financial plan can help ensure clients are able to meet their financial and lifestyle goals, having a succession plan can make it more likely that a firm owner will be able to move into retirement on their preferred terms!

Emotional Attachments Can Derail RIA M&A Deals, DeVoe Says

(Joyce Blay | Financial Advisor)

After raising a child for 18 years, it can be hard for parents to let them go off on their own into the world. And for financial advisory firm owners, a similar dynamic can be seen when it comes to creating a succession plan that will end up with them letting go of the business they have spent decades building. Naturally, this can lead to create strong emotions that can complicate the process of creating and executing a succession plan.

With these dynamics in mind, a recent survey of RIA leaders by advisor consulting firm DeVoe & Company and RIA Allworth Financial explored the key issues that are top of mind for firm owners when considering a succession plan. For instance, 23% of RIA owners said they were concerned with selling to the wrong buyer, while 22% of respondents said client care is a top concern (though notably, a desire to ensure that clients continue to receive quality care was a motivator to sell for 42% of those surveyed). In addition, 39% of respondents from firms with less than $1 billion of Assets Under Management (AUM) and 30% of those with more than $1 billion of AUM said they feared giving up control of their firm.

The survey found that 72% of firm principals said they wanted to remain in some sort of leadership or senior advisor role for several years or longer after selling their business. But many of these individuals were nervous about losing autonomy in a variety of scenarios, from becoming an employee and having to report to someone who has final say over running the business the owner founded to having to work different hours or dealing with different processes.

In the end, the decision to sell a firm is one that can bring great rewards for an owner (both financial, and if they can be assured that the firm’s staff and clients will be treated well in the years ahead), but can lead to significant anxiety as well. But by recognizing that it will be an emotional process and planning for the transition in advance, firm owners can smooth the process and increase the likelihood of a successful transition.

Using AI To Help You Write Better

(Joel Bruckenstein | Technology Tools For Today)

Many advisory firms publish blog posts on their website to demonstrate their expertise and the value they can provide their clients. But for some advisors, writing does not come naturally and crafting effective blog posts can be a challenge. While advisors have had a range of options to solve this problem in the past (from having a staff member create the posts to using a content outsourcing solution), recent developments in Artificial Intelligence (AI) have opened new avenues for producing content more efficiently.

One new tool, dubbed Ghostwriter, is a Microsoft Office add-in that allows writers to take advantage of generative AI tool ChatGPT within Microsoft Word. Rather than querying ChatGPT and transferring the results to a document, content can be generated within the document. In addition, the add-in uses AI-powered algorithms to analyze an author’s writing and, among other features, craft better sentences and suggest different ways to express ideas. Together, these features can not only speed the research needed to create an article, but also increase a nervous writer’s confidence in their prose.

Ultimately, the key point is that the evolution of tech-enabled writing assistance has moved well beyond spell check to the creation of content itself. Though, because blogs can be used to demonstrate an advisor’s personality and value proposition, advisors might consider using Ghostwriter or other tools as a way to amplify, rather than replace, their unique voice!

How AI Is Making Advisors More Efficient And Effective

(Dan Solin | Advisor Perspectives)

Advances in technology have led to many predictions of the demise of human financial advisors. From online brokerages that allowed consumers to trade on their own to robo-advisors that could create asset allocations based on an investor’s profile and execute trades and rebalances automatically, while these tools have led advisors to take on new responsibilities (e.g., a focus on comprehensive financial planning rather than just investment management), they have also brought efficiency benefits to advisors as well (e.g., by allowing an advisor to outsource investment management and focus on other planning areas). And now, recent innovations in Artificial Intelligence (AI) have led to new opportunities for advisors.

In his consulting practice, Solin uses several AI-enabled tools that could be leveraged by advisors as well. For instance, Grammarly is an AI-powered tool that reviews text (in documents, emails, and other locations) for grammar, spelling, style, and tone. When it comes to creating content, the much-publicized ChatGPT can be used to generate ideas for titles for content an advisor creates, create article outlines on a given topic, or suggest material for social media posts. Articles can also be enhanced with images created using DALL-E 2, which creates realistic images and art from a natural language prompt. And for advisors who want to create video content, Pictory uses AI to create short, branded videos from longform content that can be posted on a firm’s website or in their social media channels.

Altogether, currently available AI-powered tools can support a variety advisory firm functions, from marketing to creating client emails from advisor notes, and advisors can likely expect further developments on the capabilities of AI to automate back- and middle-office tasks and create space for more meaningful client conversations in the years to come!

10 Ways Financial Advisors Can Use ChatGPT

(Justine Young | Advisorpedia)

Among the many Artificial Intelligence (AI) advances that have been rolled out in the past couple of years, OpenAI’s text-based conversational interaction tool ChatGPT has become one of the most talked about tools. ChatGPT is a language model that can generate human-like text based on a prompt and can complete tasks ranging from composing emails to summarizing and proofreading large blocks of text. And there are several ways in which advisors can use this (currently free) tool to support their marketing efforts.

One potential use of ChatGPT is to help advisors brainstorm blog or podcast topics. For example, a firm could describe its ideal target client and prompt ChatGPT to generate a list of issues that could be discussed on an upcoming podcast episode. Advisors creating blogs can even ask ChatGPT to proofread the entire post and can highlight specific areas to focus on (e.g., ensuring the text conforms with AP style handbook guidelines). And on the opposite end of the spectrum, when consuming content, ChatGPT can save advisors time by summarizing certain articles or books (perhaps leaving the advisor with enough time to be able consume the content on their favorite websites in full, wink wink).

Given that financial advisors are not necessarily marketing specialists themselves, ChatGPT can play a valuable role in drafting social media posts or advertising copy based on a topic or article provided by an advisor. While advisors will likely want to adjust any text to match their desired tone and flow, ChatGPT can speed the process. And at a meta level, ChatGPT can be used to brainstorm marketing ideas given the firm’s goals and target client!

In the end, while a firm might not be able to outsource its marketing program to ChatGPT, the tool can help generate ideas, suggest text, and proofread content to help advisors market more efficiently!

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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.