Weekend Reading For Financial Planners (Oct 22-23) 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.

(Tracey Longo | Financial Advisor)

The Setting Every Community Up for Retirement Enhancement (SECURE) Act, passed in December 2019, brought a wide range of changes to the retirement planning landscape, from the death of the ‘stretch’ IRA to raising the age for Required Minimum Distributions (RMDs) to 72, to provisions meant to encourage increased participation in workplace retirement plans. And while the IRS is still working through implementing regulations related to the original SECURE Act, Congress appears to be on track to pass a new set of changes to the retirement landscape, dubbed SECURE Act 2.0, by the end of the year.

According to Washington insider Andy Friedman, SECURE 2.0 has an excellent shot at passing, as there are only minor differences in related bills that have passed the House and Senate. Proposed changes in SECURE 2.0 include: increasing the RMD age from 72 to 75 over the course of the next decade; allowing those aged 62 to 64 to contribute an additional $10,000 to their 401(k) or 403(b) plans, or an additional $5,000 to SIMPLE IRA plans (up from the current ‘catch-up’ contributions of $6,500 and $3,000, respectively), which would be taxed as Roth contributions; allowing employers to make retirement plan matching contributions for employees paying off student loans (who might have a hard time making retirement plan contributions of their own); and allowing taxpayers to make a onetime Qualified Charitable Distribution (QCD) of up to $50,000 (indexed to inflation) from a qualified plan to a charitable remainder trust or charitable gift annuity.

Notably, Congress is also likely to consider separate measures by the end of the year that could have implications for many planning clients. Democrats are seeking to expand the Child Tax Credit (which reverted to $2,000 per child this year after a one-year increase in 2021), while Republicans want to extend certain business-related tax measures, including a tax break for research expenses, a write-off for corporate-debt costs, and a measure allowing companies to deduct all of their capital-expenditure costs in a single year. Some pundits believe it is possible that the two parties will reach a compromise agreement to give each side a win on these proposals.

Ultimately, the key point is that while nothing is ever certain when it comes to Federal legislation, it will be worth keeping an eye on Congress once the House and Senate return to session after the midterm elections, as SECURE 2.0 and other measures could have significant planning implications for advisory firm clients (though perhaps not quite as dramatic as the original SECURE Act?).

(Michael Fischer | ThinkAdvisor)

After several decades of saving and investing, it is only natural that the oldest generations would hold the most wealth, which often makes them attractive clients for financial advisors (particularly those who charge on an assets under management basis). Of course, this doesn’t mean that older generations will hold all of the wealth, and a recent study suggests that younger workers are starting to grow their assets (to the point that they can fit and afford traditional financial advisor business models)… and are open to receiving (and paying for) financial advice.

The wealth of those in the Millennial and Generation Z cohorts (those who were born between 1981-1996 and 1997-2012, respectively), grew 25% in 2201 from $2.9 trillion to $3.6 trillion, according to a study from consulting firm Cerulli Associates, buoyed by Millennials’ investments in retirement accounts and members of Gen Z dipping their toes into the investment waters, often through brokerage platforms. Notably, Cerulli found that while individuals in these cohorts are eager for comprehensive financial advice and are willing to pay for it, they often end up with an ad hoc collection of accounts and relationships that end up falling short of comprehensive advice engagement.

The growing wealth of these younger generations and their interest in advice suggest that the advisory firms that can best meet their specific interests (and ability to pay fees) could be positioned to gain client relationships that could last for decades to come. For established firms used to working with older, wealthier clients, attracting younger clients could mean building knowledge of services important to those in younger generations (e.g., Socially Responsible Investing) and changing fee structures (perhaps reducing asset minimums and/or charging a flat or subscription planning fee). Notably, some technologies and processes currently used with older investors could also be repurposed for younger clients; for example, direct indexing platforms, which have long been used for their tax benefits, could also be used to build portfolios that meet some younger clients’ values-based investment preferences.

With Millennials and Gen Z starting to grow their incomes and build more material levels of wealth, advisory firms can choose to adjust their service offerings and fee models to meet them where they stand today (on a fee-for-service or ‘early AUM’ basis), or perhaps wait for these younger workers to keep aging and continue building their wealth to better fit the firm’s existing (typically AUM) business model and processes. While either choice represents a viable option, the key point is to recognize that today’s 30- and 40-somethings are increasingly in the zone of being able to engage with and pay for the services of a financial advisor… but understanding their preferences and service needs will be an important part of attracting individuals from these generations and retaining them as clients!

(Steve Vernon | Forbes)

Pre-retirees face a daunting list of decisions that will contribute to their relative financial success in their later years, from when to stop working to deciding when to claim Social Security, and these hard choices continue well into retirement, including creating a sustainable retirement income plan and choosing the ‘right’ Medicare plans each year. And while financial advisors can help with many of these tactical decisions, the first step is often helping pre-retirees and retirees envision the lives they would really like to lead as they age.

According to a study by the Stanford Center on Longevity that surveyed and interviewed pre-retirees, retirees, and industry experts, those approaching retirement have a hard time envisioning and planning for longer lives (i.e., they can’t articulate their goals, because they aren’t even really sure what’s possible), suggesting that advisors who can help clients develop a picture of the lives they would like to lead in older age might help motivate them to plan, and plan differently. In addition, while the specific goals of retirees vary widely, the researchers found a near-universal desire for ‘peace of mind’ in retirement as well as a strong interest in having flexibility and control over their lives. While this finding might not come as a surprise to many advisors, it does suggest that framing planning recommendations for clients with these desires in mind could help clients make better decisions regarding their retirement.

The researchers suggest a three-phase framework for advisors to help pre-retirees and retirees identify their goals and make better decisions. The first step is to engage and educate, drawing their attention to the importance of making the decision and motivating them to spend time learning more about their options. This is followed by providing a plan to address the various decisions the clients need to make. And the final step is to enable clients to implement their decisions by addressing, mitigating, or removing any barriers to making each decision. Notably, the researchers highlight that many financial advisors focus on the second step without fully addressing the first and third phases; this can leave clients unmotivated to act if they do not know why they need to take certain steps and frustrated if they encounter barriers to implementing the plan.

Overall, the study emphasizes that, in practice, consumers aren’t always actually clear about what their goals really are in the first place, and may waffle on taking action towards retirement because of this underlying lack of clarity. It also helps to highlight the importance for advisors of relating to clients on an emotional level and motivating them to act in addition to the technical aspects of creating a financial plan. Because doing so cannot only be helpful for clients (who will have a better idea of their goals and why their advisor is recommending certain actions), but also for advisors, who can have better-engaged clients who are more likely to follow through on the advisor’s recommendations!

(Bloomberg News)

The release of September’s inflation data brought good news to many seniors, as it signaled that those receiving Social Security will receive an 8.7% Cost Of Living Adjustment (COLA) to their benefits starting in January. While this boost will help Social Security recipients keep up with rising prices, the increased benefit payouts could have a follow-on effect by pushing 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).

Notably, for those still working, the inflation report also meant that wages subject to the Social Security payroll tax are set to rise almost 9% next year, from $147,000 to $160,200, which will defray some of the cost of the increased benefits. Though because Social Security faces a long-term shortfall, Congressional action will likely be necessary to ensure that the program can continue to pay out full benefits decades into the future.

One option is to raise the payroll tax rate used to fund Social Security benefits. According to an estimate from the Center for Retirement Research at Boston College, a payroll tax increase of 1.7 percentage points for both employees and employers (from the current 6.2% that each side currently pays) would enable everyone to get full benefits for the next 75 years. Another option would be to increase the taxable wage base further, either raising the cap, or, as one Congressional proposal suggests, having the payroll tax kick in again at $400,000. A related option would be to have the taxable wage base include employer-sponsored healthcare insurance premiums, which could reduce the 75-year trust fund deficit by about one-third. Other potential options include raising the full retirement age or trimming benefits for higher-earning retirees.

So while the COLA adjustment will benefit Social Security recipients, it could also serve as an impetus for changes that would help fortify the program’s long-term future. Nonetheless, because the potential changes would likely be politically unpopular (as they either involve raising taxes or cutting benefits) and the depletion of the Social Security trust fund (and the inability of the program to pay full benefits) remains years off, it remains to be seen whether legislators will take action until the situation becomes more dire?

(Mary Beth Franklin | InvestmentNews)

Choosing the right Medicare coverage is an important decision for seniors, but it’s not just a one-time action. The Medicare open enrollment period, which runs from October 15 through December 7 each year, allows Medicare beneficiaries to make a variety of changes to their coverage. Because plan costs and benefits can change each year (along with a beneficiary’s health care needs), reviewing current coverage and making appropriate changes can save Medicare enrollees significant money on premiums and out-of-pocket costs.

For example, those enrolled in ‘original’ Medicare have the option of adding or changing their Medicare Part D prescription coverage. This could be beneficial if the enrollee has added a new medication to their regimen during the current year, as they will want to confirm that it is covered under their Part D plan. Enrollees should have received a Plan Annual Notice Of Change (ANOC) document by September, which includes explanations from the plan about any changes in coverage and costs that will be effective for the following year (and can use Medicare’s plan finder tool to compare other options). In addition, a new change for 2023 will cap the price for a one-month supply of insulin at $35 for those with Part D plans (notably, this new change is not yet reflected in the plan finder tool).

Almost half of Medicare recipients are enrolled in a Medicare Advantage Plan, which bundles their Medicare coverage and usually includes prescription drug coverage and often extra services (e.g., dental and vision) that the original Medicare doesn’t cover. These individuals should also have received an ANOC document by September and can review changes to their current plan, as they have the option of changing to a different Medicare Advantage plan during the open enrollment period. Those on a Medicare Advantage plan also have the option of switching back to the original Medicare, though if they want to add a Medigap plan (that helps cover expenses not covered by Parts A and B), their eligibility and premiums can be subject to an evaluation of their medical history. Those on the original Medicare can choose to switch to a Medicare Advantage plan, though they could face the same restrictions on applying for a Medigap policy if they decide to switch back in the future.

Ultimately, the key point is that while many seniors choose to let their current Medicare coverage renew for the following year, financial advisors can add significant value to their clients during the open enrollment period by helping them review their current coverage and explore whether other plan options might be a better fit given changes to the client’s health and the plans themselves!

(Claire Ballentine | Bloomberg News)

At the end of 2021, Americans faced a dilemma over what to do with their cash; while rising inflation was eating away at their purchasing power, bank savings accounts and similar products were paying paltry rates that lagged well behind rising prices. But the rising inflation rate raised the profile of a product that had been largely neglected during the previous few decades of relatively low inflation: the I Bond.

I Bonds are offered via the Treasury Department, can be purchased through the TreasuryDirect website, and are backed by the U.S. government. What makes I Bonds unique is their interest structure, which consists of a combined “Fixed Rate” and “Inflation Rate” that, together, make a “Composite Rate” – the actual rate of interest that an I Bond will earn over a six-month period. Currently, bonds purchased before November 1 will receive an annualized 9.62% rate for the first six months they are owned, after which they will earn an annualized 6.47% for the subsequent six months. While there are some conditions imposed on those buying I Bonds (e.g., they must be held for at least one year and those who cash them in before five years forfeit the previous three months’ interest), their relatively high interest rate (at least compared to bank savings products, whose rates are slowly climbing in the broader rising interest rate environment) could make them attractive for many individuals.

Another restriction on I Bonds is that individuals can only purchase up to $10,000 of the bonds each year, though there are several ways around this restriction. For example, because the limit applies per tax ID, married spouses could each purchase $10,000 worth of I Bonds and purchase an additional $10,000 worth of I Bonds in each of their children’s names (so that a family of four could purchase $40,000 worth of I Bonds). Individuals can also elect to purchase up to $5,000 worth of I Bonds with their tax refund by filling out Form 8888. In addition, individuals can purchase I Bonds through trusts, corporations, or LLCs they control using the entity’s employer identification number.

In the end, the current rate of return for I Bonds could represent an attractive opportunity for many financial planning clients to help their cash keep pace with inflation and advisors can help them explore ways to purchase more than the $10,000 individual limit. However, given the liquidity restraints and other restrictions on I Bonds, it is important for advisors and their clients to first consider how I Bonds fit within the client’s broader asset allocation and cash management plan!

(Andrew Foerch | Citywire RIA)

For advisors working with pre-retirees and retired clients, creating and managing their retirement income plans is typically an important part of their value proposition. From the timing of claiming Social Security benefits to managing sequence of returns risk, there are many factors to consider. But one potential retirement income solution, annuities, have long been out of favor with advisors at RIAs, in large part due to their (frequent) opacity, (often high) fees, and (sometimes egregious) commissions charged by brokers (not to mention their reduced payout ratios in the low-interest-rate environment in recent years).

But the ongoing growth of RIAs (and the market opportunity it presents for insurance companies), and the potential that regulators could force a broader shift of all advisors towards a (no-commission) fiduciary duty, has in recent years led to a growing number of carriers offering “fee-based” (i.e., no-commission) annuities, in the hopes of appealing to the commission-adverse channel. And given what is still the potential for annuities to help ameliorate longevity risk (the chance that a client will not be able to sustain their spending needs throughout an extended retirement), now with annuity features and benefits that are more favorably priced without the commission layer, and a recent Private Letter Ruling that RIAs can sweep their annuity fees directly from the annuity contract on a pre-tax basis, some advisors appear to be opening up to their potential value for certain clients.

Nonetheless, other advisors continue to balk at annuities, citing the single entity credit and liquidity risk of annuity products as well as the ‘hidden’ charges resulting from the spread between the interest rate the issuing insurance company earns on the invested money and the amount paid out to the annuity purchaser. And while variable annuity products can be attractive to advisors who want to maintain control of ongoing asset management (and potentially receive fees for the service), some advisors are dissuaded by the fees embedded in some of these products, as well as the cost of riders that can be added on to them.

Altogether, while insurance companies and annuity distributors have made progress in making the products more attractive to RIAs, they remain a divisive tool among advisors. But given the growing number of options, recent weak market returns, and rising interest rates (which can increase the payouts offered by annuities), some advisors (and their clients) might choose to give annuities a second look!

(Oisin Breen | RIABiz)

When it comes to developing a retirement income plan for clients, there is no shortage of tools and tactics available for advisors, from portfolio construction strategies to risk-based guardrails to help determine a sustainable spending path. In addition to portfolio-based strategies for generating retirement income, advisors can also consider a client’s ‘guaranteed’ sources of income, which could include Social Security benefits or a defined-benefit pension. Another source of ‘guaranteed’ income, annuities, can also play a role in generating sufficient income to meet clients’ spending needs, though a recent report suggests their benefits for wealthier retirees might be overrated.

According to the report from Morningstar, annuities deliver ‘meaningful’ value to only about 5% of affluent investors and found that if an individual’s wealth is more than 36 times their needed annual retirement income (the difference between their annual expenses and Social Security income), there was little room for an annuity to make a meaningful impact. Part of the reason for this finding is that these individuals typically already have other sources of ‘guaranteed’ income, including Social Security benefits and, sometimes, inflation-adjusted defined-benefit pensions, both of which can protect against market and longevity risk.

At the same time, annuity proponents argue that the products offer benefits that go beyond the mathematical payouts. These can include providing retirees with a sense of security knowing that a greater portion of their expenses is covered by ‘guaranteed’ income sources, as well as giving some retirees who might be reluctant to spend down portfolio assets ‘permission’ to increase their spending within their broader retirement income plan. They also note that Social Security benefits might not be as ‘guaranteed’ as they seem, as Congress could choose to reduce benefits for higher-income individuals to shore up the system.

In the end, the ‘optimal’ retirement income strategy for a given client will vary based on their sources of ‘guaranteed’ income, portfolio assets, spending needs, and legacy wishes, among other factors. In addition, a client’s retirement income preferences will play a key role as well, as some clients might prefer the optionality- and probability-based approach suggested by the Morningstar report, while others might prefer a safety- and commitment-oriented strategy that could be buoyed by annuities. The key point is that it is important for advisors to not only understand their client’s financial situation on paper but also where they stand psychologically as well!

(Michael Fischer | ThinkAdvisor)

Many factors can go into a consumer’s satisfaction with financial products, from the availability and quality of customer service to the returns they receive. And when it comes to more complicated products, such as life insurance policies and annuities, a customer’s understanding of the product and their satisfaction with the issuing company can vary significantly, according to recent research.

According to two studies by research firm J.D. Power, customer satisfaction starts to decline relatively soon after they buy individual life insurance and annuity products. This is in part due to the struggles of insurers to maintain regular contact with customers and reinforce their unique value proposition during the length of the relationship, limiting potential future sales opportunities and opening the door to competition from legacy competitors and newer startups, according to the reports. J.D. Power found that, while customer satisfaction with individual life insurance and annuity plans saw a brief surge during the height of the COVID-19 pandemic, satisfaction has since reverted to its long-term trend.

Overall customer satisfaction for life insurance decreased two points to 774 (on a 1,000-point scale) in 2022, while satisfaction with individual annuities declined 12 points to 789, led by large drops in price satisfaction, product offerings, and communications. Top-rated companies in the life insurance study included State Farm, Global Life, and Mutual of Omaha, while Brighthouse Financial, Transamerica, and Equitable lagged at the bottom of the rankings. American Equity Investment Life, Fidelity & Guaranty Life, and Nationwide led for customer satisfaction among annuity providers, while Athene, Equitable, and Transamerica were the lowest-ranked companies.

While the two studies focused on customer service for life insurance and annuities, it offers lessons for client service for financial advisors as well. These include communicating the advisor’s value proposition, ensuring that clients understand the plan recommendations and the actions being implemented, and maintaining regular communication (and recognizing that different clients are likely to have varying communication preferences). By doing so, advisors can increase the chances that their client relationships will extend well beyond the creation of the initial plan and into a multi-year engagement!

(Khe Hy | RadReads)

Busy professionals face a wide range of responsibilities, from hours spent at work to time spent on cooking, cleaning, childcare, and other tasks. For those with the financial means, it can be tempting to outsource these tasks by paying someone to clean your house, prepare meals, or take on other tasks you might not enjoy. Because not only does this let you avoid taking on chores you do not enjoy, but it can free up time for professional pursuits, which can build your income even more, potentially allowing you to outsource even more tasks. Eventually, this could lead to a situation where you spend almost all of your free time on work, maximizing your income while outsourcing the remaining responsibilities.

While this might seem like an optimal situation for those who enjoy their job (and/or want to make as much money as possible), Hy suggests that the loss of the “everyday-ness” of life could lead to a less rich life where one can only find worthiness through professional achievement. At some point, your life could become just another work project to maximize rather than something to be lived (even if doing so entails some less-pleasant household-related tasks), and you still might not have the time to enjoy the money you have earned!

In the end, while research has shown that using money to ‘buy’ time can increase happiness, the key point is that what you actually do with that time will influence whether outsourcing tasks helps you live a more meaningful life or just an income-maximizing one. So whether you are considering outsourcing tasks in your personal life, or within your firm, it is important to first consider whether you are going to trade the newly created free time for additional work or for experiences that could bring you more meaning and happiness!

(Retire Before Dad)

A common model of the relationship between time and money across one’s life involves three stages: first, when individuals first start their careers they have plenty of time (as they might not have many responsibilities outside of work) but not a lot of money (as their incomes start low and they might be paying off student loan debt); second, in middle age, individuals neither have a lot of free time (as family responsibilities take up many of the hours outside of work) nor a lot of extra money (while their incomes are rising, home- and child-related expenses often increase as well); and finally, in retirement, individuals often have plenty of money (as they can spend the savings they built up during their working years) but their remaining time begins to decline as they near the end of their life.

For the young worker who is flush with time, using it to earn more money might seem like a more important priority, while retirees nearing the end of their lives might be willing to trade some of their money for more time. This suggests there might be a crossover point where time becomes more important than money to a given person. While it is likely to differ based on the individual, such inflection points could be age-related, such as at retirement, or the result of an event, such as a medical scare.

The key, then, is to be in a financial situation at this inflection point so that you have the ability to trade off some of your money for more time to spend on activities that bring you meaning and/or enjoyment. However, the problem many people face is that as their incomes increase over time, so too do their lifestyle expenses (so-called “lifestyle inflation”), limiting their ability to save the money that they could use to ‘buy’ more time later in life.

With this in mind, financial advisors can play an important role in helping clients develop a financial plan that balances this time-money tradeoff. Notably, this can not only include the technical calculations that go into the plan (potentially demonstrating the tradeoffs of lifestyle inflation as the clients’ incomes rise), but also helping clients explore their priorities for their lives (perhaps by using life planning or a similar approach). By doing so, advisors can help clients maximize not only their money, but their time as well!

(Rufus Griscom | Fast Company)

Many people expect their career path to be a steady climb up the proverbial ladder in a single field, starting at the bottom rung, working hard, and eventually reaching the top level of career success and admiration amongst their peers. But careers often don’t take this linear path, leaving many disappointed by the end of their working years that they did not accomplish as much as they might expect.

One reason that careers often don’t progress on an upward trajectory is because of how certain skills and abilities can wax and wane over time. For instance, the British psychologist Raymond Cattell detected a certain kind of intelligence called “fluid intelligence” that can make a person better than their peers in solving problems or completing tasks. The problem, though, is that fluid intelligence peaks in one’s late thirties or early forties, suggesting that one’s ability to produce can decline with age (perhaps frustrating many who find it harder to innovate or operate on the same level as they did when they were younger). But as fluid intelligence wanes, “crystallized intelligence” picks up and increases into one’s seventies. This type of intelligence influences one’s ability to teach others, synthesize ideas, and recognize patterns.

The key, then, is to consider switching positions (or even careers) at this turning point in order to maximize the benefits of crystallized intelligence (and not try to rely on fluid intelligence as it naturally wanes). For instance, the composer Johann Sebastian Bach’s fame started to decline as he reached age 50 (in part due to the fame of his own son!), but he transitioned to a life of teaching, which led to both fulfillment and a wide range of relationships (he also had 20 children?!). So whether you are mid-career or nearing retirement, it’s important to recognize that because your skills and abilities are likely to change over time, you might consider changing the type of work you do as you age to find more success and fulfillment!

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.