Weekend Reading for Financial Planners (September 5-6)

Author: Michael Kitces

Team Kitces

Michael Kitces is Head of Planning Strategy at Buckingham Wealth Partners, a turnkey wealth management services provider supporting thousands of independent financial advisors.

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.

Financial Firms Fail To Own Up To Advisers’ Past Misdeeds On New Form CRS (Jason Zweig & Andrea Fuller, Wall Street Journal) – At the end of June, the SEC’s new Regulation Best Interest took effect, along with the newly mandated Form CRS (Customer Relationship Summary) intended to detail crucial information that consumers must know when evaluating financial advisors and who to work with, and intended per SEC Chairman Clayton’s own words to be a “clear and concise” document where “no existing disclosures provide the level of transparency and comparability that the relationship summary will provide”. However, now that Form CRS is out, an analysis by the Wall Street Journal found that out of 8,100 firms reviewed, 3,100 had a legal or disciplinary history that should have been disclosed… and only 1,800 of them actually did so, resulting in 1,300 firms that claimed they had a ‘clean’ regulatory record when they did not (or nearly 20% of the total firms that reported they had a clean history). And in many cases, the disclosure failures were material, including a firm that had misrepresented and improperly disclosed its fees; firms where employees were fined for allegations of forgery, impersonating customers, or selling unsuitable investments; and including 318 employees with not just customer disputes but criminal infractions that weren’t disclosed. In a handful of situations, firms outright disputed their own filings, claiming a clean regulatory record on Form CRS even as their SEC registration documents stated otherwise. Which means ultimately, Form CRS was supposed to be the one centralized document to coalesce and highlight material regulatory disclosures, but instead, over 40% of the firms with such disclosures are failing to do so and/or are outright implying they don’t have any regulatory blemishes instead of Form CRS highlighting that they do. In some cases, firms have insisted that the only ‘disclosable’ events were based on actions that reps took at prior firms, before joining their current firms – and that the current firm therefore shouldn’t be obligated to disclose an incident that didn’t happen on their watch – yet with research showing a high rate of recidivism amongst brokers with problematic regulatory histories, the irony is that such situations are exactly one of the scenarios Form CRS disclosures were intended to make more transparent for consumers. Fortunately, scrutiny from the Wall Street Journal itself is leading many firms to ‘update’ their Form CRS with the correct information… but the question now is whether the SEC will step up enforcement of its own disclosure rules that so many firms apparently aren’t honoring?

Massachusetts Begins Enforcing Its Own Fiduciary Rule Despite Reg BI (Mark Schoeff, Investment News) – This week, the state of Massachusetts began to enforce its new fiduciary advice regulation that would require all financial advisors doing business in Massachusetts, whether operating as an RIA or a broker, to be held to a fiduciary standard regarding their investment recommendations. The move comes just two months after the SEC implemented its own Regulation Best Interest rule to lift standards on brokers, which Massachusetts maintains was not stringent enough given its failure to impose a full fiduciary duty on broker-dealer advice, resulting in their own state rule that heavily conforms to Regulation Best Interest but still imposes a higher, more stringent fiduciary level of accountability. The big question at this point, though, is how exactly the rule will be enforced, and to what extent Massachusetts’ State Secretary Galvin will take regulatory action for fiduciary breaches. However, given that Massachusetts is already known for its aggressive regulatory enforcement, the question is likely not if but simply when Massachusetts will begin to enforce its rule, and what the first cases will be (which will likely be viewed as a signal of where Massachusetts is focusing its fiduciary regulatory efforts first). And with other states including New Jersey and Nevada considering similar measures, Massachusetts has also effectively become a test case for state fiduciary rulemaking that, if successful in enforcement, may become a template for other states in the future… at least, if the industry doesn’t legally challenge the Massachusetts rule and try to kill it first?

DoL Advice Proposal Criticized By Both Sides At Hearing (Mark Schoeff, Investment News) – Earlier this summer, the Department of Labor proposed a new restructuring of its fiduciary advice rules that would, for the first time, allow ERISA fiduciaries of retirement plans to receive commission-based compensation, 12b-1 fees, and other conflicted revenue-sharing payments, as long as the plan fiduciaries have otherwise acted in the best interests of the plan participants. In addition, the new DoL advice rule would reinstate what was previously known as the “five-part” test to determine when someone is an ERISA fiduciary, which had previously been removed in 2015 because it was viewed as being outdated with too many loopholes for fiduciaries to avoid responsibility and was intended to be replaced with the more stringent DoL fiduciary rule and its Best Interest Contract Exemption. Yet when the DoL rule and its BIC exemption was vacated, and the prior five-part test had been removed, the end result has been an even greater void in fiduciary obligation for those working with retirement plans. As a result, this week’s virtual hearing regarding the DoL advice rule proposal specifically highlighted the ways that brokerage firms are writing customer contracts to sidestep their fiduciary obligations when recommending rollovers from ERISA retirement plans… but ironically, while fiduciary advocates are expressing concern that the DoL’s new advice rule would create too many loopholes, industry firms are also opposed to the DoL’s reinstatement of the five-part test for fiduciary status, claiming that in today’s environment it would trigger fiduciary responsibility for too many advisors. In other words, the industry highlighted how the prior removal of the five-part test, plus the loss of the previously proposed fiduciary rule, has resulted in the industry expanding so far into previously fiduciary territory that even reinstating the old rule would cause ‘too many’ of their brokers to have to be held to a fiduciary duty now! Which raises the question of whether the DoL will be able to implement a new rule at all, given that neither the industry nor fiduciary advocates are supporting the current version?

Advisor Advertising Rule Changes Coming In October? (Melanie Waddell, ThinkAdvisor) – After a public comment period back in February this year, the SEC noted in the latest updates to its Regulatory Agenda that it still aims to adopt updates in October to the Advertising and (Anti-)Testimonial Rules 206(4)-1 and 206(4)-3 of the Investment Advisers Act. Of particular note would be a potential elimination of the restriction on testimonials (allowing advisory firms to begin using them at least in limited circumstances); greater flexibility to share and market a firm’s investment performance; and a general overhaul to industry advertising rules that were written before the internet even existed and have struggled to keep pace with the rise of social media, third-party review sites, and the ways that consumers use information online to shop for a financial advisor or any professional services provider today… not to mention the virtual delivery of advice, the shift into advice by large financial services firms, and the emergence of robo-advisors and more self-directed advice tools. As it stands, the primary sticking points are determining the scope of what constitutes ‘advertising’ versus simply digital (non-advertising) client communication, and what are realistic expectations and requirements for compliance oversight and review of (digital) advertising messages. Still, though, the SEC has indicated it’s on track for issuing new rules next month (which ostensibly would take effect in 2021).

8,000 Days Of Retirement: An Entire Phase Of Your Life Waiting To Be Invented (Joseph Coughlin, Investment News) – Historically, the classic definition of retirement was ‘life after work’. But as medical advances improve not just longevity and the age at which we die, but also our ‘productive’ years of an active lifestyle, the retirement phase itself is becoming longer, and a phase in which we are capable of doing more than simply ‘not working’. Coughlin suggests that the best way to think about retirement is as the fourth of a series of 8,000-day life segments. The first 8,000 days – which is about 22 years – takes us from birth to adulthood, when we graduate college and become (hopefully!) productive adults. The second 8,000 days takes us from college graduation to ‘midlife’ (age 44), and the next 8,000 days takes us from midlife to ‘retirement’ (at age 66). And prompts the question: what do you want to do with those next/last 8,000 days? The significance of framing this way – as 8,000 days – is that it’s a lot of days, and helps to emphasize to prospective retirees how much time they’ll really have… and how bored they may get without either a plan or at least a readiness for retirement itself to grow and evolve. After all, ‘play more golf’ may sound appealing as a retirement plan… but probably not if it’s going to be 8,000 days of golf! In fact, 8,000 days can actually be such a big retirement phase to tackle, that Coughlin suggests breaking it down further into four sub-phases: the Honeymoon phase (what you do with the early active years of retirement, which might include more travel, more volunteer work, or even more ‘work’, as the labor force participation rate of those aged 65-74 is projected to hit 30% by 2026); the Big Decision phase, as we transition into our 70s, when work really begins to fade from view, health may be less vibrant, but there’s an opportunity to make or renew social connections (e.g., grandparenting, volunteering, social hobbies), and the big question becomes, “Where will we live, and where will we go every day?”; the Navigating Complexity phase, when health, unfortunately, deteriorates further, and health management itself can become a more full-time job with additional doctor’s appointments, medication management, and rising mobility challenges; and the Solo journey phase, which sadly may entail the death of a spouse, or a fall or stroke that brings about a sudden and drastic change in needs and lifestyle… and thus requires making more of a plan about where Helping Hands (family, hired care, or otherwise) may come from. Of course, not everyone will navigate the stages in the same manner and timeline, and some of them have sad challenges associated that may be tough to think about… yet ultimately, isn’t preparing for such situations what financial planning is really all about?

We Need To Do Better At Predicting The End Of Retirement (David Blanchett, Morningstar) – Talking about the ‘end of retirement’ a bleak and literally morbid topic, but given that the time horizon of retirement is an absolutely essential input to determine what someone can safely spend in retirement and/or how much they need, it still behooves us to try the best we can to estimate when the end of retirement will be. Except as Blanchett shows in his recent white paper on “Estimating ‘The End’ Of Retirement”, it turns out that while in the aggregate we actually are pretty good at estimating life expectancy (i.e., ‘the wisdom of the crowds’ holds up quite well), at the individual level many people are drastically far off in their estimates, where some with health issues who predicted a ‘0% probability’ of surviving to age 75, and others with great health and thought they had a ‘100%’ chance really only have 80% odds. Of course, the reality is that health conditions do vary, and as a result, the planned period of retirement should be personalized – both for individual preferences, and simply factual contextual data points like current health, smoking status, and even income (which is correlated to longevity) – which can easily result in one client having a life expectancy estimate that is 15+ years different from another (and in turn could change required savings to retire by 30%+!). Unfortunately, though, Blanchett found that in evaluating current financial planning software and tens of thousands of plans that advisors have created, 70% of plans all used the same end age of 90, and most of the rest (another 20%) simply all used age 95, suggesting that, in practice, life expectancy estimates are rarely being customized to the client’s situation. Of course, not all advisors necessarily want to put their clients through a lengthy longevity assessment questionnaire, either, but Blanchett suggests a relatively simple model that adds or subtracts for a few key components (e.g., add 5 years to the individual’s straight life expectancy or 8 years to a couple’s life expectancy to be ‘reasonably conservative’), while still adapting to some obvious client circumstances that would clearly dictate a longer or shorter estimate.

How To Create A Retirement Policy Statement (Christine Benz, Morningstar) – For those who start saving early, contribute regularly to retirement accounts, and earn a ‘reasonable’ rate of return, being able to retire is fairly assured… the only question is exactly when it will be, depending on the exact savings amount, the goals, and what market returns turn out to be, and if everything does not go according to plan, the worst case scenario is simply that the retiree retires a little later. Once someone is retired, though, a different set of constraints apply, as ‘just work longer to save/accumulate more’ is no longer an option, and an adverse outcome doesn’t simply delay retirement, it means running out of money in retirement. Accordingly, it’s important to have a plan in place for how to handle whatever uncertainties may arise along the way… which is why Benz suggests that in addition to having an Investment Policy Statement for one’s portfolio, it’s also a good idea to create a Retirement Policy Statement to cover how the rest of retirement may change depending on how the future unfolds. Similar to an Investment Policy Statement, the point of a Retirement Policy Statement is not to specifically dictate exactly what will happen in retirement, but to create a series of policies – in essence, a system – of how to handle whatever retirement throws at you. Thus, Morningstar’s Retirement Policy Statement template covers topics like the intended amount of spending, whether/how inflation adjustments will be taken, in what circumstances the retiree will forgo the inflation adjustment, how retirement cash flows will be generated (e.g., from income-paying investments, selling capital gains, or some combination thereof), how the withdrawal rate/amount will be determined, the guardrails where retirement spending will be adjusted over time, and how RMDs will be handled. At that point, the retiree simply has to follow ‘the policy’ to know how to handle whatever the future sequence of retirement returns turns out to actually be.

Retirement Is A State Of Mind (Ramp Capital) – The dictionary definition of retirement is, “withdrawal from one’s position or occupation or from active working life”, implying that once someone ‘retires’ there is no more work. Yet in practice, there are a number of people who actually enjoy their work, and don’t want to withdraw from it. But does that mean they can/will never ‘retire’? After all, the real point of retirement is not literally about ‘not working’, but simply about the flexibility that comes from not needing to work, and having the freedom to do whatever you want, whenever you want, and without any burden of needing it to generate income. Which means arguably, it’s not really about ‘retirement’ in the first place, but simply having the ‘financial independence’ to be able to retire… and then deciding what you’ll do with the freedom of your time (which may or may not involve continuing to do similar or other work!). On the other hand, in some cases, we stay attached to a job longer than we ‘should’ or need to, because it’s really about our identity (as the expert who does that job), or the community and social dynamics of work. On the other hand, if we don’t need to work for the sake of earnings themselves, and the work still brings us that kind of social and identity fulfillment, perhaps that’s OK too? Because in the end, retirement is really about the state of mind of not needing to work… not whether you actually choose to do so anyway.

We Didn’t Start The FIRE: The True History Of Financial Independence (J.D. Roth, Get Rich Slowly) – While the difficulties of managing money are often framed as a phenomenon of the modern era, the reality is that books have been published on how to manage one’s finances going back hundreds of years, to Benjamin Franklin’s “The Way To Wealth” in 1760. And one of the interesting discoveries in reading financial books of old is that the recent popularity of ‘Financial Independence’ and retiring early isn’t actually so new after all (despite conventional views that the FIRE movement was started with Joe Dominguez and Vicki Robin’s “Your Money Or Your Life” in 1992). In fact, Roth suggests that the first reference to ‘financial independence’ appears to come from Aesop’s fable of the Ants and the Grasshopper (from 560 BCE!), which highlights the importance of saving when times are good for those future times when there is nothing to harvest. By Franklin’s “The Way To Wealth”, it was clearly observed that some people were “so obsessed with nice things… they are reduced to poverty” by overspending. And it was Thoreau who wrote “the cost of a thing is the amount of what I will call life which is required to be exchanged for it, immediately or in the long run”, even further reinforcing the trade-of between working/money and how we spend our time and life. Similarly, in 1864, Edmund Morris published “Ten Acres Enough”, about his family’s move from the city to 10 acres of land in the country to farm a self-sufficient (i.e., financially independent!) life for themselves, and in 1872 H.L. Read published “Money and How To Make It”, which first mentions the idea of “pecuniary independence” (where at the time, ‘pecuniary’ was the alternative word for ‘financial’!). Over the years, other books have emerged as well, including the still-popular “The Richest Man In Babylon”, though many of these books simply advocate building financial stability. In fact, it’s only since the 1950s that the concept of retirement – and an early retirement – really emerged. Which just further reinforces the core that while early retirement and FIRE may be the modern expression, financial management of one’s affairs (including to the point of not needing to work) is actually far more timeless than we give it credit to be.

The Unusual New Hub-And-Spoke Office Design that Deloitte And KPMG Are Exploring (Nate Berg, Fast Company) – While the ongoing pandemic has lead most firms and their workers to remain virtual far longer than anticipated, a recent survey found that 94% of employees still at least want the option to return to a physical office space, and that remote work should augment but not totally replace the traditional office. However, from the business’ perspective… either there’s an office space (with all the rent and other costs), or not, raising the question of what a blended work model of the future might look like. The new idea some big companies are exploring: a hub-and-spoke model. The essence of the model is that a company might still have a downtown/centralized office space (i.e., a hub), but a much smaller one, and then also adopt a complementary ‘spoke’ model with more flexible office spaces in the suburbs. The appeal of the model is that it allows employees who want ‘some’ office time to have a local office to go to, but without the lengthy downtown commute, and without the costly downtown rents. In turn, the rise of software – popular now in co-working spaces – to manage limited office facilities, makes it feasible to schedule the use of smaller spoke office spaces – from shared desks to shared conference rooms – which also makes it feasible for the company to reduce its total office space footprint (and total rent costs). Of course, for smaller businesses – who don’t have enough employees to divide across multiple spoke locations in the first place – ‘office space’ may still consist of a single office and employees otherwise working from home. Still, the point remains that when employees even just partially (but frequently) work from home, ‘office space’ is less about having a space for everyone to work, and more of a shared-space environment for meetings and occasional in-person work, which means a different office infrastructure, new software to manage it, and less of an office space footprint required in the first place.

Tiny Offices Provide Peace And Quiet For Stay-At-Home Workers (Rick West, Daily Herald) – For many workers, ‘work from home’ may be a welcome change to the daily commute and the distractions of the office… but not necessarily an improvement when it simply means substituting in the distractions of home life, especially for parents with children who are now schooling from home as well. As ideally, ‘home office’ space can be segmented from the rest of the living space, providing both a mental delineation for when (and where) we’re working versus living, and also simply to separate out from family distractions. Yet many homes weren’t necessarily purchased or built in anticipation of work-from-home life, and remodeling or expanding the house isn’t always logistically or economically feasible. Enter: Tiny Offices from builders like Bantam’s Tiny Houses. In essence, a “Tiny Office” is a standalone structure – think, like an outdoor shed – designed to be a standalone office space. Capitalizing on the “Tiny House” movement – where people build and move into entire houses than might be 300 square feet or less – companies like Bantam are now building “Tiny Offices” instead as standalone office workspaces in the back yard of someone’s main house. At a cost of ‘just’ $12,500 for an 8-by-12-foot model, Tiny Offices aren’t cheap, but they can actually be far more affordable than a home renovation project. And when built as a standalone structure, are more readily built with ‘modern’ amenities (e.g., premium interior, commercial flooring, heating and air conditioning, LED lighting, big windows, and even radiant floor heat), and are much faster and easier to construct, as Bantam can build an entire Tiny Office in 3-4 days, and then ships it to the buyer! Or alternatively, for those who don’t want a separate workspace… Tiny Offices can also be Tiny Classrooms for children to do their schoolwork, allowing the parents to reclaim their ‘main house’ office space for themselves instead?!

Knowledge Workers Are More Productive From Home (Julian Birkinshaw, Jordan Cohen, & Pawel Stach, Harvard Business Review) – For months of the pandemic’s forced work-from-home environment, the debate has raged about whether work-from-home is actually better or worse for worker productivity, with some studies suggesting ‘yes’ and others ‘no’. But new research suggests that the real answer is ‘It Depends’… on the kind of work being done, and that Knowledge Workers, in particular, may enjoy outsized productivity benefits of the new work-from-home environment. The reason, simply put, is that knowledge workers do their best work when they can focus on their work… which was often difficult in an office-based environment where one study found such workers spending as much as 2/3rds of their time doing deskwork or meetings instead of their best creative knowledge work. In the pandemic work-from-home world, though, office distractions are eliminated, meetings have to be scheduled (not impromptu and disruptive), and in total the researchers find that work-from-home knowledge workers are now spending 12% less time in internal meetings and 9% more time interacting with customers and external partners. while also spending more time on training and development for themselves. In addition, without having in-person co-workers ‘imposing’ obligations on us, work-from-home also affords greater autonomy for knowledge workers, which is also leading to a more positive work environment, with the number of ‘tiresome’ knowledge worker tasks dropping from 27% to 12% during the lockdown. Notably, though, the results weren’t all positive; the recent research did highlight some worries about slackening effort, getting ‘too comfortable’ at home, and the real difficulties that arise in managing (whether managing up, across, or down) in a virtual environment where Zoom meetings just aren’t the same as in-person gatherings. Still, though, the near-term results are clear that knowledge worker autonomy and productivity are improved in the virtual work-from-home world. The question now is simply how to maintain those increasingly-independent knowledge workers in a still-cohesive unit working together to advance the goals of the business?

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

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, and Craig Iskowitz’s “Wealth Management Today” blog as well.