Planning software can clarify client spending habits

Financial plans are the basis of the best client/advisor relationships. Or at least that’s the theory. But we review a lot of client portfolios and seldom find the advisor using an active and consistently updated financial plan.

I regularly teach a course called Retirement 101 and at the end of a recent session, people sat down for some one-on-one counseling session to look at strengths and weaknesses in the plans they were currently using.

Of the thousands who participated in this course, many of whom had good relationships with CFPs, not one brought in a plan a CFP had put in place. In some cases, there was evidence planning had been done at some point, but there were gaps in the update side of the equation.

Why the disparity? My suspicion is many clients have seen all the pages with columns of numbers and graphs that represent their financial plans. But those pages of numbers have lost relevance over time. Our industry prides itself on financial planning and continuing education but doesn’t always deliver the basic goods.

Many advisors use quasi financial planning software to illustrate the need for clients to purchase products. But this use of software as a justification tool is very advisor centric. He or she only needs to get across enough information in make a point about a client need, or to make the sale and move on. And once the sale’s complete, there’s no reason to ever come back to the financial plan.

The other problem is the lack of clear understanding of what a client-centric financial plan should look like. The reason for this, I believe, is that good financial planning software is complex. It takes many hours to learn and master, and it takes many more hours to enter the relevant data for a client. Doing it right is complicated.

The third reason advisors shy away is that financial plans are based on assumptions about the future such as tax rates, inflation and return assumptions. Because none of these factors can be controlled, the output is always proved wrong a few years down the line. As a result, plans can be almost embarrassing to update, especially if the investments performed poorly; and that doesn’t help sell any product.

All this adds up to the perception that financial planning doesn’t make the advisor any money, and that’s exacerbated by the fact that most clients won’t simply write a cheque in exchange for a comprehensive financial plan.

I fundamentally disagree with this. Fulsome financial plans can be the basis of the client relationship and lead to relationships that are very beneficial for both parties. But the advisor must get the client to buy into the process, especially if long-term decisions are being made.

A client-centric approach starts with cash flow modeling. Spend time understanding where the client spends his or her money, and realize this isn’t as simple as looking at the utilitarian monthly expenses. In my experience, most people have very little idea where their money goes and extra spending (car purchases, home renovations, and saving for university) inevitably mucks up the works. By storyboarding people’s lives to display all of the extra spending, you can help them identify where the money is going and build integrity into the process.

But cash flow modeling is only the start, you have to follow up by aligning those learnings with income modeling. You need to be thorough, so make sure the income modeling includes all employment income, raises, bonuses, stock options, government and pension sources with bridge benefits early retirement. A kitchen sink approach is best.

Showing a client how much is coming in, helps him buy into the model and create confidence in the plan. This exercise allows you to focus on a small part of the financial planning software, so the process will be easy to master. Tap into the support systems and training that focuses on this area of the software to climb the learning curve quickly.

This is critically important because it’s very difficult to calculate something as integral as taxes when making future projections. You need good software.

Case in Point

Let’s look at a couple, for simplicity both are 59 and each make $60,000 per year for a combined household income of $120,000. Their approximate 2009 income tax is $25,000 (Depending on RRSP contributions, pension contributions and province of residence).

But in year seven, when they both turn 65, they’ll have a combined income of $61,000 and their tax will be $3,800. That kind of steep income tax drop is not intuitive – the average advisor won’t work it out in his or her head – and on the surface it seems way too low.

But when we factor in the relatively new opportunity to income split RIFF and pension income, pension income tax credits, and age credits, the income tax payout does drop to that incredibly low level.

The other factor that substantially reduces their future income tax payments is the effect of seven years of indexed tax brackets on their future income stream. This simple stroke of the pen will help keep more money in our clients’ pockets than we would imagine. It’s a real paradigm shift, and driving the software properly helped put the savings in front of the clients.

Learning how to drive planning tools is worthwhile, because once the clients buy into the process, any recommendations you make are reasoned and fit their individual situation.

It’s irresponsible at best to communicate anything other than good financial plans, and that includes indexed tax brackets, to the client.

Done properly, the plan is the backbone of the relationship. Of course it the plan’s wrong, it needs to be updated. But updating a financial plan is a much better way to start a client appointment that wallowing in performance of investments we cannot control.