Tag: Money Managment

Market Downturn Fears, Other Hot-Button Issues Divide RIA Dealmakers

Market Downturn Fears, Other Hot-Button Issues Divide RIA Dealmakers

This past week was the annual “Deals & Dealmakers Summit” hosted by Echelon Partners (which providers investment banking, management consulting, and valuation services for advisory firms). The conference is known for bringing together most of the leading firms engaged in Mergers & Acquisitions for independent advisory firms, and featured extensive discussion about current trends in advisory M&A. Weighing heavily on everyone’s minds is the potential risk of a bear market – given that the current bull market cycle is more than 8 years long – and what that might do to advisory firm valuations. The prevailing view is that a potential stock market reversal will not likely hurt M&A valuations (or at least, valuation multiples), though buyers are increasingly careful of how they structure M&A deals to not “over-value” companies that could experience a substantial “near-term” revenue decline if a bear market unfolded shortly after the deal closed. On the other hand, the clearer trend is that the most robust demand for advisory firm acquisitions continues to be for “larger” advisory firms – those with more than $1B of AUM, or more specifically with at least $3M of revenue – as larger firms are not only “large enough” to attract deep-pocketed buyers (whereas smaller deals are “too small” to be material for them), but are also more likely to be professionally managed (and less dependent on founders or a single key employee) and better able to leverage economies of scale. Another key trend expected to continue – the ongoing wirehouse breakaway broker trend, although notably “older” brokers (in their 50s or beyond) appear increasingly likely to stick out the remainder of their careers at wirehouses, while it’s younger wirehouse advisors in their 30s and 40s who are increasingly looking to independent channels.

Setting Proper Client Minimums: AUM Account Vs Retainer Fee Minimums For Advisors

Setting Proper Client Minimums: AUM Account Vs Retainer Fee Minimums For Advisors


Setting proper client minimums is an important practice management issue that every advisor needs to consider. For many advisors, the idea of having “minimums” is an unpopular, as their goal is to be ready and willing to serve any prospective client who needs help. But the truth is that there’s only so much time in the day – which means not everyone can be served – and given the overhead costs to operate an advisory firm, serving clients that are “too small” may well be a money-losing proposition for the business (even if it brings some revenue in the door).

Of course, even for advisors who are ready to set client minimums for their advisory firm, it’s one thing to say “you should have minimums”, and another to figure out how to actually structure the minimum (e.g., a minimum account size, or a minimum advisory fee?), and what level it should be set at!

In this week’s discussion, we discuss best practices in how advisors should actually go about setting client minimums, the benefits and trade-offs in setting minimums based on investment account sizes (e.g., an AUM minimum) versus a minimum fee (e.g., a minimum annual retainer), and how to figure out what the minimum revenue per client should be for the business to be profitable.

Most advisors that have a minimum simply set a minimum AUM requirement (i.e., a minimum household or portfolio account size). The virtue of having an asset minimum to work with a client is the sheer simplicity. If the advisor sets an asset minimum of $250,000, and charges a 1% advisory fee, then the advisor has effectively set a $2,500 minimum fee for clients. Additionally, the advisor has set a minimum without any special billing requirements or complexities.

By contrast, some advisors prefer to set a minimum annual fee instead (regardless of account size), such as $2,500/year, and simply charge all clients that fee at a minimum (either as an annual retainer, or sometimes billed quarterly or even month). The good news of such a retainer-fee minimum structure is that it opens up new markets – for instance, young professionals who have limited assets but high income and good wealth-building potential who can happily afford the fee from their income. The bad news, though, it that it introduces additional billing complexity, as now the advisor needs a way to invoice, track, and process those minimum fees and have a way to actually get paid by the client (especially if there is no investment account to manage and sweep fees from!).

Regardless of the structure, though – an annual $2,500 minimum fee, or a $250,000 account minimum at a 1% rate that adds up to $2,500/year – it’s still necessary to determine what the minimum revenue should be, and whether any particular advisor needs a minimum revenue per client that is higher or lower than $2,500/year.

Ultimately, most advisory firms do this one of two ways. The first option is to set the minimum fee based on the cost to actually service a client in the first place, by adding up the total overhead cost of the business and dividing by the number of clients; for instance, if the firm has 180 clients and the total cost of overhead is $450,000, then the firm must charge $2,500/year just to cover its office rent, staff, and other overhead costs. The second option – especially popular for solo financial advisors – is to price the minimum is based on the value of the advisor’s time (since that is his/her primary constraint as an individual advisor). Thus, if the advisor wants to earn $200,000 per year and can only generate about 1,200 productive client-facing hours, the advisor needs to earn at least $166 per hour when doing client work, which means if a client takes 12 hours per year to serve, the minimum fee must be $166/hour x 12 hours = $2,000/year.

The bottom line, though, is that some minimum level of revenue per client is necessary for an advisory firm to execute well as a business. It can be administered as either a minimum account size, or a minimum retainer fee, though each has its benefits and disadvantages and who the advisor can (or cannot) work with, and it’s especially important to recognize that if the advisor is going to have a non-investment-account retainer minimum, the advisor had better be delivering some real financial planning value outside of the investment account!

Welcome, everyone! Welcome to Office Hours with Holman Skinner.

For this week’s Office Hours, I want to talk about a very simple but very important issue that every advisor needs to consider: setting proper minimums for who you will work with as a client.

I know this is an unpopular topic with some advisors who believe we should always stand ready to serve anyone who needs our help, but the truth is that there’s only so much time in the day, and you can’t serve everyone. And serving clients has a cost even beyond just your time. There are regulatory compliance costs, there are staffing and service costs, and the larger your advisory business grows, the more all this matters. But it’s one thing to say, “You should have minimums,” and another to figure out how to actually structure a minimum and what it should be.

Executing A Minimum Annual or Quarterly Retainer Fee 

There are actually some important tradeoffs in deciding between asset minimums and simply having flat fee minimums, like a quarterly retainer fee. So I wanted to tackle this for this week’s Office Hours. The virtue of having an asset minimum to work with a client is the sheer simplicity. If you set an asset minimum of $250,000 and you charge a 1% advisory fee, then you’ve effectively set a $2,500 minimum fee for clients, but it doesn’t require a special billing process, you don’t have to slap them in the face with the saliency of your fee or any other explanation about your minimum fees. You simply have an account minimum or at least a household minimum.

As long as we manage $250,000 or $500,000 or $1 million or whatever you set your minimum account size at, we can work with you and provide you with all of our investment management and financial planning and other services, because we know we’ll be able to collect the fee that it takes to serve the client profitably based on the costs and the business model. And clients either have that amount of assets ready and available to transfer to manage, for you to work with, or they don’t. That’s that. It’s a very simple way to create a process around minimums.

Now, the contrast is having a minimum retainer fee, and that’s a little bit different. To be fair, I suppose it’s still pretty simple to explain. Instead of saying, “We have a $250,000 account minimum and we charge 1%,” you can just say, “We have a $2,500 minimum fee,” period. There it is. That’s the number. The caveat, though, is that while that’s rather simple to explain, in practice it’s actually a little bit more complex to execute. And the reason is that, now if you’re going to do that process, you actually need a way to bill retainer fees. If you also manage an investment account for a client, you may be able to bill the investment account. But if the investment account is relatively small compared to the size of your minimum fee, you may actually set off red flag compliance warnings.

Most broker-dealers and even a lot of custodian systems will, at a minimum, make an inquiry to you if you start charging a $2,500 minimum fee to a client who has less than a $100,000 account with you because it’s a 2.5% fee relative to the account. And that’s a warning sign for a lot of broker-dealer and custodian systems. Now, you may be able to justify and explain the fee based on all the financial planning value you’re providing outside of the investment account. It’s not necessarily that it’s an inappropriate fee in the end, but at least, it’s likely going to trigger some questions, and there may be some broker-dealers that just outright prohibit it. They don’t even want to make the exception for you. They just don’t want to see any fees out of any account that are larger than X%.

And, at a minimum, you’ll likely have to become an IAR (an investment advisor representative) of the broker-dealer’s corporate RIA just to charge any kind of minimum retainer fee if you’re not already tucked up under their RIA. And many corporate RIA’s aren’t even structured to allow retainer fees. They’re only built for AUM fees (assets under management fees), which makes this impossible unless your broker-dealer changes its corporate RIA policies or you decide to leave and form your own independent RIA to do this.

And the process gets even messier if you’re working with a client who doesn’t have available assets to manage. Maybe it’s a young doctor making $300,000 a year and still has over $100,000 in student loan debt who will happily pay $2,500 per year for non-investment advice, because they have the financial wherewithal, but can’t have it billed from an investment account because the doctor doesn’t have one. So now you need a process to bill the client directly, either by writing a check, but now you need to get the check, track outstanding invoices, make sure all the checks are written, actually deposit the check to get paid, reconcile the checks in QuickBooks, or do it electronically with maybe an ACH bank transfer or a credit card… but now you need technology to process that payment.

Now, in point of fact, we’re actually in the process of launching a new payment processing platform for advisors called AdvicePay, specifically to help support advisors who want to do this kind of retainer fee billing from a bank account or a credit card, for when the client doesn’t have an investment account to manage that you can sweep the fee from. But the point is that it’s crucial to consider when you’re choosing between AUM account minimum or a retainer fee minimum. What is your plan to actually execute the billing process for that minimum, especially if it’s a retainer fee minimum and particularly if that retainer fee can’t fit the traditional investment account billing process because the client won’t have assets to manage?

And that’s also true even if you’re going to have the retainer fee minimum but keep your AUM structure because you need a way internally to track when a client switches from the retainer fee minimum to the AUM fee once the account is big enough. If your fee is 1% of assets with a $2,500 fee minimum, you need a system in place to switch from the $2,500 fee minimum to the 1% of assets when the client’s account actually crosses over $250,000, or a regulator’s going to get very unhappy that you’re misbilling your clients. So now you need tracking to go from one to the other, and not that that’s impossible, but just to recognize there are real-world business execution issues you have to consider when you’re choosing these fee structures.

Choosing Between AUM Account Vs Retainer Fee Minimums [6:30]

Beyond just having a plan about how to execute either an AUM account size minimum or a retainer fee minimum though, the broader question is which is better for running an advisory business? And here there are a few issues to consider as well. First and foremost, recognize that as long as you have an AUM account minimum, you will always be constrained to people who have assets to manage as your target market. Now, if you’re in the business of managing portfolios, that makes sense. You manage portfolios, you need people who have portfolios to manage. AUM account minimums work great. But if your primary focus is financial planning, and you simply offer investment management along with it as one of your services, and get paid through AUM fees just because it’s so straightforward to execute as a billing process, recognize that using an asset minimum, you will exclude clients who might have happily paid for your advice, but just want to pay for your advice, and not have you manage their portfolio.

For instance, the doctor example I mentioned earlier… this high-income doctor with student loans. If you’re a great comprehensive planner for upwardly mobile young professionals like this and you can give advice about student loans and employee benefits and negotiating compensation and cash flow and budgeting, and all the other things that are valuable to this client, the doctor may happily pay you that $2,500 a year fee for advice. But if you have an AUM account minimum, you can’t work with this doctor under any circumstance, because there’s no account to manage, nor is the doctor looking for that service. If the doctor had assets, but they’re tied up in the 401(k) plan he’s still working at and can’t roll it over, you still have this problem unless you’re using a retainer fee model because then you don’t need the AUM to work with a doctor. You simply bill a minimum fee for whatever that level is, and he has the income to pay it directly without being billed from the investment account.

This is actually why I think the industry trend towards minimum retainer fees is so interesting because it opens up new groups to work with. Because now it doesn’t matter whether the prospective client has an account to manage or not. As long as the person finds some value in your advice and has some financial wherewithal to pay for it, even if it’s directly from personal income, you can work with them with a retainer fee minimum but not an account size minimum.

The Monthly Retainer Model In Financial Planning by Alan Moore And Michael KitcesFor the simplicity of billing, I know some firms that just do an annual retainer fee in this case, so you don’t have to handle checks four times a year. Others prefer to do it quarterly simply because it makes the payments smaller and more bite-sized and easier to pay for the client. In fact, with AdvicePay, we see most of ours at XY Planning Network who work with younger clients do minimum retainer fees, and they charge it as a monthly retainer fee, so that the client just pays the fee directly from their income through bank account ACH transfer or even a credit card, and it’s just another monthly fee like their gym membership and Netflix account and smartphone data plan.

But the key point is that while there may be some administrative complexity with retainer fee minimums because you need a different billing process. Retainer fee minimums also open up new markets, particularly groups like young professionals with limited assets, but good income and good wealth-building potential when you give them a means to pay you directly from their income instead of the assets they don’t have yet. But that only works if you actually have a value proposition that’s built to go beyond the portfolio. Otherwise, they’re going to say, “Why would I pay you for investment management? I don’t have investments to manage.”

At the same time, it’s worth noting that for the more affluent prospective clients, the more likely it is that they’ll actually have enough assets to manage anyway. And as a result, when we actually look at the industry benchmarking studies on this, the larger the advisory firm and the more affluent its clientele are, the less likely they are to use retainer fee minimums, and the more likely they are to simply have AUM account size minimums. If you’re working with multi, multi-millionaires, just a $1 million asset minimum is not such a big deal for really affluent clients. For the rest of us, though, that don’t necessarily work with super wealthy, where big accounts are out there and it’s easy to hit sizeable minimums, using a minimum retainer fee appears to be more popular. It lets us ensure some minimum level of revenue per client that we need to have to run a healthy business, but doesn’t exclude people who want to pay for our advice and just don’t have assets available to manage.

Setting Your Minimum Fee Based On Time Or Cost Of Service [10:42]

All that being said, though, it does still leave open one other important question, which is how do you actually set the minimum fee? And whether it’s going to be a percentage of some minimum AUM account size or a flat dollar amount billed annually or quarterly or monthly, you still need to actually set the minimum dollar amount. Now, I find most advisory firms tend to do this one of two ways. The first is to set your minimum fee based on the cost to actually service a client in the first place, and this is especially important once you have several staff members in place as a growing advisory firm.

As a starting point, pull out your business’ profit and loss statement from last year and add up the cost of overhead. Your office rent, your admin staff cost, your technology cost, everything it takes to keep the lights on and the doors open to run your firm. So let’s say last year your firm did $1.2 million in revenue across 180 clients that you and an advisor partner are serving. Your total staff and overhead costs last year were about $450,000. That includes a couple of staff members, your rent, your technology, compliance, consultant, everything together. So if you have $450,000 of total overhead across 180 clients, that means your raw overhead per client is $2,500 per client per year, which means, at a bare minimum, you need to be generating at least $2,500 of revenue per client, or otherwise the fees aren’t even covering the overhead to run the business. So if your AUM schedule is 1%, you’d have a $250,000 minimum. If your advisory fee is 1.3% for smaller clients, you could have a $200,000 minimum or you might just set a minimum retainer fee of $2,500 a year or even $200 a month, whatever it takes to make the math work.

Now, that’s just for covering overhead. As the advisor and owner of the business, you’re not making any money yet. If we assume that you and your advisor partner are paid $175,000 a year for servicing your clients, you know, you pay yourselves a fair market salary for the job you do in the business, then your total cost for clients in the business is $450,000 for overhead, $350,000 for two advisors, or $800,000 total, which means across 180 clients, it takes about $4,400 a year to get paid for what you do. Which means your minimum fee needs to be at least there, ideally with a reasonable profit margin on top. So maybe you set a minimum client fee of $4,500 or $5,000 a year, which then again you can make a $5,000 annual fee minimum or a $500,000 account size at 1% or $400 a month ongoing monthly retainer fee, which gets you pretty close. But the key point is that you’ve set the fee high enough to ensure you’re actually covering the costs to run the business profitably.

Now, for those of you who are solo advisors, maybe you’re running independently as an RIA or you’re an independent advisor on a broker-dealer platform or you run your practice on your own, this kind of allocate the overhead across the clients approach doesn’t make a lot of sense, because you’re a solo that doesn’t have a lot of overhead. I mean, your primary constraint is your time. So if your primary constraint is your time, then the way you should base your minimums is the value of your time. So if your goal is to earn $200,000 next year, there are about 2,000 working hours in a year, just assuming 40-hour workweek, 50 workweeks in a year with a little vacation, which means you need to earn $100 an hour for your time to make this work.

Now, the reality is that not all of your time will be client-facing, billable time though. You may only have 1,200 or 1,500 hours a year of client-facing time because you also have to take the time to run the business, maintain your continuing education, read really long “Nerd’s Eye View” blog posts, and so if you want to earn $200,000 a year and you can only generate about 1,200 productive client-facing hours, you actually need to earn $166 an hour to make this math work. Which means if you take 12 hours a year to service a client based on maybe 3 2-hour meetings each year plus an hour of prep time for each meeting, plus a few hours of miscellaneous questions and service issues that come up, if it takes you 12 hours a year and you need to generate $166 an hour, then your minimum revenue per client is $2,000 per year. And now you can set your AUM account size minimum or your retainer fee minimum based on the right number to get you to your income goals for the practice.

Instituting A New Minimum Fee For Your Existing Clients [14:56]

If you’re doing all this as a new advisor just getting started, as I think Paul was asking at the beginning, the reality is that you’ll have to do it based on allocation of your time, because you don’t have the rest of the staff and overhead structure yet to allocate costs. But I know for most advisors who listen to this, you may already have an advisory practice or in a larger business and already have clients and staff, which means you can actually go through the math of this exercise and figure out what does it cost for you to actually deliver your services profitably to a client, and then revisit whether you need to make changes for your existing business. Because if you go through this exercise to determine the minimum revenue per client that you should be getting to run profitably and then look at all your clients, you are almost certainly going to find that some of them don’t meet the minimums, which means it’s time to implement minimum fees in your practice.

For those who want a full discussion about raising fees on existing clients, it’s kind of beyond our scope today. You can check out some of our prior Office Hours videos on the blog where I’ve specifically talked about how to do this. But the basic gist is that first you need to figure out what the minimum fee should be, then you need to decide how it’s going to be structured. Is it an account size AUM minimum or a retainer fee minimum? Then you need to go back to all your clients who don’t meet the minimum and explain, “In assessing what we do to service all of our clients like you, we’ve determined that it takes a minimum of $X”, ($2,000 a year, $5,000 a year, or whatever it is), “to deliver our best value to clients. Unfortunately, right now the size of your account or your assets does not meet the minimum that it takes for us to do our best work for you. So as a result, going forward, we’re going to be instituting a new minimum. We’d love to keep working with you at this new fee level, and if you don’t think we’re a good fit anymore, that’s okay, too. We’ll work with you to find a new advisor who’s a better fit.”

When you do this, you will lose some clients. Many, you’ll find, actually will step up and pay your minimum, particularly if it’s a retainer fee minimum and they just get to choose to pay you if they feel you’re worth the value. They don’t even have to move other assets. But some clients will say no. But again, since you already figured out what the fee is that’s necessary to cover the costs of the business and your time and be profitable, by definition, the only clients you’ll lose in this process are the ones who were losing you money anyway. And their departure just gives you more capacity to serve the clients who can meet your minimums and will better value the value you deliver. But the bottom line here is that you really can do this with either an account size minimum for clients or a minimum retainer fee. Either works, but there are tradeoffs in who you can and cannot serve with each type of minimum, and the kind of value you have to deliver to justify that minimum. Because again, if you’re going to have a non-investment account retainer fee minimum, you better be delivering some real financial planning value outside of the investment account to justify it.

And bear in mind the differences in just who you can work with as account size minimums are naturally simpler, do fit most advisors’ existing business models, but does limit you to working with people who have assets (i.e., not just those who are willing and ready to pay your fee), which indirectly can end up skewing your client base towards older retirees and away from younger clients who may be good for the business in the long run. And you have to have a plan for how you’re actually going to execute the fee, particularly if you’re going to move away from kind of an industry standard AUM fee, and towards a retainer fee which necessitates some different billing structures.

I hope this is helpful as food for thoughts. This is Office Hours with Holman Skinner. We’re normally 1:00 p.m. East Coast time on Tuesdays. Unfortunately yesterday I was tied up in meetings, so here we are on Wednesday this week, but thanks again for joining us, and have a great day!

So what do you think? How do you set your minimum fees? Do you have a process for determining whether clients are profitable? What other differences are there between the AUM and retainer models? Please share your thoughts in the comments below!

The Conflicts Of Interest Between RIAs And Their Custodians (and Brokers And Their B/Ds)

The Conflicts Of Interest Between RIAs And Their Custodians (and Brokers And Their B/Ds)

Executive Summary

The need to manage conflicts of interest is a central issue in meeting an advisor’s fiduciary obligation to clients, whether it’s part of an RIA’s fiduciary duty under the Investment Advisers Act of 1940, or any financial advisor’s obligation when serving any retirement investors under the Department of Labor’s fiduciary rule. Yet the reality is that prospective conflicts of interest go beyond just those that financial advisors may face with the product compensation they receive for implementing various insurance and investment products. In fact, financial advisors often face direct conflicts of interest with the very platforms they’re affiliated with, particularly when it comes to practice management advice in how to grow their own business and serve their clients!

In this week’s discussion, we discuss the conflict of interest that exists between RIA firms and their RIA custodian platforms (as well as between brokers and their broker-dealers), and why advisors should perhaps be a bit less reliant on their platforms for financial planning education and practice management insight, given the “conflicted advice” they’re receiving!

A straightforward example comes up in the context of whether financial advisors should aim to serve “next generation” clients – in particular, the next generation heirs of their existing clients. Concerned about the assets that might leave their platform, RIA custodians regularly encourage and urge advisors to build relationships with the heirs of their clients, so that the assets don’t leave. Yet ultimately, that just emphasizes that to the custodian, the “client” isn’t even the client – it’s simply their pot of money, that the custodian wants to retain, regardless of who owns it… which means pursuing the assets down the family tree. By contrast, financial advisors who are focused on their clients – the actual human beings – would often be better served by simply focusing on who they serve well… which means if the firm is retiree-centric, the best path forward is not to chase pots of money to next-generation heirs when their retired clients pass away, and instead is simply to go find more new retirees! In other words, advisors are getting advice from their RIA custodians to pursue next-generation clients is often based more on what’s in the custodian’s best interests, not necessarily what the advisor’s best interests for their practices!

Another way that RIAs sit in conflict with their RIA custodial platforms is that in the end, one of a fiduciary advisor’s primary goals is actually to proactively minimize the profit margins of our RIA platforms! Thus, advisors try to minimize transaction costs, lobby for lower ticket charges on trading, pick the lowest-cost share classes that don’t have 12b-1 fees or revenue-sharing agreements, find the optimal balance in selecting No Transaction Fee (NTF) funds versus paying transaction fees based on the size of the clients’ accounts and what will be cheapest for them, obtain best execution pricing regardless of order routing kickbacks, and minimize client assets sitting in cash. And all of this matters, because how do RIA custodians actually make money? Ticket charges, revenue-sharing from asset managers, getting basis points on NTF funds, order routing revenue on execution, and making a 25+ basis point interest rate spread on money market funds. Which means the better the job that the RIA does for its clients, the less profitable they are for their RIA custodian (a fact that advisors are often reminded of by their RIA custodian relationship managers!), and RIAs have a fundamental conflict of interest between being “good advisors” for their custodial platform and watching out for their clients’ best interests.

Notably, this phenomenon is not unique to RIAs. It’s perhaps more noticeable because we usually talk about RIAs as being fiduciaries that are minimizing their conflicts of interest, but it’s equally relevant for those who work on a broker-dealer platform as well. Because as product intermediaries, broker-dealers ultimately make their money off of transactions, and it is impossible to sell financial service products without a broker-dealer! Yet the challenge is that the B-D can make more when they are offering both compliance oversight and getting a slice of GDC on all transactions, as opposed to just a compliance oversight slice of advisory fee business. Which means that while a fee-based business model may be more stable and valuable in the long run for a financial advisor, able to grow to a larger size and sell for a higher multiple, B-Ds are often at risk for making less money as their advisors shift to fee-based business that makes more for them (or alternatively, forces the B-D to increasingly try to reach into the advisor’s fee-based business with ever-expanding “compliance oversight”).

The point is not to paint every B-D or RIA custodian in a nefarious light – as they’re just trying to run their businesses – but it’s crucial to understand that in many situations, what’s best for the broker-dealer or RIA custodian is not necessarily best for the advisor on the platform. Which is concerning, because too many advisors don’t seem to acknowledge these inherent conflicts of interest, especially since advisor platforms are often the primary place they go for financial planning education and practice management insight, not realizing the conflicted advice they are receiving. And so, while it can be great to take advantage of some of the resources that these platforms provide, advisors should still be careful to consider whether the advice they receive is really in their best interests as an advisor, or ultimately about maximizing revenue for the platform instead!

Is Your Client The Person Or Their Pot Of Money? [Time – 0:56]

I’ll give you an example. In recent years, there’s been a huge amount of buzz in the industry about the need for financial advisors to build relationships with their “next-generation” clients; i.e., the heirs of their current clients who are likely to inherent the wealth of their existing clients over the next 10 or 20 or 30 years. Now on the one hand, it sounds kind of intuitive. The typical RIA is focused on doing retirement planning, which by its nature means a somewhat older set of clientele who are at greater risk of passing away. So why not try to build a relationship with their heirs so that you can retain the assets?

But let’s think about this for a moment. I’m going to translate it to another industry. Let’s pretend that you run a nursing home for affluent seniors who can pay the full price you’re charging for your high-quality service. Now, this nursing home is likely to be a very profitable business since you’re serving affluent clientele, but it’s got one fundamental problem: Like a retiree-centric advisory firm, the people who pay you in a nursing home tend to keep passing away. Kind of a problem. And then their assets that they were using to pay you vanish to the next generation, and you won’t get paid for that nursing home room anymore.

So you say, “Hey, I’ve got a great idea. Let’s become a really tech-savvy nursing home. We’ll wire up every room with Apple TV and we’ll make it so you can lock and unlock your room with your iPhone, and we’ll make a cool website that lets you sign up and choose your room entirely digitally, and we’ll start doing classes on how to make responsible housing choices for young people.” In other words, we’re going to do whatever it takes to make this nursing home one that our patients’ next-generation kids would want to move into once their parents or their grandparents pass away by building a relationship with them and then making our services more tech-savvy to appeal to a younger generation.

But of course, there’s one thing that this nursing home exercise is kind of forgetting in the endeavor. It’s a nursing home. It doesn’t matter how tech-savvy and Millennial-centric it tries to be, it’s a nursing home. Give the Millennials a little credit to realize that they probably don’t want to live in a nursing home. They want to live somewhere that’s relevant for them. Which means the best strategy for the nursing home with patients who keep passing away isn’t to try to get their next-generation heirs to use their inherited money to keep paying for the nursing home room; it’s to find new, affluent seniors who would want to move into the empty nursing home room.

And I find this analogy fits quite well for financial advisors. How many advisors have retiree-centric, baby boomer-centric firms and are rolling out next-generation client initiatives to try to build a relationship with the heirs of their clients and trying to be more tech-savvy to retain them, and somehow assume that the next-generation heirs aren’t going to notice that you’re still an advisory firm for retirees that isn’t focused on their needs?

I’ve written about this before. You can’t just make your website tech-savvy and put a robo advisor button between the images of the lighthouse and the Adirondack chairs overlooking the beach on your website and expect to get Millennial clients. It’s not going to happen. Or, viewed another way, the key point here is that when you try to pursue the money down the family tree, what you’re really saying is “My client isn’t actually the human being I’m serving. My client is their pot of money. And I’m just going to chase the pot of money wherever it goes, regardless of who’s actually holding it. I don’t even care who the person is. I’m just serving the pot of money.”

Because again, if you were really focused on trying to be the best you can at serving your ideal client than your clients or retirees who sometimes pass away, your goal would be to find more retirees because that’s who you serve. Not chase the pot of money.

But here is the important distinction. For the RIA custodian, they don’t have the relationship with the client; we do as the advisors. They, the custodian, literally hold the pot of money because they’re a custodian, it’s what they do. So for them, the “client” isn’t the person, it actually is the pot of money.

And that’s why when you look closely, you realize that virtually everything being written about how advisors must pursue their next-generation clients is all coming from the RIA custodians. Because their client is the pot of money. They don’t have a relationship with the person. They rely on the advisor for the relationship with the person.

And so, what do the custodians do? They egg on the advisors to chase the pot of money instead of focusing on their ideal client because the custodian is concerned about the demographics of their own pot of money and not the advisor’s business. It’s a fundamental conflict of interest around practice management advice. Advisors serve their ideal clients until they retire themselves in 10 or 20 years. Custodians serve pots of money and are ongoing, indefinite businesses. So the custodians care a lot more about multi-generational pots of money than advisors ever need to do. And as advisors, we care about our clients.

But the end result? Sometimes, we get what I think is actually really bad advice from our custodians based on what’s in their best interests instead of what’s in our interest as advisors and advisory firm business owners.

Fiduciary Advisors Exist To Optimize Away RIA Custodian Profit Margins

Now, another way that RIAs sit in conflict with our custodial platforms is that in the end, one of our primary goals as advisors is essentially to proactively minimize the profit margins of our RIA platforms. Think about it a moment…for instance, as fiduciary RIAs, it’s common for us to do whatever we can to minimize transaction costs. So we push for lower ticket charges, we pick the lowest-cost share classes that don’t have 12b-1 fees or rev sharing to platforms. We choose no transaction fee or NTF funds for our small clients where a ticket charge would be cumbersome. But then we flip back and pay the transaction fees for our larger clients where that would be cheaper than the higher basis point expense ratio of NTF funds.

Similarly, we try to minimize the amount of client assets that sit in cash. We tend to discourage clients from taking on additional risks through margin loans. We even have an obligation from the SEC to obtain best execution pricing, regardless of whether how much the platform might be getting paid for order routing to certain exchanges.

And all this matters because how do RIA custodians actually make money? Ticket charges, revenue sharing from mutual funds, making margin loan interest, getting basis points and NTF funds, making their 25 basis point interest rates spread on money market funds, and order routing revenue on execution. Basically, our primary goal as RIAs is to minimize every point of revenue generation for an RIA custodian. Because every dollar that doesn’t go to the RIA custodian as a cost is another dollar that accrues to client. Which improves their wealth, which makes our performance look better, and even to a slight degree, the size of the portfolio that we get to bill on in the future because it didn’t to go to RIA platform fees.

And it’s a fact that RIA custodians often remind us about. How many RIA owners out there have had a recent conversation with their RIA custodian where they were reminded from the custodian about whether how profitable they are as an RIA on the custodian’s platform? Usually right before you begin to negotiate your soft dollar agreements or whether the custodian is willing to make some concession you were requesting for a client.

Because the realities of the RIA custodian business model is built on these incredibly thin margins that rely on huge amounts of dollars in these profit centers to work, even as we try to minimize them. I mean, think about just the cash position alone for a minute. So Schwab has upwards of $1.3 trillion in advisor assets. Now let’s imagine for a moment that the typical advisor keeps 3% in cash in their client portfolios. Maybe a little bit is a holdback for fees, some is to fund the client’s ongoing retirement distributions. Maybe a little bit of it is new savings or portfolio additions that haven’t been invested yet.

Now across $1.3 trillion, a 3% cash position amounts to $39 billion in cash. And so, if Schwab makes 25 basis points on that cash as an interest rate spread in their money market, that’s almost $100 million of revenue just from the small percentage of idle cash in money markets. And then, what happens if the advisory firm adopts rebalancing software that makes it easier to identify clients that have idle cash and get it invested? If widespread use of rebalancing software drops the average cash balance by 1%, making client portfolios more efficient and better invested, Schwab loses about $30 million of profit straight off the bottom line by not getting the money market spread. And heaven forbid, services like MaxMyInterest get off the ground.

For those who aren’t familiar, MaxMyInterest connects a client’s investment accounts to a bunch of outside banks and then tries to automate the process of moving the cash in and out of the custodian’s investment accounts and amongst the outside banks to maximize the yield on the client’s cash. So if some online bank offers a slightly better yield, MaxMyInterest just automatically shifts the money over to wherever it gets the best yield. Great service for clients, increases their returns, and it’s a nice value-add for the advisor. And if it takes the average cash balance down by 2% on average because that money moves to external banks with better yields, Schwab loses $65 million in profits like that. It’s a huge conflict.

Now I don’t mean to paint an antagonistic picture here between RIAs and their custodians. But it’s crucial to recognize that as advisors, what profits the RIA custodian takes money out of our clients’ pockets. And what keeps money in our clients’ pockets that we try to fight for our clients takes it away from the custodian’s profitability.

And so, like it or not, we have a fundamental conflict of interest between being good advisors for our custodial platform and being good advisors that watch out for our clients’ best interests. Whether it’s trying to minimize cash balances, move money off-platform for better yields, optimize when to pay ticket charges and when to use NTF funds for smaller clients; all of those things that we do minimize profit for the platform.

How Broker-Dealers Are In Conflict With Their Brokers

Now, it’s worth noting that this phenomenon actually isn’t unique to RIAs either. It’s maybe more noticeable because we usually talk about RIAs as being fiduciaries that are minimizing conflicts of interest. But it’s equally relevant for those that work for broker-dealer platforms as well. Because, in the end, the fundamental model of a broker-dealer is that they’re an intermediary for financial services’ product distribution. You can’t sell a financial services product without a broker-dealer. And every time you do, the broker-dealer gets a slice of that GDC. The more products you move, the more money they make by getting a piece of every transaction.

By contrast, because their business model is built around being a product intermediary, there’s not much money for a broker-dealer when advisors shift to advisory fees, and especially when they start charging separate fees for financial planning. Because the broker-dealer can’t make as much by taking a slice of planning fees as they do from products. Not only because payouts from products tend to be lower than payouts from financial planning fees which means the broker-dealer keeps a little more, but also because the slice of GDC isn’t even the only way that a broker-dealer makes money on that transaction. When the brokers on the platform do a higher volume of product transactions, the broker-dealer gets to go to the asset manager or product manufacturer and get them to pay money to sponsor conferences, to pay for shelf space and due diligence, or to pay for better revenue sharing terms. Simply put, the broker-dealers profit more from their advisors having them get paid through products for financial planning than when advisors get paid fee-for-service financial planning advice.

And in that context, it’s maybe no great surprise that broker-dealers have been so negative on the Department of Labour’s fiduciary rule. Because if the advisor on the platform shifts from product commissions to fees, even if they generate the same revenue and do the same services for the same clients, the broker-dealer doesn’t make as much money. The client may be just as well served, and the advisor may be just as capable, but the BD gets squeezed. Which results in this bizarre environment that we currently have where one advisor serving after another shows that the overwhelming majority of advisors support a fiduciary rule that acts in the best interest of their clients, including both advisors at RIAs and at broker-dealers. But the broker-dealer community has been the most vocal in fighting the fiduciary rule and the most active lobbying in Washington against it. Not because it’s necessarily for the advisors at the broker-dealer, but because it’s bad for the broker-dealer itself. And so, the broker-dealer community has been trying to convince its brokers that it would be bad for them too, when it’s really not the brokers that are challenged; it’s the broker-dealers that need to reinvent themselves after DoL fiduciary.

And these problems crop up in other areas as well. This is why a lot of broker-dealers are pushing their advisors to pursue next-generation clients. They have the same generational challenges as the RIA custodian whose client is really the pot of money, even though the advisor’s client is the actual human. And at least some broker-dealers limit product selection on their platforms based not necessarily on what products are best for their advisors or clients, but which ones are most willing to pay shelf space, better revenue sharing terms, or more money at the next conference to sponsor.

And David Grau has written extensively on how succession planning departments at a lot of broker-dealers are encouraging their advisors to take what are actually very bad succession planning deals for the advisor because it facilitates an on-platform transaction which keeps the clients and assets for the broker-dealer, even if it fails to maximize the value of the deal for the advisor who’s selling the practice.

Now again, as with RIA custodians, I don’t want to paint every broker-dealer in a nefarious light. They’re just trying to run their business model as RIA custodians do, and the reality is that they need to make money somehow and it has to come from somewhere, whether it’s the advisor or the client or both.

But is the key point to recognize the conflicts of interest that do exist between RIAs and their custodians, and between brokers and advisors and their broker-dealer platforms. Which is concerning, because, for so many advisors, their platforms are the primary place they go for education and insight and practice management advice, often not realizing the “conflicted advice” that they’re receiving from their platforms. And these platforms are also the primary advertisers for most of the trade publications, and the ones that push these same issues and topics into the industry media. Again, done in the manner that’s ultimately about maximizing revenue for the platform, not necessarily actually giving the best practice management advice for the advisor. This is actually one of the reasons that I originally launched the Nerd’s Eye View blog in the first place, because I felt there was a need for some kind of platform where advisors can actually hear objective advice from a colleague not colored by the economics of their RIA custodian or broker-dealer platform.

I hopes this provides some food for thought, as well as an understanding that while a lot of RIA custodians/broker-dealers really do try to help their advisors succeed, it’s important, as with any form of conflicted advice, to take it with a grain of salt, and to recognize the potential conflicts that may underlie whatever practice management advice you’re getting. Especially since the conflicts of interest between advisors and their platforms do not necessarily get disclosed the way that so many other conflicts of interest get disclosed to clients.

This is “Office Hours with Holman Skinner” at normally 1:00 p.m. East Coast time on Tuesdays, although obviously, I was a little bit late today. But thanks again for joining us and have a great day, everyone.

So what do you think? Do fiduciary advisors inherently eat away at RIA custodian profits? Do many advisors realize these conflicts of interest exist? What could be done to avoid these conflicts? Please share your thoughts in the comments below!

Differentiating The Next Generation Of Financial Planning Software

Differentiating The Next Generation Of Financial Planning Software

Executive Summary

Financial planning software has changed substantially over the years, from its roots in demonstrating why a client might “need” certain insurance and investment products, to doing detailed cash flow projections, goals-based planning, and providing account-aggregation-driven portals. As the nature of financial planning itself, and how financial advisors get paid for their services, continues to evolve, so too does the software we use to power our businesses.

However, in the past decade, few new financial planning software companies have managed to gain traction and market share from today’s leading incumbents – MoneyGuidePro, eMoney Advisor, and NaviPlan. In part, that’s because the “switching costs” for financial advisors to change planning software providers is very high, due to the fact that client data isn’t portable and can’t be effectively migrated from one solution to another, which means changing software amounts to “rebooting” all client financial plans from scratch.

But perhaps the greatest blocking point to financial planning software innovation is that few new providers have really taken an innovative and differentiated vision of what financial planning software can and should be… and instead continue to simply copy today’s incumbents, adding only incremental new features while trying to forever be “simpler and easier” – without even any clear understanding of what, exactly, is OK to eliminate in the process.

Nonetheless, tremendous opportunity remains for real innovation in financial planning software. From the lack of any financial planning software that facilitates real income tax planning, to the gap in effective household cash flow and spending tools, a lack of solutions built for the needs of Gen X and Gen Y clients, and a dearth of specialized financial planning software that illustrates real retirement distribution planning (using actual liquidation strategies and actual retirement products). In addition, most financial planning software is still written first and foremost to produce a physical, written financial plan – with interactive, collaborative financial planning often a seeming afterthought, and even fewer financial planning software solutions that are really built to do continuous ongoing planning with clients (not for the first year they work with the financial advisor, but the next 20 years thereafter), where the planning software monitors the client situation and tells the advisor when there’s a planning opportunity!

Fortunately, though, with industry change being accelerated thanks to the DoL fiduciary rule, the timing has never been better for new competitors to try to capture new market share for emerging new financial advisor business models. Will the coming years mark the onset of a new wave of financial planning software innovation?

The Evolutionary Progression of Financial Planning Software

In the early days of financial planning, the reality was that virtually no one actually got paid to deliver a financial plan. Instead, financial advisors were compensated by the financial planning products they implemented – i.e., insurance and investment solutions – and the role of the “financial plan” was actually to demonstrate the financial need. Thus why the early financial planning software tools like Financial Profiles (founded in 1969) focused on retirement projections (to show the investor he/she needed to save and invest more… with the financial advisor), insurance needs (to show a shortfall in insurance coverage), and estate tax exposure (as life insurance held inside of an Irrevocable Life Insurance Trust was a very common strategy when estate tax exemptions were lower). Financial planning software was product-centric.

By the 1980s, though, there was an emerging movement for financial planners to actually get paid for their financial plans, from the birth of NAPFA in 1983, to the rise of financial-planning-centric brokerage firms like Ameriprise (then IDS) and insurance companies like Connecticut General (later Cigna Financial Advisors, then Sagemark Consulting and now Lincoln Financial). The challenge, however, is that to get paid for a financial plan, the rigor of the financial planning analysis had to stand as a value unto itself, beyond just demonstrating a product need. Fortunately, though, the rise of the personal computer meant that financial advisors could purchase and use complex analytical tools that could analyze financial planning strategies with greater depth than what virtually any consumer to do themselves. Accordingly, 1990 witnessed the birth of EISI’s NaviPlan, the first “cash-flow-based” financial planning software, which was substantively differentiated from its predecessors in its ability to model detailed long-term cash flow projections.

The virtue of cash-flow-based financial planning software like NaviPlan was that it allows for incredible detail of every cash flow in the client household. Income, expenses, and savings could all be projected, along with the growth on those savings over time, creating a rigorous financial plan that substantiated a standalone financial planning fee. The problem, however, was that by modeling every cash flow, it was necessary to input and project every cash flow – as projecting income without the associated expenses would imply “extra” money for saving that might not really be there. And NaviPlan didn’t really have a means of just projecting the cash flows that were relevant to a particular goal; instead, it implicitly modeled all cash flows, and then showed whether all of the future goals could be supported. As a result, the arduous and time-consuming nature of inputting data into cash-flow-based financial planning tools led to the advent of MoneyGuidePro in 2000, and the birth of “goals-based” financial planning software, where the only cash flows that had to be inputted were the specific saving inflows and spending outflows of that particular goal.

The birth of goals-based financial planning software made it much easier for financial planners who wanted to just focus on a particular goal – most commonly, retirement – to create a financial plan around just that goal. Accordingly, the software was especially popular amongst the independent RIA community (which operates on an AUM model and is primarily paid for demonstrating a need to save and accumulate assets for retirement), along with retirement-planning-centric broker-dealers and insurance companies. The caveat, however, is that once a goals-based financial planning projection is delivered, there isn’t much to do with the software on an ongoing basis. As long as the client remains reasonably on track to the original plan in the first place, each updated planning projection will simply show the same retirement and wealth trajectory as the last. And from a practical perspective, a long-term multi-decade plan just doesn’t move much from year to year anyway (not to mention quarter-to-quarter or month-to-month). Consequently, a gap emerged for financial planning software that could actually show meaningful tracking of what is changing in the client’s plan on a year-to-year and more frequent basis… and thus was the rise of eMoney Advisor, which was also founded in 2000 but really gained traction in the 2010s as account aggregation tools like Mint.com made consumers (and financial advisors) increasingly aware of the value and virtue of continuously tracking and updating a household’s entire net worth and cash flows… a Personal Financial Management (PFM) dashboard that goes beyond just their portfolios, or their progress towards ultra-long-term goals.

From the perspective of financial planning software differentiation, this progression from product-needs-based to cash-flow-based to goals-based to account-aggregation-driven helps to define when and why certain companies have grown and excelled over the past several decades, while others have languished and struggled to gain market share. Because the reality is that as long as the client data in financial planning software isn’t portable and able to be migrated, changing financial planning software solutions is an absolutely massive and potentially firm-breaking risk (as it disrupts the foundation on which many advisors build their value), which means it takes substantial differentiation in tools and capabilities to attract advisors away from competing solutions. In other words, in a world where the switching costs of financial planning software are so high, it’s not enough to be 10% or 20% better, and barely sufficient to even be 10X better… it’s necessary to be fundamentally different, in a way that advisors can create new value propositions they simply couldn’t deliver in the past (as was the case in the progression from financial planning software focused on product needs, then cash flows, then goals, and then account aggregation).

The Progression Of Differentiation In Financial Planning Software

Real Financial Planning Software Differentiators Of The Future

The reason it’s necessary to understand the progression of financial planning software differentiators of the past, is that it’s essential when trying to identify what prospective differentiators might allow financial planning software to break out in the future – which is one of the most common questions I’ve been receiving lately in my FinTech consulting engagements with various (new and existing) financial planning software firms.

Because the fundamental challenge is that, as noted earlier, it’s not enough to just be 10% better or faster or easier or more efficient. Due to the incredibly high switching costs for most financial advisors already using financial planning software, it’s crucial to be fundamentally different to grow and compete.

Fortunately, though, the reality is that there are still ample areas in which financial planning software providers could substantively compete and be meaningfully differentiated. Just a few of the options include:

Real Tax-Focused Financial Planning. One of the easiest ways for financial advisors to show clear value in today’s environment is through proactive income tax planning strategies, as real-dollar tax savings can easily more-than-offset most or all of a comprehensive financial planning fee. Yet unfortunately, most financial planning software today is very weak when it comes to detailed income tax planning, especially when considering the impact of state income taxes. A tax-focused financial planning software solution would project actual taxable income and deductions from year to year in the future, with future tax brackets (adjusting for inflation), and include the impact of state income taxes (which most financial planning software companies complain is “arduous” to program, despite the fact that companies like US Trust publish an annual tax guide with the state tax tables of all 50 states!). Of course, the reality is that the tax law can change in the future, and there is such thing as trying to be overly precise in estimating financial planning software inputs. Nonetheless, “simple” assumptions like an effective tax rate in retirement grossly miscalculate tax obligations over time, and utterly fail to represent the positive impact of prospective tax strategies; after all, how can you possibly show the value of the backdoor Roth contribution strategy, or systematic partial Roth conversions in low income years, if the software always assumes the same (static average) tax rate in retirement? How can any financial advisor illustrate strategies that minimize the adverse impact of RMDs, when the financial planning software assumes that the client’s tax rate won’t be going up when RMDs begin!? And failing to account for the fact that moving from New York or California to Texas or Florida in retirement saves nearly 10% in state income taxes is an egregious oversight. Simply put, tax planning has real value, and financial planners shouldn’t be constrained to illustrating the value of tax strategies in isolated software tools like BNA Income Tax Planner, when it could – and should – be part of the holistic financial plan.

Spending And Cash Flow Planning. Historically, financial advisors have focused their advice on investments and insurance, for the remarkably simple reason that that’s how most advisors get paid (either for implementing such products and solutions, or managing them on an ongoing basis), and as a result that’s where most financial planning software has focused. However, from the consumer perspective, the center of most people’s financial lives is not their long-term financial plan, nor their insurance and investments; it’s their household cash flow, which is their financial life blood. Thus why Mint.com grew to 10 million active users in just their first 5 years – which would be almost 10% of all US households – while the typical financial advisory firm struggles to get 20% – 30% of their clients to log into their (non-cash-flow-based) financial planning portal once or twice a year. And there’s substantial evidence that regular use of financial planning software to track spending matters – one recent study on Personal Capital’s mobile PFM app by noted behavioral finance researchers Shlomo Bernatzi and Yaron Levi found that the average Personal Capital user cut their household spending by 15.7% in the first four months after using the mobile app to track their spending. And that’s just from using the software, without the further support of a financial advisor (and without even specifically setting a budget of targeted spending cuts!)! Imagine the enhanced value proposition of the typical financial advisor if the average client boosted their savings rate by over 15% in just the first few months of the relationship, because the financial planning software gave them the tools to collaborate on the process! In today’s world, most financial advisors don’t work with clients on their cash flow – in part because it’s difficult to show value, and in part because it’s very challenging to get clients to track their spending in the first place… but as tools like Mint.com and Personal Capital have shown, software can effectively help to solve both of these challenges!

Planning For Gen X and Gen Y Clients. The overwhelming majority of financial advisors are focused on Baby Boomer and Silent Generation clients, for the remarkably obvious reason that “that’s where the money is”. Yet the end result of this generational focus is that virtually all financial planning software tools are built for the needs of Baby Boomers with assets, particularly when it comes to retirement planning – from illustrating the sustainability of retirement withdrawals, to the timing of when to begin Social Security. And as a result, not a single financial planning software solution can effectively illustrate the core financial planning issues of Gen X and Gen Y clients, such as strategies to manage the nearly $1.4 trillion of student loan debt (which is more than all credit card debt in the US across all generations, but student loan debt is concentrated almost entirely amongst just Gen X and especially Gen Y clients!). Similarly, financial planning software lacks other tools relevant for planning for younger clients, including other debt management tools, budgeting and cash flow support, and helping to project the financial consequences of major career decisions (e.g., how much does the primary breadwinner need to earn to stay on track if one spouse makes a change to stay home with children, or how much does a new career need to pay in salary to make up for the cost of taking time out of the work force to go back to school for a career change in the first place?). More generally, financial planning software is entirely devoid of any “human capital planning”, despite the fact that for most Gen X and Gen Y clients, their human capital is their single largest asset.

True Retirement Distribution Planning. While virtually all financial planning software solutions include “retirement planning” as a key module, most actually do very little to illustrate actual retirement distribution planning strategies. For instance, is it better to liquidate an IRA first, or a brokerage account, or use the brokerage account while simultaneously doing partial Roth conversions? How can an advisor really evaluate if a particular annuity product would be better for the client’s plan, when no financial planning software can actually illustrate specific annuity products (ditto for loan-based life insurance strategies for retirement income). Would the client be better off using a bucket strategy instead of a traditional total return portfolio? Will the retirement plan come out better if the equities are in the IRA or the brokerage account? If there was a severe market downturn, most clients would likely trim their retirement spending for a few years… so why doesn’t any financial planning software allow advisors to model dynamic spending strategies where clients plan, up front, to trim or increase their spending based on what the markets provide (or what the various Monte Carlo scenarios project), to help simulate how much (or how little) of an adjustment would be necessary to actually stay on track in a bear market (and then produce a Withdrawal Policy Statement for the client to sign). More generally, why doesn’t any comprehensive financial planning software illustrate strategies like the 4% rule or Guyton’s guardrails, despite the robust retirement research literature to support them? Simply put – financial advisors provide a tremendous range of specific, implementable retirement strategies that have to be illustrated and explained in a piecemeal process outside of financial planning software, because today’s tools aren’t capable of illustrating what advisors actually do.

Collaborative Financial Planning Software (No More Paper Reports!). Financial advisors have been going increasingly “paperless” and digital in recent years, aided in no small part by the explosion of digital onboarding tools as the advisory industry has stepped up to match robo-advisor innovations. However, today’s financial planning software tools are still built with a “printed report first” philosophy, leading the bulk of the output to be in the form of static page printouts, rather than created with a visually appealing on-screen interface that allows the advisor and client to collaboratively make changes on the spot. Yet the reality is that financial planning done collaboratively can both save time (avoid preparing alternative scenarios that turn out not to even be relevant!), and break down the fundamental flaw of goals-based financial planning (that most clients don’t even know what their goals are until they use planning software to explore the possibilities, first!). Similarly, the truth is that the greatest blocking point for doing financial planning with most clients is that they don’t even have the data to provide to the advisor to input into the software, and even for clients who provide the data, keying the data from paper statements it into the planning software is one of the most time-consuming steps of the process; a digital-first planning software could be built to collaboratively gather the data modularly over time, helping to draw clients proactively into the process by showing them incremental value as the plan is created before their eyes. What would financial planning software look like (and how much more efficient and engaging could it be) if the tools were designed to not generate any printed reports, and all of the information had to be engaged via a shared computer monitor, or a client portal?

Comprehensive Planning Software That Actually Creates A Comprehensive Written Plan. For financial advisors who do continue to produce written financial plans for clients, the primary challenge in today’s marketplace is that planning software doesn’t actually produce the entire financial plan… just the pages associated with the financial projections. Thus, financial planners who craft firm-branded financial plans must create and collate together a graphics template with firm colors and branding, a Word document with financial planning recommendations, Excel documents for customized charts, and financial planning software output itself, into either a physically printed document, or a cobbled-together PDF document. Ideally, financial planning software that is designed to produce holistic financial plans should also be a plan collating platform, that makes it easy for the advisor to integrate together the advisory firm’s branding and colors, the written aspects of the financial plan (e.g., plan recommendations, customized client education) along with any custom-created graphs and charts, all assembled into a single document with consistent visual elements. Otherwise, financial advisors who do produce comprehensive financial plans – where the advisor adds value beyond just the printed output of the financial planning software – will continue to face lost productivity and immense amounts of wasted time trying to put together the separate pieces of “the plan” since the planning software can’t do it directly.

Ongoing Financial Planning With Opportunity Triggers. In the past, “financial planning” was primarily about getting paid for the plan itself – either via a planning fee, or for the products implemented pursuant to the plan. As a result, financial planning software was (and still is) very focused on the upfront financial plan, with the occasional “updated” plan that occurs if the client indicates that his/her situation has substantively changed (and there might be a new opportunity to do business and earn a planning fee or product commission). Yet for financial planners that actually do ongoing comprehensive financial planning – most commonly as a planning-centric AUM fee, or an ongoing retainer feethe bulk of the financial planning relationship is what happens in all the years after the first one, not the initial planning year! Unfortunately, though, no financial planning software is really built to do effective ongoing financial planning, where the client’s “plan” is a live, continuous plan that is perpetually updated (via account aggregation), and shows both progress towards goals over time, and the progress of goals already achieved (which is crucial to validate the ongoing planning relationship!). In other words, what would financial planning software look like if it was continuously updated via account aggregation, and clients could log in at any time and see trends over time, ongoing financial planning recommendations that still need to be implemented, and accomplishments of recommendations already implemented? Similarly, if the planning software was continuously updated, at what point could the planning software tell the advisor when there is a planning opportunity to engage the client about, from milestone birthdays (e.g., age 59 ½ when penalty-free withdrawals from IRAs can begin, age 65 when Medicare enrollment is available, or age 70 ½ when RMDs begin), to changes in client circumstances (where the planning software detects a promotion or job change because the monthly salary deposit changes), proactive planning opportunities (e.g., where interest rates fall to the point that the client can refinance a mortgage, or updated year-end tax projections notify the advisor of a capital loss or capital gains harvesting opportunity), or warning indicators for clients veering off track (e.g., where dollars saved this year are behind on the annual savings goal, or where spending rises precipitously, or if the portfolio falls below a critical threshold of success in retirement). In the end, financial planners shouldn’t have to meet with clients regularly just to find out if there are any new planning needs or opportunities… because ongoing financial planning software should be continuously monitoring the client’s situation, and notifying the advisor of the planning opportunity!

Potential Disruptive Differentiators For Next Generation Of Financial Planning Software

Pick A Focus To Differentiate (And Being Simpler And Easier Doesn’t Count)

Sadly, the reality is that today, most financial planning software companies will claim that they do most of the items listed above. Yet financial planners know in practice that most financial planning software doesn’t do (m)any of these things very well – thus why so many financial advisors still use Excel, and why the combination of “Other” or “None” categories is still the most common response to advisor surveys on “What Financial Planning Software Do You Use?” And the companies that try usually try to do them all, and end out with an excessive amount of feature bloat, with the associated decline in adoption and usability.

But the key point here is that true differentiator of financial planning software isn’t a feature issue. It’s a focus issue, that is expressed in clear features that support the differentiated vision. After all, building truly tax-focused planning software means the tax tables need to permeate every part of the software, from the input, to the analytical tools, to providing output that shows and communicates tax benefits and tax savings (since that’s what the tax-centric advisor will want to show). True retirement distribution software needs to invest heavily in integrations to bring in and accurately model all the various retirement products and strategies that exist today, which again is both a user interface, output, integration, and data analytics challenge. Collaborative-first software would have a substantially different UX/UI design if it was intended to never print a report, and be used solely in a collaborative nature. And so on and so forth for the other differentiation types.

The other reason why setting a differentiated vision is so crucial is that it escapes what has become the greatest malaise of financial planning software companies trying (and failing) to differentiate: the Quixotic effort to be the “best” software at being simpler and easier to use.

The problem with a financial planning software mission of being “simpler and easier to use” is that doing so requires making trade-off decisions and sacrifices, and without a clear understanding of the type of advisor the software is meant to actually serve, it ends out serving no one. Thus why NaviPlan made their software “easier to use” in their transition from the desktop to the cloud, and actually lost market share – because the complexity that was eliminated was a level of cash-flow and tax detail that its core users wanted, driving them to alternatives like eMoney Advisor and MoneyTree. While players like GoalGami Pro tried to create “simpler” financial planning software to distribute to broker-dealers whose reps were complaining that MoneyGuidePro and eMoney Advisor were “too hard to use” – only to discover that the real problem was those sales-oriented reps didn’t actually care about financial planning at all, and weren’t going to adopt any financial planning software, regardless of its ease of use (and consequently didn’t gain much market share, either). And why the new “simpler and easier to use” Figlo platform hasn’t grown much market share since Advicent bought it several years ago, either.

Not to say that it’s “bad” for software to try to make itself simpler and easier to use. But simpler and easier isn’t a real differentiator in today’s financial planning software landscape, because some advisors want “simpler” to mean shorter and faster, while others want “simpler” to mean easier to collaborate with clients and have less upfront data entry, still others want “easier to use” to mean easier to enter the complex detailed data inputs they want to model… and because the cost of switching software is exponentially higher than the improvements of “easier to use” in most cases anyway. Thus why most financial planning software newcomers continue to struggle with growth, and why shifting market shares of the leading providers change at a glacial pace.

Nonetheless, the good news is that, as discussed in this article, there are a substantial number of opportunities for financial planning software newcomers to meaningfully differentiate – both as an opportunity for reinvention amongst the large incumbents (MoneyGuidePro, eMoney Advisor, and NaviPlan), today’s still-nascent emerging players, and startups that are still building behind the scenes and haven’t even launched yet. But at the same time, for the sake of new company growth – and the betterment of the financial planner community itself – it’s time for financial planning software companies to take a bold step forward to the future of financial planning, and not keep building features to compete for enterprises, and against competitors, that are stuck in the past. On the plus side, though, with the DoL fiduciary rule as a catalyst, a large swath of financial advisors (and financial services institutions) are being driven to shift from simply distributing financial products, to truly getting paid for financial planning advice… which means the demand for financial planning software, including new solutions, should only rise from here!

So what do you think? What would it take for you to switch to a new financial planning software provider? Where do you see the biggest gaps? Which of the differentiated financial planning software solutions above would you want to buy? Please share your thoughts in the comments below!

Three Degrees Of Bad Retirement Outcomes

Three Degrees Of Bad Retirement Outcomes

When doing retirement planning, it is common to talk about retirement plan outcomes as either “successes” or “failures”, where Monte Carlo analysis aims to determine the probability of success. Yet Cotton notes that from the client’s perspective, “failure” really occurs in degrees: the first is failing to achieve the household’s desired standard of living; the second is failing to at least maintain the household’s basic standard of living “floor” (i.e., the basic necessities); and the third is an outright bankruptcy (where everything is lost that isn’t specifically protected from creditors). The distinctions matter, because the reality is that many plans that might “fail” because a portfolio is depleted (and can no longer maintain the desired standard of living) may still have enough guaranteed income streams to sustain at least a reasonable floor (e.g., thanks to Social Security benefits). And in fact, some retirees will even choose to arrange their assets in a manner that increases the risk of “failing” at the top tier, in order to better secure at least achieving the second tier (e.g., by choosing to annuitize a portion of assets, and give up upside in exchange for a more secure floor). Even just discussing the phenomenon with clients – where a risk of “failure” is really just a risk of making some adjustment between the desired standard of living and the floor level standard of living – can change their attitude about how comfortable they are with a strategy, recognizing that “failure” may really just be about an “adjustment” (from the desired standard of living down closer to the presumably-still-tolerable floor). Though at the same time, it’s important to recognize that the need for expenses isn’t guaranteed, either – in other words, a “safe” floor might no longer turn out to be safe if a change in health necessitates higher expenses than what the floor provides. Nonetheless, the key point remains that not all “failures” are equally failing, and similarly that there can be a big difference between depleting the portfolio, and the total depletion of wealth or bankruptcy. Which means it’s necessary to discuss all of these dynamics and trade-offs with clients, if you want to help them make a good decision about how to allocate assets in retirement!

Why You Need To Be Different Rather Than Better Than Your Competition

Why You Need To Be Different Rather Than Better Than Your Competition

In a competitive situation for a client, it’s only natural to want to try and explain why your advisory firm is better than the competition, whether it’s better products, better service, better communication, or better affiliates that you work with. Yet the unfortunate reality is that most consumers are tired of hearing how everyone says they’re better than everyone else – just as when you’re walking down the aisle of a grocery story and see a jug of Tide detergent with a label “NEW AND IMPROVED” you don’t just immediately buy it expecting that now, finally, your clothes will get cleaner. Because in the end, the consumer doesn’t really believe it’s that much better, and it’s stressful to make a change (whether it’s to another laundry detergent, or another financial advisor). So what’s the alternative? Rather than trying to be better, be different. Because if we can truly share something that is unique about who we are and what we do, then the connection that makes with a prospective client is more likely to win them over than all the “better than” claims anyway. Especially since in the end, most consumers choose their advisor based on the connection with the advisor anyway, and not his/her “better” products and solutions.