This is a funny thing I was unaware of until I saw someone mention it on Twitter the other day: the SEC hosts a website offering free financial planning tools. I was surprised, since I think of the SEC as having a “hands-off” approach to investing: they don’t want people to commit too much fraud or anything, but they’re mostly indifferent to whether you invest well or poorly and make good or bad decisions with your money.
Financial planning is a totally different animal because financial planners really do make right and wrong decisions. For example, SPICX is an S&P 500 mutual fund with an expense ratio of 1.31%, 33 times more than Vanguard’s equivalent fund. That’s not something that bothers the SEC (assuming the expense ratio is properly calculated and reported), but it’s something that should bother a financial planner.
So, I decided to find out: are the SEC’s free financial planning tools any good?
401(k) and IRA Required Minimum Distribution Calculator: 3/10
The 401(k) and IRA Required Minimum Distribution Calculator is functional, but primitive. It asks for just two pieces of information: your account balance at the end of the previous year and your age at the end of the current year. From that, it calculates your “withdrawal factor,” which is the reciprocal of the percentage of your assets you need to take as required minimum distributions. Finally, it calculates that amount. There are two main design problems with the tool that earn it such a low rating:
- It doesn’t help you calculate the relevant year-end account balances or help you interpret the rules around them. For people with multiple IRA’s, 401(k)’s, and 403(b) plans, with some Roth balances and some traditional balances, it would be helpful if the tool had multiple fields to enter each balance separately and apply the relevant rules to each account type. For example, someone with multiple 401(k) accounts and multiple traditional IRA accounts may not know that 401(k) RMD’s have to be taken from each account separately, while IRA RMD’s can be combined and withdrawn from a single account. And while they mention IRA and 401(k) plans, they don’t even ask about 403(b) balances, which have their own slightly different rules.
- It doesn’t calculate RMD’s for people using the joint-life-expectancy exception. If the owner of a retirement account has a spouse more than 10 years younger, they’re able to calculate their RMD’s using their spouse’s joint life expectancy instead of their own. The tool acknowledges this, but merely says “Note: If your spouse is more than ten years younger than you, please review IRS Publication 590-B to calculate your required minimum distribution.” But the joint life expectancy rules aren’t subjective, they’re just a math problem — precisely the kind of math problem a tool like this should be able to solve. It also doesn’t help that the site they link to is barely functional (the actual publication is here if you’re curious).
Compound Interest Calculator: 8/10
The Compound Interest Calculator is pretty good and well-designed, with the one advantage over the Moneychimp calculator I normally use (because it’s the first Google hit) that it is able to display 3 growth rates simultaneously.
The only minor tweaks I would make is providing some default suggestions of what kinds of contributions and earning rates are realistic. For example, the IRA contribution limit of $5,500 (increasing to $6,000 in 2019) works out to about $458 a month, which they could offer as a suggested monthly savings rate.
Likewise, what’s a realistic interest rate, and what’s a realistic range of interest rates around it?
Finally, I’ve never seen a tool that incorporates inflation rates on both the contribution and earnings side. Someone who diligently maxes out their IRA every year will contribute $5,500 in 2018 and $6,000 in 2019…and perhaps $15,000 in 2038. Anchoring is an important feature of human psychology, and I suspect quite a few people anchor their IRA contributions on the maximum allowable contribution. It would be nice for a tool to try to reflect that.
But these are quibbles. Overall, the Compound Interest Calculator is fine.
Savings Goal Calculator: 5/10
The Savings Goal Calculator suffers from the same problems as the Compound Interest Calculator, while adding no additional value. If these are financial planning tools then they need more inputs than you can get from a basic finance calculator. What is an appropriate savings goal? What is it based on? I’m not asking for the SEC to predict health or transportation expenses 30 years in the future, but a simple approach would be to look at the median savings amount of retirees today and apply a range of inflation expectations.
I understand why they don’t want to do this: they don’t want people to say “the SEC told me I’d be alright if I saved such-and-such an amount!” But if you’re going to offer a “Savings Goal Calculator,” you’ve got to take some responsibility for its calculations.
Ballpark E$timate: 0/10
The less said about Ballpark E$timate, the better. First of all, it’s not actually operated by the SEC like the previous 3 tools. Second, it requires even more speculative assumptions about the future. Why do the people who design these tools think that a person who needs an online tool to decide how much to save will have an accurate guess about future inflation rates? Whatever you think about the ability of experts to predict future inflation rates, you should have much, much less confidence in the ability of the average person to do so.
Social Security Retirement Estimator: ?/10
I have no idea if this tool works because the Social Security Retirement Estimator will only return a result if you already have 40 Social Security credits (at least 10 years of covered work earning the maximum 4 Social Security credits per year). The plus side is that it’s based on your actual earning history, so should be somewhat more accurate than the back-of-the-envelope calculations I’m typically forced to use.
Mutual Fund Analyzer: 3/10
Another external tool, this time offered by FINRA, the Fund Analyzer works ok, but has some serious flaws. To test the Fund Analyzer, I plugged in the high-cost Invesco S&P 500 Index Fund (SPICX) and the low-cost Vanguard 500 Index Fund Admiral Shares (VFIAX) to see what the Fund Analyzer was able to conclude. Feel free to plug in the same funds so you can follow along with this analysis at home.
- Fund Analyzer correctly observed that SPICX would cost 30 times more over a 10-year holding period: $1,574.28 versus $51.45 for the Vanguard fund.
- Frustratingly, Fund Analyzer did not point out that if you sold SPICX within 12 months, you’d be hit with a 1% back-end load fee. To identify that, I had to reduce the holding period to 1 year, and suddenly the fee materialized. Since how long you will ultimately hold an investment is obviously a matter of speculation, those contingent fees should be displayed much more prominently.
- The annual operating expenses are not compared on a like-for-like basis. This apparently comes from the fact that Vanguard filed their fund as a “Growth” mutual fund, while Invesco filed theirs as a “Growth and Income” mutual fund. Remember, these are both S&P 500 index mutual funds.
- The visual “expense ratio bubble” graphic depiction of mutual fund expenses is useless because there’s no way to zoom in and tell them apart. It also includes funds that are closed to new investors or only available through proprietary products like target retirement date funds.
- The data is out of date. FINRA still reports that VFIAX has a $10,000 minimum investment, when in fact Vanguard recently lowered the minimum investment for most of their index fund Admiral Shares to $3,000.
529 Expense Analyzer: 0/10
The final financial planning tool recommended by the SEC is the 529 Expense Analyzer, also provided by FINRA. This tool, as far as I can tell, is worthless. The instructions are:
“You can find the information you will need to input into the analyzer in the plan’s program disclosure statement, program brochure or plan description. If the plan invests in mutual funds, you may also need the prospectuses for these funds. If you don’t have copies of these documents, you can find electronic copies on most 529 plan websites. The College Savings Plans Network website provides links that take you to each state’s 529 plan website. If you are having difficulty locating a disclosure statement or plan description on the state’s website, it may be included with the ‘enrollment information.’ Once you download the document, check the Table of Contents for a section on fees and expenses (unlike a mutual fund prospectus, this data is often not presented in a fee table).”
This reminds me of nothing so much as the folk story “Stone Soup.” FINRA makes a seemingly outlandish promise: they’ll calculate the expenses of any 529 plan in the world. Intrigued, you ask what you must do to receive this extremely valuable gift. And FINRA explains: all you have to do for FINRA is one little favor. Go to the website of every 529 plan, download all the enrollment and investment documentation, carefully input it into a spreadsheet, and presto! FINRA does the rest.
Conclusion: do better, SEC
Let me be clear: I’m not trying to make some kind of abstract argument about the futility of replacing human financial planners with automated tools. On the contrary, I think it would be easy to produce online tools that actually perform the financial planning functions the SEC describes!
Vanguard, for example, already has a pretty great tool showing a lot of the information you need to select the right 529 plan for you, including essential information like state-level tax benefits. The key difference is that they don’t require you to hunt down the information on your own: they actually did the work to create a useful tool to help people draw correct conclusions.
But you can’t design useful tools with a view from nowhere. You actually have to make judgment calls, and those judgment calls might be wrong. In a mutual fund low fees are better than high fees. In an index fund, less cash on hand to meet redemptions is better than more cash on hand (the SPICX fund mentioned above has 7% of its net asset value in cash — you’re paying 1.32% for someone to manage cash for you!). Lower tracking error is better than higher tracking error. Except when it isn’t!
A tool that tells you how much you need to save needs to have reality-based estimates of investment returns and inflation in order to produce useful conclusions, even though those estimates might be wrong. Asking people off the street “what do you think the inflation rate will be for the next 30 years?” relieves you of responsibility for the accuracy of your estimates, but it also prevents your tool from providing useful information.
There are lots of potential solutions to these issues: Monte Carlo simulations, historical evidence, fundamental analysis, etc. Some of those solutions might work better than others, or perhaps a combination of them would work best of all. But if all do is throw up your hands and say “figure it out for yourself,” you haven’t provided a financial planning tool, you’ve provided a 9th grade math exercise.