I’ve had two conversations lately that got me thinking about a question which, for obvious reasons, doesn’t come up in most people’s lives: what do you do after you’ve exhausted all the obvious financial planning tools?
Financial planning isn’t complicated, it’s just hard
Most people have been trained to think about financial advice in terms of investment decisions, so when they say “give me some financial advice,” what they usually mean is, “give me a stock tip.” If the stock goes up, they think you’re a financial genius, and if the stock goes down, they think you’re a con man.
That’s why I always try to tell people, I have no idea what the stock, bond, commodity, real estate, or any other market is going to do over any time horizon. Not just over 6 months, but even over 30 years, the performance of individual investments is something I have no insight into.
That makes asset allocation inherently unsatisfying work, as important as it is. At the end of a 30-year period, a well-diversified portfolio will have some holdings that have increased in value by much more than others, which may have even fallen in value over the previous 30 years. What is the point of diversification if it means you end up holding crap that weighs down your overall return? Why not just buy winners?
Financial planning for most people can be boiled down to three inputs, in order:
- savings rate
- asset location
- asset allocation
This is an inconvenient for some people because it doesn’t feel like saving is something your financial advisor is doing. But if you raise your IRA contributions by 9.091%, from $5,500 (the 2018 contribution limit) to $6,000 (the 2019 limit) I can guarantee your contributions will be 9% higher. Holding your savings rate fixed, I can make at best an educated guess about the effects of asset location (predicting future tax rates) or asset allocation (predicting future market performance).
The flip side of this is that by far the most important thing anyone can do to get their financial house in order feels to most people completely impossible. You earn $80,000 a year? Not anymore. Now you’re contributing $19,000 to your 401(k) and $6,000 to an IRA and you make $55,000. Thinking about having a kid? Congratulations, now I need you to save even more.
In other words, one of a financial advisor’s most important jobs is to make you feel much poorer than your friends, family, and colleagues.
What financial advice do the wealthy need?
This is a question I want to pose as carefully as possible, since the wealthy want the same thing from their financial advisors as everyone else: a good stock tip. But obviously the wealthy need a good stock tip even less than everyone else: if you’re earning more than a couple million dollars per year, you can keep your money in cash and you’ll still die a millionaire.
I think there are at least five important buckets financial planning can fall into for the very wealthy:
- Permission to spend. This is the flip side of financial advice for the working and middle classes. A financial advisor severely restricts the amount of spending money a middle class professional has available by directing as much of it as possible into tax-advantaged accounts. But someone who maxes out their contributions in January of each year may still be flying across the country in economy twice a week when they can easily afford business class. They may need permission from someone they trust to spend money on their own comfort.
- Permission to give. There’s a cliche in financial planning circles to insist people “save every raise.” In other words, if you can keep your living expenses flat, you can contribute more and more money to your retirement accounts each time you receive a promotion, raise, or cost-of-living adjustment to your salary. But this is obviously irrelevant to people who earn far more than any of those contribution limits, which is why I suggest “giving every raise.” If your living expenses are already fully covered by your existing pay, then in a year where you earn a significant raise or bonus your quality of life won’t be affected by giving it away.
- Permission to stop. When people luck into high-income fields there’s an almost inevitable temptation to “run up the score” and earn as much as possible as long as the gravy train is running. But obviously there’s no material reason to continue working once you’ve saved enough to satisfy your needs, and some people aren’t able to give themselves permission to stop. That’s another role a trusted advisor can perform.
- Permission to change. If “permission to stop” means retirement, “permission to change” means redirecting your time and energy towards other activities. Change is hard, in some ways harder than retirement: the very idea of a “serial entrepreneur” is based on the premise that someone who successfully gets rich once, increasing an initial investment 1,000- or 1,000,000-fold, has some ability to replicate that performance. But of course, after founding one successful social network, Mark Zuckerberg didn’t found dozens of additional social networks, because he recognized he simply got lucky the first time. Instead, he incorporated another company to dispose of his wealth, which seems to keep him busy and happy.
- Estate planning. I put estate planning last on this list because it’s what most people think of first when they think of financial planning for the wealthy. And obviously there are techniques you can use to reduce the tax and administrative burden on your heirs when you pass. But it doesn’t take more than a glance at the techniques actually employed to evade estate taxation to wonder what, exactly, the point is supposed to be? I don’t mean that wealthy people should feel a “patriotic duty” to pay estate taxes in order to “reduce the deficit” or any such nonsense. I simply mean that I find it absurd that the wealthiest people in the wealthiest nation in human history spend any time at all worrying that their heirs will have to pay taxes on their inheritance, let alone organize all their affairs around minimizing those taxes. It seems to me that what many wealthy people need to hear from their financial advisors is simply that “your heirs will be fine.” That’s not an easy thing to hear, but financial advisors aren’t supposed to give easy advice; they’re supposed to give true advice.
As I mentioned, this is an issue that has recently come up in a number of different contexts, and I plan to revisit it from multiple angles in the future. Hit the comments to let me know what you think: what financial advice do wealthy people need — with a special emphasis on the advice they need but don’t want?