ELEANOR PEABODY* was worried. She lived in a modest but valuable Highland Park house, drove a modest but reliable Fiat and worked at a modest but satisfying job. She spent her summer vacation camping out in Colorado with her children, whom she dressed in Izods and Top-siders. But she was worried – money was a problem. When the children reached age 18, the modest but steady child support would screech to a halt. The children’s stock had declined to half its value in the eight years they had owned it, and Eleanor, ignorant of such matters, had helplessly watched the slide. She had no savings. The distant spectre of college loomed, as did her retirement in 25 years. Eleanor could not count on comfort in her old age.
At a friend’s urging, she consulted a financial planner, who, for a small fee, showed her a way to finance college, obtain the right insurance and fund the beginning of a nest egg for her retirement. He also showed her where she could cut taxes.
Eleanor’s situation is not unique. To the average person, tax laws, insurance options, the stock market and inflation represent a maze insolvable without the guidance of a lawyer, CPA, stockbroker, Realtor and insurance agent all pulling in the same harness.
Fortunately, the way out of the maze can be provided by a financial planner. Astute in a broad spectrum of financial products and services, the planner overlaps professions to offer a comprehensive view of the situation and a comprehensive plan for improving it. The common practice of buying financial goods and services from scattered sources can easily lead to being overinsured, overtaxed and overin-vested in a few stocks and unable to meet one’s primary financial goals.
A financial planner can prevent that. He can make order out of chaos and income out of stasis and bring security and enlightenment where there was ignorant floundering. Yet he is no magician. He cannot map your financial quest unless he knows your point of departure and your goals.
Usually, you can see your destination first, whether it be college for your kids, an annual ski trip to Utah or retirement at age 62 on $5,000 a month. Whatever your goals, they should jibe with what the planner is able to achieve -which is to help reduce taxes, build assets and increase income.
Once goals are defined, you should outline your present financial situation.
Make an inventory of everything financial, usually on a form the planner will provide, which may run anywhere from four to 40 pages. Be prepared to set aside a few extra hours for homework. You may be asked the current dividends on your life insurance, the terms of installment loans or the date you last reviewed your will.
It is in your best interest to be complete and open in disclosing your financial situation since the effectiveness of the plan depends on the accuracy and completeness of the information you give.
After you have defined your goals and status, the planner can estimate his fees. If you approve, the planner can analyze your situation, design a plan and advise on its implementation.
Every plan differs, of necessity, not only because goals and incomes differ, but because no two clients have the same temperament when it comes to investments. Some people might be more comfortable with mutual funds; others will be eager to invest in oil and gas. Nevertheless, most planners will outline several routine steps. The first of these involves protecting your assets and rearranging income to lower taxes; the second involves investing.
HERE ARE some likely steps:
1) Get the right kind and amount of insurance. Most planners will run a comparison analysis of your insurance and will make recommendations whether to convert to term or term plus savings or alter coverage. The comparison will show where you could get better coverage for the same amount you’re now paying or where you could get the same coverage for less.
Update all policies as necessary. Eleanor’s Highland Park house had quadrupled in value in recent years, but her home insurance had not been changed in 10 years. Another common lapse occurs when a person remarries and forgets to name the new spouse as beneficiary on life insurance. Moreover, insurance companies have become far more competitive, so if you haven’t reviewed your life insurance policy lately, you may be paying too much for coverage.
Your planner will make recommendations about what types of disability, liability, homeowners and automobile insurance you should carry and in what amounts.
2)Make a will unless you have no heirsand don’t care how large a chunk the government will take of your estate. The costis exceedingly low compared to the cost ofprobating where no will exists. A good willcan also minimize estate taxes.
3)Itemize deductions and keep records.Few people enjoy record-keeping, but itcan yield big tax savings at the end of the year. As you accumulate receipts and records, file each in a separately labeled envelope.
4) Transfer income. One of the simplest ways to cut down on taxes is to transfer income from high-income earners in the household to the low. Chauncey Meri-weather, for example, reduced his yearly taxes $7,200 by transferring income, acting on the advice of Alan Goldfarb of the Financial Strategies Group. First, he gave his college-age son $9,800 worth of stocks to pay for his senior year, saving himself $1,200 in taxes on dividends. Second, Chauncey gave his father stocks that paid dividends equivalent to the amount of support he had been providing: $ 12,000 a year. His parents, in a much lower tax bracket, paid the taxes, saving Chauncey another $6,000 per year. Moreover, when his parents die, the stock will return to Chauncey.
Trusts represent another way to transfer income, and gifts and interest-free loans to minors are still others.
Once you have taken care of the basics-which involve protecting your presentfinancial situation and lowering your taxes-you are ready to make outlays of cashand reposition your existing assets.
Your first task is to diversify existing investments. Clifford Osgood, a semi-retired management consultant, had a quarter of a million dollars tied up in a single stock, the result of taking company stock options. On the principle that it’s best to spread the risk and take advantage of tax deferments, Osgood was persuaded by the Financial Strategies Group to sell some of his old stock and to reinvest in some tax shelters. Similarly, Jenine Jenkins was persuaded to diversify by her planner, Richard Gage at Rauscher Pierce Refsnes, Inc. She owned rental property, treasury bonds and Shell stock; she now has further investments in tax-free municipal bonds, a partially sheltered oil-stock fund and some mutual funds. Just exactly where you should move your assets depends on your tax bracket, your stomach for risk and your willingness to monitor your investments. Growth stocks need a constant watchful eye; municipal bonds, almost no attention.
Moreover, if your means are moderate, these investments should follow the pattern recommended by most stockbrokers. To wit: 60 percent of your investments should be made in such reasonably safe items as money-market funds, treasury bills, most mutual funds, corporate and municipal bonds, blue-chip stocks, annuities, certificates of deposit and some kinds of real estate. The risk is minimal and the yield is moderate -in the 6 to 14 percent range. Another 30 percent of your discretionary income should work harder at the 15 to 25 percent return rate: growth stocks, low-rated bonds, option writing, oil and gas income, and leveraged real estate. The risk is proportionately greater, but you can outstrip inflation. With the remaining 10 percent of your discretionary income, consider investing on the high flyers -oil and gas exploration, gems, gold and silver, antiques and tax shelters. The risk is high, but the rewards can be just as high -from 25 to 300 percent.
As you approach the higher tax brackets, this formula no longer applies. You will find it advantageous to put far more of your money into such tax shelters as limited partnerships in real estate or oil and gas. When Uncle Sam gets 50 percent of your income, you may as well risk money that would otherwise go for taxes.
For those who are financially well-off, there are further measures to increase income. You can create a business or incorporate an existing business that will allow you to fund a pension and profit-sharing fund well above the limits allowed by an IRA or a Keogh, or you can defer income.
Whatever your income level, putting a plan into effect is not a one-time action. As your needs, goals or the economy changes, you will have to revise your plan accordingly. Most planners will help you monitor your situation and will provide at least a yearly review. The relationship, in short, will be for the long term, not to be abandoned for light cause. All the more reason to choose a planner wisely.
To find a financial planner, begin by asking your successful friends and colleagues, your lawyer and your CPA. Interview at least two, but don’t shop around for free advice. Be warned that financial planning is a fairly recent profession and does not have well-defined requirements. At the least, a planner who charges fees must be registered with the Securities and Exchange Commission as a registered investment advisor; a planner who charges commissions must be registered with the appropriate licensing agency. Planners come from all backgrounds, but most have some experience as stockbrokers, bankers, insurance agents, real estate agents or accountants. Occasionally, a successful investor simply decides to charge his friends and acquaintances for what had been free advice. While some planners can claim to be “certified financial planners,” even this designation does not guarantee astuteness.
You can find planners at almost any kind of financial institution: banks, insurance agencies, brokerages and real estate agencies. Generally, the advice given is slanted in favor of their wares; their income derives primarily from commissions. You can be sure that they will keep in touch with you. Independent planners may be licensed to sell stock, insurance and real estate, which allows them to charge commissions. Many independents are strictly fee-paid, however, and hence give truly disinterested advice about investments. They are more likely to provide a plan tailor-made to your situation and rely less on stock formula. On the other hand, their fees will cost you much more in up-front cash.
Your planner should have a good working relationship with able lawyers and CPAs and should willingly confer with any lawyer or accountant you engage. Clifford Osgood’s planner worked together with a lawyer and a CPA to set up a corporation for Osgood’s consulting work; the planner checks with these other professionals periodically to evaluate Osgood’s financial health.
Plans aren’t cheap. The cost can vary greatly, depending on the type of planner you consult and the complexity of your situation. As indicated, planners are reimbursed in three ways: fees, commissions and fees plus commission. Take fees first. Many independent planners charge only a fee for their services. Some will charge hourly, at rates between $40 and $100 an hour; some charge a flat fee for a plan that may be from $250 to $2,500. If the plan is basically an analysis of your assets and a comparison of insurance policies, it may cost from $300 to $500. A more elaborate plan can cost between $1,500 and $2,000 if it involves trusts, complicated investments and advice on incorporating. The planner should be able to give you an estimate once you have made an inventory of your assets and liabilities. While fee-paid planners will mean money coming out of your pocket, you can be sure you won’t be hustled into investments or insurance you don’t want. The burden of putting the plan into action falls primarily on you. The planner will help by recommending stockbrokers and Realtors; he may also steer you to limited partnerships and unusual investment opportunities.
Some independents and almost all planners affiliated with financial institutions charge both fees and commissions. A simple plan may cost nothing, but something more elaborate involving a multimillion-dollar portfolio or a complicated trust can run upward of $3,000.
The wider the range of investments the planner sells, the more complete and impartial his advice is likely to be. Some planners, in fact, will license themselves in a number of areas. The conscientious ones will explain all the pros and cons of various products and will do minimal promoting. Contrarily, commission-paid planners have an interest in seeing that you act on the plan they provide.
Finally, some planners rely solely on commissions; often these provide rather sketchy plans since their real interest lies in selling you various products.
Do not base your decision to work with a particular planner on the basis of cost alone. A planner who charges nothing to help you create an estate of $100,000 in 10 years is far more expensive than one who charges you $2,000 to make your income grow to $1 million. Don’t fall for fancy promises, either.
At the very least, you should be able to recover the cost of the plan within 18 months. More than likely, you will see almost immediate gains. Chauncey Meri-weather, who paid his planner $1,000, saved $7,200 in taxes through one step. Michael Thurmond, who saw the same planner at the Financial Strategies Group, also paid a $1,000 fee and expects to recoup $10,000 in taxes this year. And he will continue to realize similar tax savings in the future.
To benefit from planning, you need not have a big bankroll or a big tax bill. According to John Lee at Rauscher Pierce, anyone who (1) is gainfully employed [or has 1099 income -stock, rent, dividend, oil and gas royalties] and (2) wishes to lower taxes, increase assets and increase income, can stand to benefit from planning. That may eliminate Jackie Onassis at one end of the scale and the down-and-out at the other, but it obviously includes many people.
Some planners cater only to the well-heeled or to a particular profession. Doctors are popular clients. Robert McFar-land, a surgeon, is a typical case. He and his wife, Gina, were spending money as fast as Robert made it. At age 33, McFar-land was making a quarter of a million dollars yearly from his private practice in surgery. He lived in upper middle-class splendor.. .getting by on $250,000 a year.
McFarland had put his medical school days behind him. No more Kraft macaroni dinners, no more drip-dry shirts, no more second-hand Chevys. At age 33, he was living in the far reaches of North Dallas, footing the bill for maid, swimming pool, private-school tuition for four children and charge accounts at every swank dress shop in town. The only trouble was that it took all his income to make the good life possible – once that is, McFarland made his annual $90,000 contribution to the U.S. Treasury.
Difficult though it might be to imagine for someone who is earning a quarter of a million to feel hard pressed, it was so. He was saving nothing. McFarland decided, with some reservations, to see a planner. With no savings to invest and with no desire to deny his family anything, he wasn’t sure a planner could help.
The planner showed him that self-denial was not required; only smarts. Step One was to cut his salary to $150,000, with the $100,000 difference to go to the corporation. The corporation funded $50,000 into a retirement plan and paid $10,000 for life and health insurance. The other $40,000 was reserved for business uses. With the same $30,000 in tax deductions as before, the doctor’s taxable income dropped immediately from $190,000 to $120,000, and his taxes went from $90,000 to a more reasonable $40,000. Step Two was to borrow $20,000 from the business to invest in a real-estate tax shelter providing a 150 percent write-off. The resulting $30,000 write-off reduced his taxable income from $120,000 to $90,000 and cut his taxes further to only $25,000. Result: the same spendable income ($125,000), a sizable retirement fund and investments with a potential for solid returns.
Many planners are now providing services to what until recently has been a neglected market: persons with incomes between $30,000 and $80,000. The gains from planning for a person earning $30,000 will be less spectacular than for someone earning $80,000, but still will be measurable. In fact, planners will tell you that the less you have, the more important it is that you get advice and start accumulating assets.
The best time, then, to see a planner is now. John Lee advises his junior colleagues at Rauscher Pierce not to let their potential clients “think about it.” “That ’thinking about it’ for a few years can cost them many thousands of dollars in lost interest and lost growth.” H.C. Sandstrum of Moneyworks Inc., believes that a plan will help even chronic spendthrifts get on the road to accumulating a nest egg; too often, he says, he meets young couples who have plenty of money and no financial direction. “Instead of acquiring the future, they’re busy buying possessions that depreciate,” he says. Some changes in spending habits and a plan can make a measurable difference in their net worth within just a few years.
Even sophisticated investors and money-handlers have found it worthwhile to consult a planner. Sean Flatherty, a young internist, was happy he did so. He had set up a corporation in order to fund a pension-and-profit plan and on his own had made some astute investments. Nevertheless, after taking a Richland College course on investments, he decided to engage the services of the instructor, Alan Goldfarb, because “Goldfarb had access to all kinds of local investment opportunities which I didn’t have. He knew about the kind of limited partnerships that don’t come with fancy four-color brochures and could draw upon a huge network of real estate developers, etc.” On this year’s projected income of $160,000, the internist expects to pay taxes of $12,000; he will put $40,000 into his retirement and profit-sharing fund and invest $35,000 in tax-sheltered or tax-deferred real estate and restaurant businesses.
When Flatherty hears about a possible investment opportunity, he calls his planner for advice. “What 1 want is advice and options,” he says, “not someone to handle my money.”
Another successful investor, Jenine Jenkins, is also happy she decided to consult a planner, if for no other reason than to find out that she was doing the right things. On a teacher’s salary, she had begun investing in land, rental houses, gold and stocks while in her 20s. By 1982 and age 49, she had earned more than $600,000 in assets but paid only $400 in income taxes. She, like Flatherty, followed up on an investment course, this one given by Richard Gage at Rauscher Pierce, by requesting a plan. The principle change brought about by the plan was diversifying her portfolio. Jenkins checks with her planner almost daily to ask his advice about possibilities she’s learned of. By 1986, she expects to be worth $1.5 million.
Some clients want more than advice – they want someone else to manage their income. John Lown and David Rettig at Mutual Association for Professional Services (MAPS) not only provide their physician clients with financial plans but also handle all discretionary income. They may even help set up a beginning doctor in practice by finding rental space, negotiating the lease, ordering equipment, furniture and supplies and setting up a corporate pension and profit-sharing plan. They find that their typical client, who nets $80,000 the first year and perhaps $200,000 to $300,000 in his fifth year, does not have the training, time or inclination to manage the huge cash flow. For their efforts, the MAPS planners charge only a small monthly fee and earn commissions on real estate, insurance and stock investments.
A financial plan could be the best investment of time and money that you evermake. If you put the plan into effect, atthe very least, you will achieve some peaceof mind. At most you will be able toachieve what 95 percent of Americansnever will attain: financial security byretirement age.