Financial planner Mike Haubrich recently faced the problem of financial incapacity when a widowed 85-year old client came to his office with some questions about gifting. The client was accompanied by her “new best friend,” who happened to be a neighbor:
“I ask Agnes who she is thinking about giving money to. She wants to give it to her new best friend. I asked her ‘how much do you have in mind, Agnes?’ Without skipping a beat, she answered ‘How about $50,000?’”
He continues: “I was blown away. I’d never heard her mention this best friend's name in our previous meetings — ever. I ask her if she knows how much money she has, and Agnes says she doesn't know how much nor care about her money anymore. She’d always known everything about her investments, so this is new and concerning.”
Americans are living longer, especially wealthy clients who have gained about five years on average in longevity over the last three decades after the age of 65. Longer lives present a number of challenges to advisors. We decline physically as we age, resulting in higher expenditures on health care and long-term care. We also decline mentally. Research on cognition in old age shows that natural cognitive aging chips away at our financial decision-making ability each year. And cognitive diseases such as Alzheimer's can make seniors particularly vulnerable to financial mistakes.
Managing wealth in retirement is more than just planning income, health care, and taxes. Retirees also need to plan for cognitive decline that erodes their ability to manage wealth independently.
As much as $50 billion each year flows from retiree accounts as a result of financial abuse — sometimes by strangers, but often by family members and caregivers. Reduced financial capability coupled with social isolation in old age may present a greater risk to a retirement plan than volatile markets. And more advisors are insisting on creating a plan for cognitive decline in order to avoid the legal, financial and emotional costs of dealing with financial exploitation when a client is no longer able to solve the problem on their own.
For advisors trusted with helping a client preserve a nest egg, dealing with financial mistakes can place an advisor in a frustrating and confusing position: either watching helplessly as a client's financial security is compromised, or risking the client's privacy and autonomy by seeking ways to prevent a scam. The reality is that many older clients do not understand that they are losing their ability to make sound decisions and will often resist any attempt to take away control over their finances.
At the recent Pension Research Council conference at the University of Pennsylvania Wharton School, a session was devoted to the important topic of dealing with the financial consequences of age-related cognitive decline. The main takeaway from the session was that elder fraud is rampant and, unless an advisor and client plan for incapacity, there are few easy solutions for advisors when strangers or relatives take advantage of vulnerable clients.
Of those who live into their 80s and beyond, a surprisingly high percentage will eventually experience symptoms of dementia. Advisors, regulators and the existing legal environment are ill equipped to deal effectively with the millions of elderly Americans who won't be able to manage their own financial affairs. Some have termed the financial vulnerability of elder Americans a pandemic, one that encourages abuse and devastates families who feel powerless to shield older relatives from exploitation.
Wealth and Cognition
Americans over 60 hold over half the financial assets in the United States, according to 2013 Federal Reserve Board statistics. This will increase in the future as a new generation of Americans retires with defined contribution savings, which they will need to manage on their own instead of relying on an institution to provide a defined benefit pension.
To understand how greater control of financial assets in retirement increases exposure to financial abuse, it is important to recognize how our brain changes as we get older. Performance figures on tests of memory show a nearly linear decline after age 60. Executive function, or our ability to analyze a new piece of information by retrieving existing knowledge and processing a response, also declines as we age.
This means that our ability to judge the motives of, say, a friendly neighbor who smiles and makes conversation can deteriorate in old age. Or when a child or other relative who may have had little interest in an elderly parent suddenly starts making visits. An elderly relative may welcome the attention and lack the ability to examine critically a potential predator's motives. Increasing social isolation in old age makes us more willing to invite the attention of those whose motives are suspect, and makes us less able to recognize when someone is motivated by fraud.
This combination of high financial assets and declining cognitive skills creates an opportunity for those who are willing to take advantage. One of the saddest aspects of elder abuse is the wedge it can present in family dynamics when less scrupulous adult children take advantage of an older parent to gain access to their assets. And other children may feel a mixture of guilt for not spending time with the parent, as well as harboring suspicions that a more attentive sibling appears to be motivated only by financial gain.
Sheryl Sherrard, director of financial planning at Clearview Wealth Management, relayed a story about a female client whose adult child had convinced his parent to transfer assets into his account in order to ‘help her become Medicaid eligible.’ “I asked my client whether she fully understood what Medicaid eligibility means. It means that she won't have access to better quality care.”
Unfortunately, many clients experiencing cognitive decline have difficulty retaining new information, and there is little advisors can do to protect clients after they have left the office. This is especially true when the client is dependent on the abuser for care or even for basic companionship.
In a new research paper on elder financial abuse, Stanford Center for Longevity researcher Marguerite DeLiema argues that financial professionals are uniquely positioned to recognize evidence of financial exploitation. But to do their jobs, there needs to be a professional and legal environment that encourages protection of older clients. In particular, laws must allow advisors to alert potential caregivers or adult protective services when they see evidence of financial abuse without having to worry about violating a client's privacy.
The issue of client autonomy and privacy is central to the problems with today's regulatory environment. In theory, the advisor's job is to do what the client wants them to do — the advisor is the agent and the client is the principal. But what if the 65-year old version of the client wants the advisor to help the client preserve wealth into old age and pass assets on to loved ones, while the 90-year old version of the client wants to give money to a new acquaintance and has been convinced to write family members out of a will? Which client does the advisor serve?
States may now mandate that financial advisors report financial abuse when it occurs. Reporting, however, may not be enough if adult protective services are understaffed or ineffective. An important complication is the 1999 Graham-Leach-Bliley Act (GLBA), which allows individuals to prevent a financial institution from contacting a third party about a client.
Many point to financial privacy concerns as a reason for not contacting a relative when an advisor suspects financial abuse. DeLiema, however, points out that the GLBA specifically allows firms to opt out of privacy laws if reporting provides protection “against or to prevent actual or potential fraud, unauthorized transactions, claims, or other liability.” Missouri became the first state to pass legislation that explicitly offers safe harbor for financial firms that contact a third party, and many in the industry are working toward creating reporting standards that protect financial advisors against legal risk from reporting abuse.
In 25 states including California and Texas, advisors are required to report suspected financial abuse to local adult protective services. An equal number of states, such as New York, don't mandate any reporting by a financial professional who suspects abuse. Lack of consistent reporting standards among states adds to confusion about when an advisor is required to report suspicious activity.
One solution is to create a plan for client incapacity. An advisor and a client should view retirement as a journey that may eventually encounter rough seas in the form of cognitive decline. A client may choose to tie himself to the mast and hand the rudder over to a fiduciary advisor or caregiver if the advisor sees evidence that the client is steering in the wrong direction. It is far easier to plan for financial incapacity than it is to deal with the consequences (or to change course once a client no longer has the ability to recognize when they have become a target for abuse).
After facing the dilemma with his 85-year old client and her suddenly friendly neighbor, Mike Haubrich decided that he needed to develop a plan for client mental incapacity. He now mandates that all clients have a conversation with their loved ones to create a game plan for dealing with aging and long-term care. This “caring hearts conversation” involves meeting with clients and their families to assess values, attitudes and beliefs toward long-term care. In many cases, clients have expectations that don't always match up with reality.
These conversations can also shed light on which family members are least suited to provide long-term care (abusers are often male and have a history of substance abuse). Often, during a family conversation, these potential problem children recognize that they’re not well suited to provide care — but if the conversation had never occurred they may be tempted to step in and provide care when a client becomes vulnerable. Creating a plan ahead of time can actually reduce the likelihood that a family will be broken apart by opportunistic caregiving.
Most importantly, the plan provides advisors with a roadmap when they suspect abuse. In the case of Haubrich's 85-year old widow, Haubrich was able to contact the client's niece to make her aware of the potentially abusive neighbor. Despite the protest of his client, Haubrich had a signed incapacity agreement that allowed him to make the phone call in order to protect his client's financial well-being.
“I showed it to her and explained gently that we did this years ago to protect her and that is what Norm (her late husband) would have wanted,” notes Haubrich. “Initially, she was a little upset, but she came to understand and I was able to get her niece involved.”
“The happy part of this story is that she is doing remarkably well in an assisted living center that is close by her niece Kathy who visits with her many times a week. Kathy now handles all Agnes’ affairs. I visited her last year and she is doing great. She has a beautiful apartment with daily activities and she even told me the food is pretty good. She occasionally bakes cookies and helps out other residents. It's a great outcome.”
According to DeLiema, in the future these types of incapacity agreements will become standard in the financial services industry in order to give clients a way to protect against financial abuse. But today's advisors need to start a conversation about incapacity as a necessary step in the retirement planning process.