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Trading Down

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Aclient of a certain advisor had a problem. The client was a doctor who had risen to national prominence, making numerous public appearances and writing frequently. He had reached a point where he felt that his career was no longer satisfying. In fact, it felt empty. So he decided to cut back on his activities and devote only two days a week to his work, which now would encompass just seeing patients.

But it wasn’t that simple, says the advisor, George Kinder of George D. Kinder Financial Services in Cambridge, Massachusetts. The doctor and his wife had a lifestyle that included multiple homes, and her part-time income and his scaled-back income would not support those homes. The obvious answer was to sell one of the homes, but as Kinder tells it, the husband was attached to one house and the wife to the other. If they sold one home the husband’s income would suffer; if they sold the other, the wife’s would disappear altogether. While the wife was a lukewarm supporter of her husband’s desire to cut back on his work, the issue of which home to part with was more contentious. His wife also had issues about her own worklife because she was eight years younger than her husband and not quite ready for retirement.

Whether it’s burnout or a change of heart–like the doctor’s–the loss of a job or a medical emergency, many people these days are changing the way they live. Since September 11, that’s particularly obvious, and planners sometimes have their hands full helping their clients deal with the financial aspects of such changes. Everything can change. Insurance may become at once more necessary and less affordable. Asset allocations need to be adjusted to be more risk-sensitive. Income streams need to be reexamined. And the list goes on.

Not everyone who wants to downsize is doing so out of necessity. Many choose to reduce their consumption levels, follow a lifelong dream, or just make their lives less complicated. For clients looking for ways to simplify their lives, there are some sources you can recommend. (See sidebars on pages 61 and 62.)

Kinder is guiding the couple in question through a number of issues, not the least of which is the husband’s own reaction to his retreat from the limelight. While that may lead planners into areas they don’t want to go, he has also helped in far more conventional ways, such as suggesting that they rent out one house when they’re not in residence to help cover some of the expenses of owning two homes. Coupled with the doctor’s reduction of hours to half what they were, and the wife’s effort to raise her own income without working substantially more hours, they are more easily making their way through this transition period. Kinder has also suggested that they stop retirement contributions–much of their savings was in retirement plans–and he is currently evaluating the wisdom of applying early for Social Security versus waiting. He has also arranged for postponement of income into future years.

Bend in the Road

There’s a lot to be considered when life presents clients with unexpected and unwanted “lemons” in the form of layoffs, medical catastrophes, or market losses. Some make lemonade, and some just sour on life. Steven Kaye, a planner with American Economic Planning Group in Watchung, New Jersey, has a number of stories to tell. “Ninety percent of our clients have comprehensive financial and estate plans in place before we start,” he points out. When trouble hits those clients, they are less affected, and can handle it better. But even when a client is prepared, there are steps a planner should take.

Kaye cites one former client, in corporate computer sales, who was living to the limit of her $350,000 annual income even as her husband, a court officer, was about to retire on a $60,000-a-year pension. During the market downturn, her income dropped to $150,000, but “she would not downsize her lifestyle,” says Kaye; instead she proceeded with a $100,000 renovation to the master bedroom and bathroom in their home. The rude awakening came eventually, and the couple had to sell the home (says Kaye, “The real estate market has really bailed a lot of people out”). The couple moved to Florida for the lower expenses “and for saving face,” says Kaye. “She didn’t want to be near all her friends with them knowing she had to downsize so greatly.” Moving, he says, “both removes embarrassment–of course it’s ridiculous and all in their minds–and lowers housing costs.” Once in Florida she stayed true to form: instead of getting a new high-end Mercedes convertible, “she got the convertible coupe because it’s only $60,000,” Kaye relates. “They’re in denial; they keep doing the same thing and expecting a different result.”

One expense she no longer has is Kaye’s fee. “We had to fire her,” he recalls. “She just wouldn’t listen to us.”

On the flip side is another client couple, older people who actually won the lottery, says Kaye. “He made $50,000 a year as manager of some store,” Kaye remembers, “and about 17 years ago he invested $10,000 in one of those satellite lotteries and got $5 million. But it was in court for 15 years, and he wound up netting $3 million. They bought a big house, had a quarter of a million in expenses, and they were so happy. They had made this new lifestyle, and started pushing it toward the edge; they won the game they never expected to win.” When the market started to sour, he says, they didn’t want to lose their winnings. They had Kaye reduce the equity in their portfolio from 50% to 40% and then to 35%, even against Kaye’s advice (“they had enough liquidity”); they told him they wanted to be extra careful and they proceeded to slash their expenses.

Phil Toffel, a planner and attorney with Weston Financial in Wellesley and Marblehead, Massachusetts, uses some sophisticated strategies to protect assets from the vagaries of the market or of clients themselves. While Toffel labels himself as conservative and cites his asset allocation strategies that back that up, he points out that he’s worked hard to lock in profits that otherwise could vanish as easily as they came. He says that’s due to his “really doing homework on sector allocation, industry allocation, a proper focus on value and not only on growth.”

In addition, he says, he does “some non-leveraged hedging to protect the downside, whether it’s owning puts or a particular mutual fund that owns certain hedging positions.” And while many of his clients are in non-qualified deferred compensation plans, with aggressive deferral of salary and bonuses into those plans, he is concerned about their general creditor status with respect to the company’s obligations. Before the events of the last year or so, he says, it was harder to get clients to pay attention to those concerns. Now they are more willing to listen when he discusses how a client may dispose of shares of company stock without affecting the share prices of that stock, or how they can otherwise diversify without carrying such a high concentration of company stock.

Long-term care insurance, charitable trusts, family partnerships, and residence trusts are also arrows in his quiver, particularly when helping a client plan for elderly parents or future generations. Planning while money is still available to fund such objectives is always better than trying to repair damage. “We step back and look at it on a multigenerational basis,” says Toffel.

Biting the Bullet

Younger people, says Kaye, have particular challenges to overcome. “Our clients over age 50 and over 60 are much smarter, more realistic, and less materialistic than the younger nouveau riche,” says Kaye. “There are a lot of stupid successful people.” He cites an instance of someone who was president of a big company that was bought by a public company; the former president suffered financially in the transition, and he “sold his house and is renting a townhouse, but they won’t give up the membership at the golf course, and they’re still sending one child to a private academy for $25,000 a year.” The couple even had an “estate sale,” not a garage sale, to sell their furniture, says Kaye–but they’re keeping the golf membership.

When clients choose not to listen, there’s not much a planner can do. But when they need your help and are willing to listen, what sorts of strategies can you employ to help them cope with a job loss, a crippling medical expense, extensive portfolio losses, or a change in focus that has made their previous life seem somehow irrelevant?

There’s plenty you can do. Planners can figuratively hold clients’ hands through the tough times, as George Kinder does, or find them a therapist. If that’s not your cup of tea, there’s still plenty of planning strategies that can be useful to help clients deal with a drastic change in status. One of the most basic is insisting that clients actually have a financial plan done, or come in for regular updates.

“We find that a lot of people are disillusioned or in denial, or in ostrich mentality and we have to reach out to them,” says Kay. While his firm typically uses “extremely conservative” projections of five, six, and seven percent returns, the most concerned clients, he explains, “are the ones who did not have financial plans. They know it’s gotten worse. We are nudging clients to come in and reevaluate, both to give them peace of mind if they’re on track, and to spot problems. They don’t always tell us,” he notes wryly, “when they increase expenses.”

He tells of one client couple just now retiring, with $1 million in investable assets, who refused to do a financial plan. Says Kaye, “We finally convinced them, and found that their money will only last to age eighty-two. They get $24,000 from Social Security, and their income needs are $75,000.” To make up the additional $51,000, they need an annual return of 8%, but Kaye says he’s not comfortable with that amount. Now that this couple has “pulled their heads out of the sand,” Kaye says, they can figure out what to do. One way is to push back retirement. Another is to have them reevaluate their gifting and other expenses.

Then there’s the relocation issue. Both Kinder and Kaye have suggested it to clients to cut expenses and to help with a lifestyle change. Kinder tells of a client couple he had some years ago, a classical music professor and a physician, who loved music and wanted to spend more time with that important aspect of their lives. They had a home in a wealthy area of Boston and could not afford to downsize their careers while living there, due to the cost of living. They bought a home in Kansas City for a third of the price of their home in Boston, and were able to “capture an extra $300,000-$400,000.” The move had the added advantage of relocating them near family. They improved their quality of life, made room for one of their dreams, and grew closer to their family, all in one move.

Says Kaye, “People are keeping cars longer. In general, people are improving their homes rather than selling and upgrading. People are more open to bond allocations, instead of fighting with us as they did a few years ago–’What are you, crazy, Steve? Investing at 7%?’ We don’t hear that any more. We’re seeing people reevaluate their living expenses–we spend a great deal of time with people on their living expenses–what do I need now, what do I need later, what do I need in a disability or a survivor situation.”


What does a planner have to do to a portfolio when a client is suddenly low on income? The whole portfolio has to be rethought. One area to examine, says Kinder, is the retirement plan. Many couples must dramatically shift what they’re doing, he says, cutting out massive contributions to retirement plans to allow for current cash flow. He cites a client couple with a six-figure income and no free cash; it was all “stuck in the retirement plan.” For clients who have a choice about when to downsize, he points out that moving toward downsizing can take a year or longer. One client worked an additional two years instead of putting money in a retirement plan, banking the cash.

There are plenty of other issues to consider in accommodating lower income, including estate planning, insurance, and investments. “If you’re going from $250,000 [in income] to $60,000,” he points out, “there’s some interesting tax planning that can come up.”

Kinder recalls another client couple that was concerned about being able to finance graduate school for their kids. “One of the issues was whether the couple wanted to,” says Kinder, “since it would impact their ability to retire early.” And then there was a debate about what kind of higher education to support. “Their general sense was that if the kids wanted to pursue business, law, or medical school, they could get a loan.” Conventional careers such as those are more easily financed, since the salaries after graduation will enable the graduate to pay off the loans more easily. One parent was particularly interested in supporting a higher education in the arts, but the other parent was not as supportive. In the end, they chose to buy extra life insurance.

Speaking of insurance, one question to answer is how necessary insurance will be in a downsized lifestyle. It depends on the clients’ needs, their level of wealth, and their goals. Some goods will still need to be protected, such as homes, but if they downsize perhaps their insurance coverage can downsize too.

Then there’s the investment mix. “If you are seriously reducing income,” says Kinder, “you can’t rely on saving to build up your investment pool, and therefore your cash available is much more sensitive to market rises and falls.” Investments can be restructured to bring in income, rather than just appreciate in value.

Kinder also points out that in the more conservative portfolio that can protect a person’s assets, “that person may be 30%-40% in bonds or alternative investments that don’t correlate with the [general stock] market.” When you look at the long term, he points out, you can’t time the market, and need something “steady and simple. We may move a very complicated stock portfolio to a very simple mutual fund portfolio. You have to consider whether they should buy, sell, or hold, and what each [course of action] will do to their tax situation.”

And while you’re on the subject, you could help clients figure out what kind of budget they could live on, says Kinder. “It’s financial planning for people who are living a basic level of existence,” he says. Many who want to downsize (rather than being forced into it) need help in contemplating what sort of lifestyle they will have on less money. Many people never consider what life will be like without all the little extras that they take for granted on a high salary until it’s too late, and then the stress factor mounts.

And that can lead to another kind of planning: divorce. Says Kaye, “We’re finding the divorce work increasing. I think that certain marriages were on the borderline, and as long as there was enough money for everyone to do as they wanted, it stayed on the borderline, but all the extra anguish and concern heightens emotions and certainly contributes to disharmony.” He’s seen about a dozen divorces in the last six or eight months, Kaye says. “That’s a lot for a client base of four hundred families,” he notes. Most were people whose incomes rose dramatically in the 1990s and dropped dramatically in the last two to three years–almost all people employed by tech companies. Typically, he says, people with incomes in a range of $275,000 to $400,000 who have seen those drop to $100,000 to $175,000 are the ones who feel it the most.

Whether you’re helping a distressed client find a way out of a financial dilemma or an idealistic one find a way out of the rat race, remember that the most important thing to consider is that there’s nearly always more than one way to accomplish your purpose. Thinking creatively on behalf of your clients can enable you to come up with some truly brilliant solutions that can salvage their peace of mind, set them on a new road to security (albeit a back road, perhaps), and maybe even make you find other ways to conduct your own business and plan your own life for greater contentment.


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