I consider a significant part of my value offering to clients to be the unique financial planning analysis I provide. Moreover, the specific tool I use for this has evolved a great deal over the past several years. Each page of the output contains very useful information without a lot of “fluff” which is so common in many of the “out-of-the-box” tools on the market today.
After all, the better the information, the better the decision , and good-decision making adds real value.
Many of us create a customized plan or analysis for our clients. But what frequently happens is the plan ends up on a shelf or in a filing cabinet rarely to be referenced again. Just as the initial plan was important for gaining a perspective on a client’s financial situation, future plan revisions are equally important. Just as the initial plan provides a point-in-time analysis, future plans allow the client and planner to compare projections to actual results and track progress toward the client’s desired goals. . Therefore, planning is not a static exercise, but a very dynamic one
Last week, I spent some time updating a client’s financial plan and compared it to the initial plan created a little over two years ago. There is a question on the table for this particular client: “Should I pay cash or finance our second home?” Without planning, you might base this decision on whether or not your investment return is expected to exceed the mortgage rate. That’s part of it, but I believe there’s more. Yes, money is cheap right now.
Allow me to digress for just a moment. It was an “easy money” policy which got us into this mess and the same policy is presented to get us out. Basically, it was Washington’s desire to create homeowners from lower-income individuals and their punitive threats to lenders for non compliance which changed the face of lending and Wall Street. This policy is centered on pushing loans out the door.
With an easy money policy which includes low interest rates (Keynesians arise), borrowing, when it make sense, can be a wise move. Actually, the best time to borrow is when rates are low and higher inflation is expected. Both of these conditions exist today. Now let’s get back to my client.
I ran three scenarios: Pay cash; finance for 30 years; and finance for 30 years, but pay off the loan when the client’s current house sells in three or four years. The answer? The financing options resulted in the best outcomes while paying cash was the worst. I expect the decision will come down to the client’s comfort level with debt and whether he feels the need to maximize his investments. We’ll see.
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I’m curious, I know this post was more focused on the ongoing need of updating financial plans but I have a question about your mortgage rationale.
Would you mind elaborating on why it is, in a scenario like this, you specifically believed it would be better off to finance for 4 years? I’m not questioning your decision, just curious as to what led you to the conclusion.
William,
Setting aside any bias about debt, here’s the argument for assuming debt now.
1) Money is cheap (rates are low)
2) If inflation rises after borrowing, the debtor will pay back their monthly payment, but each payment will be worth less (in purchasing power) as inflation increases.
Basically, I let the plan make the calculation with each scenario. I did not use any higher inflation assumption so number 2 above is just icing on the cake.
I hope this helps.
Mike,
If our bias is be “the best outcome for our clients”, which I strongly believe to be true, then it seems reasonable to apply heavy weight to strategies that assume a very high inflation rate in future years. This assumption may be a hard sell for many advisors to make, however, if the advisor believes that inflation will be “very high” (whatever that number might be — I am assuming it will be a devastating number), then placing the client’s best interest ahead of fears of losing him by frightening him with the real numbers of high inflation, seems appropriate.
I have been successful in convincing my clients of the need for using a defensive strategy and have been doing so since 2006, which has provided support for their trust in the need. I have advised (and arranged) all of my clients who have mortgage debt to refinance (if necessary) in order to convert higher interest rates to lower and to eliminate any interest that floats or balloons, due to my belief that “very high” inflation will allow a pay-off at some point with very cheap dollars.
Now, I believe, is an era when we may serve our clients best by protecting them from inflation loss rather than attempting to capture stock market gains when the government socioeconomic policy is so anti-recovery.
Bill