Sometimes, even the best spreadsheets miss the mark. That’s because investors, while typically seeking the best possible investment return, may have values or beliefs that can supersede financial recommendations that only consider hard numbers.
With that in mind, advisors seeking to strengthen their client relationships should be prepared to help investors understand their options for making financial decisions that are compatible with their values, beliefs, and fears, even if the final outcome may result in less than optimal investment strategies.
For example, while many investors may view interest expenses as a necessary cost of acquiring a home mortgage, not every client will share that belief. For example, some clients may be taken aback to learn that they will pay more than $287,000 in interest costs over the 30-year life of a $400,000 loan with a 4% interest rate. Reducing interest expenses by making extra mortgage payments or paying off a mortgage prematurely may appear to be an attractive alternative for reducing interest expenses. Yet, the reality is that the extra money used to pay down a loan, if invested in equities, is likely to generate more than the amount that clients may save by making extra mortgage payments.
For advisors, of course, if can be frustrating to see clients dismiss the potential for investing extra cash in equities in order to make extra mortgage payments. Yet, for some clients who are strongly opposed to paying interest on loans, the extra mortgage payments may be an attractive option. In such cases, advisors should offer to run financial models that can compare the potential outcomes of making extra mortgage payments to investing the extra cash in equities.
From a pure numbers perspective, it’s likely that the extra investments in equities combined with the tax deductions from interest payments over the long term will be more attractive than the reduced interest costs that can result from making extra mortgage payments.
Yet, the model assumes that clients are willing to take the risk that their investments will generate a return that exceeds their interest costs. Not all investors are willing to take on such risk. And, some clients, regardless of the appeal of potential investment returns from equities, have such a strong aversion to paying interest on debt that they will scoff at the notion of making only scheduled mortgage payments.
For such clients, advisors should accept that they have helped their clients understand the possible outcomes of both scenarios and that their objective isn’t just to maximize investment returns. Rather, financial planning should help clients align their financial decisions with their beliefs or values.
The financial consequence of making a mid-life career change is another example of a decision that, when viewed from a purely financial perspective, may be unattractive. Career changes, of course, can result in a salary cut that may be temporary or long-term, depending on the new vocation that a client pursues. Some clients may even choose to go back to school, which can result in tuition expenses and loss of income until the education program is completed.
In a similar manner to clients who insist on making extra mortgage payments, advisors should be willing to run models that illustrate the potential long-term impact of making career changes. For example, if the career change will result in a lower salary, then how will the reduction in income impact a client’s long-term savings goals? In analyzing the potential career change, advisors should consider that their ultimate goal is to help clients understand if the decrease in income is a suitable tradeoff for a new career that may be more gratifying or fulfilling.
Over the long term, helping individuals think through both the financial and non-financial consequences of their decisions is likely to be a powerful way of strengthening client relationships. Clients will appreciate that their advisor helped them not only understand the consequence of their decisions, but how their values and belief influence those decisions.