Three common cases of bad financial advice

Non-investing personal finance issues including insurance, credit, real estate, taxes, employment and legal issues such as trusts and wills.
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SpringMan
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Three common cases of bad financial advice

Post by SpringMan »

Amanda Drury interviews Suzie Orman. Bogleheads will agree with case #1 (avoid whole life), disagree with case #3 (avoid bond funds), and maybe somewhat agree with case #2 (bad time to buy SPIAs because of low rates).
http://finance.yahoo.com/blogs/talking- ... 59669.html
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ruralavalon
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Re: Three common cases of bad financial advice

Post by ruralavalon »

I hate to admit she's about right. (1) Whole life is almost never a good idea, keep insurance and investing separate. (2) With interest rates so very low, its a bad time to buy SPIAs, so if you need one wait until rates go up. (3) Mostly wrong about avoidng bond funds because of rate risk and because of lack of a maturity date.

By the way for four years or so everyone has known that interest rates are about to go up soon. Is that an example of "old news", or just an instance of a prediction thats bound to come true someday but we're not sure when?

Still irked at her insistance that everyone should have a Roth IRA with never a mention of tIRAs or a tax deduction, and her constant harping about every person on the planet needing a living revokable trust without ever saying why or even what that is.
Last edited by ruralavalon on Fri Sep 13, 2013 6:26 am, edited 1 time in total.
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Re: Three common cases of bad financial advice

Post by dpbsmith »

I don't think the immediate annuity advice is on track. It is making the mistake of considering insurance as an investment instead of as a risk management tool. If you analyze insurance as an investment, you would never buy any insurance at all; it is always advantageous to the insurance company and disadvantageous to you. I pay my homeowner's insurance premiums every year, and it is my sincere hope that this will all be totally wasted and that I will never make a single claim, lose all of the money I send them in premiums, and get a -100% return on this investment.

The decision-making process that needs to be made with insurance is, first, is there a good fit--is this a risk I really need to manage, and does the insurance target the risk I actually have? Term life insurance is often a good fit because it is efficiently, totally targeted at a risk that many people have. Whole life is not because most of the money that is put into it is diverted to an irrelevant purpose that isn't risk management.

For an immediate annuity, the comparison that needs to be made has nothing to do with interest rates. Assuming in both cases that withdrawals increase to match inflation, the decision is between:
  • is between an inflation-adjusted immediate annuity that even with current rates pays more than 4% of the premium the first year and increases with cost of living, for life, with no market risk but nothing to leave to kids, and
  • withdrawals from a portfolio, with a traditional 4% rule-of-thumb that is increasingly being seen as unsafe, with a statistical expectation of a much higher "family total."
That is, with the portfolio, you are making a sacrifice in terms of either using much less than 4% yourself (e.g. with a "dividends-only" strategy) or taking a noticeable risk of running out of money, in order to leave your kids an inheritance of larger but very uncertain size.

Comparisons with what immediate annuities paid in the past or what you think they will pay in the future are irrelevant, because you don't have the option of buying an annuity ten years ago. Comparisons between the same annuity across different companies are highly relevant, but are so close as to give credence to the idea that the insurance company's "load" is relatively small.

The effect of interest rates is relatively small because interest earnings on investments are not where the annuity payments are mostly coming from.

A chart from Fidelity I found and posted some time ago is relevant. The effect of lower interest rates is to shrink only the blue portions of the bars.

To the extent that mortality credits, which are the reason for buying an annuity, increase with age, one can say that lower interest rates might suggest deferring the purchase of the annuity to an older age.

Image
Last edited by dpbsmith on Fri Sep 13, 2013 6:32 am, edited 1 time in total.
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ruralavalon
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Re: Three common cases of bad financial advice

Post by ruralavalon »

dbsmith wrote:To the extent that mortality credits, which are the reason for buying an annuity, increase with age, one can say that lower interest rates might suggest deferring the purchase of the annuity to an older age.

I wish I'd said it that way instead of the way I just did. Still wouldn't buy one now, but its both age and interest rates that I'm waiting for a change in. About 9 years ago we looked at SPIAs, but decided not to buy and decided to reevaluate around age 70 which is 2 more years.
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Re: Three common cases of bad financial advice

Post by Rodc »

dpdsmith,

Very nice exposition. My only question/quibble is the 4% threshold. Since the 4% is not guaranteed from the portfolio, just as 4% is the old max withdrawal rate "rule" (i.e. Trinity Study) was just a rough rule of thumb written in pencil and requiring adjustments through out retirement, I would think in considering an annuity 4% would just be a rough rule of thumb for starting to think about annuities. Likely better to be somewhat flexible based on income needs, ability to handle risk, etc.
We live a world with knowledge of the future markets has less than one significant figure. And people will still and always demand answers to three significant digits.
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Re: Three common cases of bad financial advice

Post by bsteiner »

ruralavalon wrote:... Still irked at her ... constant harping about every person on the planet needing a living revokable trust without ever saying why or even what that is.
Some people do, most don't. The same could be said for for most prescription drugs.
Bill M
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Re: Three common cases of bad financial advice

Post by Bill M »

Granted annuities costs more when interest rates are low, as they are today. But isn't waiting for higher rates an example of the "market timing" taboo?

I can buy the annuity now and do OK, or I can wait and do better.
I can buy that stock now and do OK, or I can wait and do better.
What's the difference?
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Re: Three common cases of bad financial advice

Post by manwithnoname »

Problem with Suzy Orman's advice is that she is playing to a national audience and can only make generalized statements about financial planning that fit into a 30 second sound bite. Financial planning does not have a one size fits all playbook which most of the financial gurus ignore. Living trusts are appropriate in states which have complex or expensive probate procedures such as CA an FL. If the procedure is simple and there are no disputes between the beneficiaries a simple probate can beat the cost of living will. I recently probated a will in a NY surburb that cost only $2200 for both the attorney fees and probate filing fee. Letters were issued 3 weeks after submission with no questions asked. No need to appear before the court. Everything was delivered by regular mail. What Suzy isn't telling you is that living trusts do not eliminate collateral duties such as filing estate tax returns, administrative time spent in retitling assets such as saving bonds which require use of a bank certification, transferring assets to the trust, income tax returns, selling a home, etc. which take up a considerable amount of time
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Re: Three common cases of bad financial advice

Post by bsteiner »

manwithnoname wrote:... Living trusts are appropriate in states which have complex or expensive probate procedures such as CA an FL. If the procedure is simple and there are no disputes between the beneficiaries a simple probate can beat the cost of living will. I recently probated a will in a NY surburb that cost only $2200 for both the attorney fees and probate filing fee. Letters were issued 3 weeks after submission with no questions asked. No need to appear before the court. Everything was delivered by regular mail. What Suzy isn't telling you is that living trusts do not eliminate collateral duties such as filing estate tax returns, administrative time spent in retitling assets such as saving bonds which require use of a bank certification, transferring assets to the trust, income tax returns, selling a home, etc. which take up a considerable amount of time
You are correct that probating the Will is generally a very small part of the estate administration.

I practice in NY, NJ and FL. The work involved in probating a Will and dealing with the court is about the same in FL as it is in NY, and I'm doing it by mail from my office in NY. I don't know why so many people think it's more difficult in FL. The one exception is that FL requires that the personal representative (executor) be either a relative or a FL resident. So if someone moves to FL and wants, say, his/her accountant from his/her former home state, as the personal representative, the most common workaround is a revocable trust.
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Re: Three common cases of bad financial advice

Post by tadamsmar »

Actually she says to substitute bonds for bond mutual funds:

"If you need income and you want to invest in municipal bonds, for instance, buy individual bonds. But, stay away from bond mutual funds"

Does that make sense?
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Re: Three common cases of bad financial advice

Post by SpringMan »

tadamsmar wrote:Actually she says to substitute bonds for bond mutual funds:

"If you need income and you want to invest in municipal bonds, for instance, buy individual bonds. But, stay away from bond mutual funds"

Does that make sense?
It makes sense for her. She has enough money to buy enough individual municipal bonds enabling her to be well diversified. It does not make sense for small net worth investors unless they are buying individual treasuries where diversification is not an issue.
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Re: Three common cases of bad financial advice

Post by Tamahome »

ruralavalon wrote: and her constant harping about every person on the planet needing a living revokable trust without ever saying why or even what that is.
As an attorney who creates these for people, I will say this is VERY bad advice. When the guy that makes money from doing something says most people do not need it in his area, you can bet that is correct. In Georgia, at least, many people are better off WITHOUT a living revocable trust (as cost is often not justified in comparison to benefit). That is not to say that it is never appropriate, but that most people in this state would not do well to listen to that advice.
I'm not a financial professional. Post is info only & not legal advice. No attorney-client relationship exists with reader. Scrutinize my ideas as if you spoke with a guy at a bar. I may be wrong.
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Re: Three common cases of bad financial advice

Post by jackholloway »

ruralavalon wrote: [...]Still irked at her insistance that everyone should have a Roth IRA with never a mention of tIRAs or a tax deduction.[...]
To be fair, most of her audience pays relatively minimal taxes. Their marginal rates may be middling, but they are often not far into that bracket, so the total size of the deduction is not going to be huge, and if they are maxing out their contribution, they will get a larger fraction of gross socked away with a Roth IRA than tIRA.

A quick google search shows that being in the top ten percent of earners takes roughly $120k-ish in annual income. High earners often have advanced educations and access to financial advisors and CPAs. (This matters because any college graduate should have sufficient math and reading skills to handle Boglehead-level financial advice.) If you are in that group, you are not her target audience.

Someone earning a standard deviation above the median or less, on the other hand, is in her target audience. If that audience follows her advice on saving, they will have a substantial retirement income, and may well be in a higher bracket in retirement than before, especially given historical tax rates over the last sixty years.
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Re: Three common cases of bad financial advice

Post by manwithnoname »

bsteiner wrote:
manwithnoname wrote:... Living trusts are appropriate in states which have complex or expensive probate procedures such as CA an FL. If the procedure is simple and there are no disputes between the beneficiaries a simple probate can beat the cost of living will. I recently probated a will in a NY surburb that cost only $2200 for both the attorney fees and probate filing fee. Letters were issued 3 weeks after submission with no questions asked. No need to appear before the court. Everything was delivered by regular mail. What Suzy isn't telling you is that living trusts do not eliminate collateral duties such as filing estate tax returns, administrative time spent in retitling assets such as saving bonds which require use of a bank certification, transferring assets to the trust, income tax returns, selling a home, etc. which take up a considerable amount of time
You are correct that probating the Will is generally a very small part of the estate administration.

I practice in NY, NJ and FL. The work involved in probating a Will and dealing with the court is about the same in FL as it is in NY, and I'm doing it by mail from my office in NY. I don't know why so many people think it's more difficult in FL. The one exception is that FL requires that the personal representative (executor) be either a relative or a FL resident. So if someone moves to FL and wants, say, his/her accountant from his/her former home state, as the personal representative, the most common workaround is a revocable trust.
The reason I said that FL probate is more difficult is that is what I have been told by speakers at estate planning seminars.
See Link to FL probate fees by one firm. I don't know if its representative of probate costs.

http://www.fortenberrylaw.com/florida-probate-cost/
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Re: Three common cases of bad financial advice

Post by VictoriaF »

Perhaps, these are common cases of bad financial advice, but they are not the most common cases. Endemically bad advice (in many variations) is prompting people to take too much risk in order to compensate for insufficient savings.

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Re: Three common cases of bad financial advice

Post by manwithnoname »

VictoriaF wrote:Perhaps, these are common cases of bad financial advice, but they are not the most common cases. Endemically bad advice (in many variations) is prompting people to take too much risk in order to compensate for insufficient savings.

Victoria
The opposite is also equally true: investors without advisors don't take enough risk, e.g., invest in only Certificates of deposit, because they don't know how to allocate their assets among the different classes and also have insufficient savings when they retire.
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Re: Three common cases of bad financial advice

Post by bsteiner »

manwithnoname wrote:
bsteiner wrote:
manwithnoname wrote:... Living trusts are appropriate in states which have complex or expensive probate procedures such as CA an FL. If the procedure is simple and there are no disputes between the beneficiaries a simple probate can beat the cost of living will. I recently probated a will in a NY surburb that cost only $2200 for both the attorney fees and probate filing fee. Letters were issued 3 weeks after submission with no questions asked. No need to appear before the court. Everything was delivered by regular mail. What Suzy isn't telling you is that living trusts do not eliminate collateral duties such as filing estate tax returns, administrative time spent in retitling assets such as saving bonds which require use of a bank certification, transferring assets to the trust, income tax returns, selling a home, etc. which take up a considerable amount of time
You are correct that probating the Will is generally a very small part of the estate administration.

I practice in NY, NJ and FL. The work involved in probating a Will and dealing with the court is about the same in FL as it is in NY, and I'm doing it by mail from my office in NY. I don't know why so many people think it's more difficult in FL. The one exception is that FL requires that the personal representative (executor) be either a relative or a FL resident. So if someone moves to FL and wants, say, his/her accountant from his/her former home state, as the personal representative, the most common workaround is a revocable trust.
The reason I said that FL probate is more difficult is that is what I have been told by speakers at estate planning seminars.
See Link to FL probate fees by one firm. I don't know if its representative of probate costs.

http://www.fortenberrylaw.com/florida-probate-cost/
If you go to the free dinner seminar and you're the one who buys the annuity, the living trust, the timeshare, or the bridge, not only did you pay for your free dinner, but you just paid for the free dinners for everyone else in the room.

The link you posted shows the statutory schedule of presumed reasonable attorneys' fees for an estate in Florida. There is a similar statutory schedule of presumed reasonable attorneys' fees in Florida for a revocable trust, and that schedule is 75% of the one for an estate. In addition, if there's a Federal estate tax return, the presumed reasonable fee is an additional 0.5% for the first $10 million of the gross estate and 0.25% above $10 million. Here is the statutory schedule for estates: http://www.leg.state.fl.us/Statutes/ind ... .6171.html. Here is the statutory schedule for trusts: http://www.leg.state.fl.us/statutes/ind ... .1007.html.

We generally handle estates on a time basis. It usually comes out substantially lower than the statutory schedule, though it can vary considerably since a large estate can be relatively simple and a smaller estate can be relatively complicated. Our fees are generally about the same regardless of whether there is a revocable trust, since probating the Will is usually a very small part of the estate administration.

Note that the statutory schedule allows for adjustment for "extraordinary services," which is broadly defined to cover things that I would consider routine, such as tax advice.
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Re: Three common cases of bad financial advice

Post by ruralavalon »

SpringMan wrote:
tadamsmar wrote:Actually she says to substitute bonds for bond mutual funds:

"If you need income and you want to invest in municipal bonds, for instance, buy individual bonds. But, stay away from bond mutual funds"

Does that make sense?
It makes sense for her. She has enough money to buy enough individual municipal bonds enabling her to be well diversified. It does not make sense for small net worth investors unless they are buying individual treasuries where diversification is not an issue.
I too have enough to use individual bonds, and do. But smaller investors need bonds in some form and need to use bond funds, which do work well in spite of what she says.
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Re: Three common cases of bad financial advice

Post by dandan14 »

Very insightful.
dpbsmith wrote:I don't think the immediate annuity advice is on track. It is making the mistake of considering insurance as an investment instead of as a risk management tool. If you analyze insurance as an investment, you would never buy any insurance at all; it is always advantageous to the insurance company and disadvantageous to you. I pay my homeowner's insurance premiums every year, and it is my sincere hope that this will all be totally wasted and that I will never make a single claim, lose all of the money I send them in premiums, and get a -100% return on this investment.

The decision-making process that needs to be made with insurance is, first, is there a good fit--is this a risk I really need to manage, and does the insurance target the risk I actually have? Term life insurance is often a good fit because it is efficiently, totally targeted at a risk that many people have. Whole life is not because most of the money that is put into it is diverted to an irrelevant purpose that isn't risk management.

For an immediate annuity, the comparison that needs to be made has nothing to do with interest rates. Assuming in both cases that withdrawals increase to match inflation, the decision is between:
  • is between an inflation-adjusted immediate annuity that even with current rates pays more than 4% of the premium the first year and increases with cost of living, for life, with no market risk but nothing to leave to kids, and
  • withdrawals from a portfolio, with a traditional 4% rule-of-thumb that is increasingly being seen as unsafe, with a statistical expectation of a much higher "family total."
That is, with the portfolio, you are making a sacrifice in terms of either using much less than 4% yourself (e.g. with a "dividends-only" strategy) or taking a noticeable risk of running out of money, in order to leave your kids an inheritance of larger but very uncertain size.

Comparisons with what immediate annuities paid in the past or what you think they will pay in the future are irrelevant, because you don't have the option of buying an annuity ten years ago. Comparisons between the same annuity across different companies are highly relevant, but are so close as to give credence to the idea that the insurance company's "load" is relatively small.

The effect of interest rates is relatively small because interest earnings on investments are not where the annuity payments are mostly coming from.

A chart from Fidelity I found and posted some time ago is relevant. The effect of lower interest rates is to shrink only the blue portions of the bars.

To the extent that mortality credits, which are the reason for buying an annuity, increase with age, one can say that lower interest rates might suggest deferring the purchase of the annuity to an older age.

Image
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Re: Three common cases of bad financial advice

Post by joe8d »

Along the same line, does anybody else get the "Jill on Money" radio show? Jill Schlesinger seems to provide very good advice.
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Re: Three common cases of bad financial advice

Post by heyyou »

Annuities are often discussed as though the decision is made once, and either all or nothing. None of those is correct. Why are annuities not considered as just another slice of a multi-slice portfolio for the age 70+ investors?
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Re: Three common cases of bad financial advice

Post by VictoriaF »

manwithnoname wrote:
VictoriaF wrote:Perhaps, these are common cases of bad financial advice, but they are not the most common cases. Endemically bad advice (in many variations) is prompting people to take too much risk in order to compensate for insufficient savings.

Victoria
The opposite is also equally true: investors without advisors don't take enough risk, e.g., invest in only Certificates of deposit, because they don't know how to allocate their assets among the different classes and also have insufficient savings when they retire.
Is the opposite still true?

We've read stories of widows and orphans keeping their assets in cash in the aftermath of the Great Depression. But in the Internet age anyone who has a few extra dollars rushes into day trading, gold, and other "rushes."

Victoria
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Re: Three common cases of bad financial advice

Post by dandan14 »

joe8d wrote:Along the same line, does anybody else get the "Jill on Money" radio show? Jill Schlesinger seems to provide very good advice.
absolutely. Download the podcast and you'll get it with no commercials. She seems to be right on target.
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Re: Three common cases of bad financial advice

Post by dandan14 »

I had to spreadsheet this to get a handle on it. Originally I was going to post that it played out about the same. That the increase in yields during the holding time of the bond made up for the decrease in sales price. However, after spreadsheeting it...it really does look less advantageous to hold the fund.

Can anyone find error in my logic?
If you put 10k in a bond fund with a duration of 10 years, that means that you would expect a 10% decrease in fund NAV if rates go up 1%.

Bond fund
Duration 10
Initial yield 2%

Initial Investment $(10,000)
Year 1 2.00% $200
Year 2 2.25% $225
Year 3 2.50% $250
Year 4 2.75% $275
Year 5+Sale 3.00% $9,300 9000 sale price
IRR 0.52%
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Re: Three common cases of bad financial advice

Post by dhodson »

heyyou wrote:Annuities are often discussed as though the decision is made once, and either all or nothing. None of those is correct. Why are annuities not considered as just another slice of a multi-slice portfolio for the age 70+ investors?
Im pretty sure SPIAs are commonly discussed here for such people especially in a ladder manner. Other types of annuities not so much and usually for good reason.
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Re: Three common cases of bad financial advice

Post by Frugal Al »

dpbsmith wrote:The effect of interest rates is relatively small because interest earnings on investments are not where the annuity payments are mostly coming from.
Yes, an SPIA is a type of insurance. Still, getting the best deal on the insurance can make a big difference in its effectiveness as a financial tool. If one considers an SPIA purchased just a few months ago with a payout of 6.65% vs an annuity that will probably be available within a couple years time of perhaps an 8% payout (or more), I don't think a 20%+ payout increase is "relatively small," unless I'm a sales person trying to sell annuities at a time of low interest rates. In just the last 6 months payouts are up 6%. Obviously, if someone needs an annuity they may not have the luxury of waiting--laddering is an option.
Last edited by Frugal Al on Sun Sep 15, 2013 11:20 am, edited 1 time in total.
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Re: Three common cases of bad financial advice

Post by ruralavalon »

heyyou wrote:Annuities are often discussed as though the decision is made once, and either all or nothing. None of those is correct. Why are annuities not considered as just another slice of a multi-slice portfolio for the age 70+ investors?
Our current plan: At around age 70 we will reconsider buying a joint and survivor SPIA to fund our basic necessary expenses net of our social security benefits (we had considered buying a joint and survivor SPIA about 11 years ago, but decided not to buy then). The rest of the portfoio would remain invested, in whatever asset allocation seems reasonable then.

I've seen this idea mentioned here before. example
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