Poster
presented at the Association for Financial Counseling and Planning Education
meeting, November, 2000
ESTIMATING
THE VALUE OF FINANCIAL PLANNING
Sherman Hanna,
Ohio State University
1
Assistant Professor, University of Wisconsin-Madison
Lovett, Graduate Teaching Associate, Ohio State University
Graduate Teaching Associate, Ohio State University
Members of the International Association
for Financial Planning serve 1.5 million households (Votava, 1999) but
there are 102 million households in the United States (U. S. Census, 1999).
Even though many millions more are served by members of other financial
planning organizations or receive financial planning help from insurance
agents, stock brokers, and other sources, it is likely that a large majority
of Americans are not getting help. The Certified Financial Planner Board
of Standards (1999b) describes the financial planning process in the following
way
The
process involves gathering relevant financial information, setting life
goals, examining your current financial status and coming up with a strategy
or plan for how you can meet your goals given your current situation and
future plans.
Increasingly, households can obtain traditional
financial products directly, by calling a toll-free number or obtaining
insurance, mutual funds, and stock trades over the Internet. One
issue important for many financial planners is justification for charging
fees or earning commissions from products sold to clients. The purpose
of this poster is to report of the results of student estimation of the
value of financial plans to clients.
Description
of the Financial Planning Course
The course we describe is the fourth
and final course in a four-course personal finance sequence. The goal of
the first course is to provide fundamental understanding of concepts related
to personal finance, including time value of money, tax planning, credit
use, personal accounting, investment strategies, and retirement planning.
The second course begins application of the information from the first
course by having the student create a financial analysis of a hypothetical
family throughout the life cycle. Students have seven different assignments
for the quarter which they present weekly in small groups. The students
are expected to critique each other’s work so that the assignments can
be revised for the final project in which the student provides detailed
assessment of the client’s financial life-cycle, and to provide each student
more experiences diversity of client situations . In this course students
begin to become acquainted with use of spreadsheet templates and other
computer software which are used in the fourth course.
The third course concentrates on tax planning
including income and estate tax planning. Students learn how to apply tax
laws to client situations including small businesses in order to minimize
tax liability. Students develop understanding of tax calculations including
use and limitations of deductions. In the latter part of the course the
attention moves to estate taxes. Students are shown different strategies
for reducing estate taxes such as trusts and gifting. They are expected
to be able to show in dollars how their strategies can be effective. Certified
Financial Planners, Certified Public Accountants, and attorneys give guest
lectures and work with the students to show the students how specialists
work as part of a team..
The rest of this paper will focus on the
fourth and final course. We require that each student work with a client
household to develop a comprehensive financial plan. We encourage students
to find a client before the quarter starts. Many students choose to use
their parents, other relatives, or friends. Structured assignments are
due each week during the 10 week quarter, with a draft of the plan due
at the beginning of the ninth week. There is a two hour lecture each week,
reviewing concepts (most of which students have been exposed to in previous
courses) and explaining upcoming assignments. At weekly one hour small
group sessions, each student makes a presentation and distributes handouts,
and then is assigned to complete a structured critique of another student’s
presentation .
Criteria
for Selecting Client Households
We provide criteria to guide students
in selecting a client household. First, students must choose a client who
is not living with them, although they could use a relative or friend.
Second, clients must be independent of parents, and living alone or with
a partner. Also, the client should not be a financial planner. The final
criterion is that the client has to be at least 27 years old and/or have
a household income of over
$30,000. This last requirement is included to reduce the number of student
households that are used as clients.
We require students to give a prospective
client two documents to read. The first is the Client Agreement form (Appendix
1). This agreement stipulates that the client will provide the needed information
and documents for the financial plan. The agreement also has a general
disclaimer absolving the academic program of any liability that may result
from implementation of the plan. The second document is a list of all of
the information needed for the plan (Appendix 2). Some individuals may
not be comfortable turning over documents such as investment account statements
and tax forms so the list is given ahead of time to reduce the chance that
a client will back out during the quarter.
Each time the course has been offered,
there is considerable diversity in client characteristics. The diversity
of clients makes the issue of equal workloads and learning experiences
important to consider. The complexity of the analysis can vary greatly
between clients at the different ends of the distributions for net worth,
income, life cycle, and age. In order to reduce incentives for choosing
simple client households, we announce that grading of assignments will
take the difficulty of the client situation into account.
Since each student only works with one
client per quarter, it is important that every student be exposed to some
of the challenges faced by the other students working with a different
client. For example working with a client who is young with no investments
and has 30 years until retirement is very different from working with a
55 year old client with a net worth of $500,000. We devised two methods
to encourage students to think intensively about a variety of clients,
weekly group meetings with critiques, and final exam questions based on
student reports. We describe these methods below.
Weekly
Assignments
Each week students complete one aspect
of the financial plan for their clients. There are nine distinct assignments
(Appendix 3) which involve information gathering about the clients and
using the information to form conclusions and recommendations for the client.
The assignments include obtaining goals from the clients, constructing
financial statements, projecting household income, evaluating risk management,
completing a retirement plan, analyzing the investment portfolio and making
generic recommendations, and analyzing estate planning issues relevant
to the household.
Procedures
for Weekly Group Meetings
Once a week the students meet in small
groups (typically seven students) led by instructors, graduate students,
or an undergraduate student who had previously taken the course. Students
prepare handouts based on templates available on the course web site for
that week’s assignment. They provide copies for everyone in the group.
Each student gives an oral presentation about the current assignment being
done for the client household. The group leader grades each assignment
for accuracy and correctness of the analysis, using a structured grading
guide. The leader grades each presentation based on delivery and on the
organization and clarity of the handout. The presentations are designed
to help students become comfortable speaking in small groups and having
confidence in their analyses, as well as to obtain feedback from the group
leader and other students.
At the end of the session the leader assigns
each group member another student to critique. (By waiting until the end
of the session to assign critiques, students pay attention to every presentation.)
For each critique, we provide specific questions about the assignment and
specific items to verify for accuracy such as time value of money calculations.
The presentations and critiques are important for several reasons. First,
given the wide range of client households in the course and in the presentation
groups, it is in the student’s best interests to be exposed to as many
different types of clients as possible. Group leaders attempt to assign
critiques based on differences in complexity, for instance, assigning someone
whose client uses the standard deduction to critique someone whose client
has a complex income tax situation. The nature of the critiques is for
the student to evaluate their colleagues’ analyses, including checking
any financial calculator/spreadsheet work and commenting on their recommendations.
This helps to address the previously mentioned issue of comparable application
of concepts given the diversity of the clients. Second, in most careers
an individual needs to be able to react to suggestions and criticisms of
work as well as be able to evaluate the work of others. The students use
suggestions from the critiques and their group leader’s comments to revise
the assignments for the final project due at the end of the quarter.
Comprehensive
Financial Plan
Students are required to turn in a rough
draft of comprehensive financial plan for their clients a week before the
end of the term, then revise it based on instructor feedback. They then
turn in the plan plus corrections to weekly assignments, including a detailed
list of responses to student critiques and instructor comments. The students
are encouraged to follow the general outline of some example plans posted
on the course web site.
Results from a Recent Quarter
Basic
Demographics
Enrollment in the financial planning
course has grown substantially, but the client household characteristics
for Spring Quarter, 2000 are generally similar to previous quarters. There
were 100 client households, although some information was missing for one
or two clients. Students typically persuaded relatives, friends, or co-workers
to be clients. Table 1 shows the distribution of some demographic characteristics.
Almost half (49%) of the clients were single, and only 30% had one or more
children under the age of 22 at home. Ages of household heads ranged from
21 to 76, with a median of 32.
Table 2 shows the distribution of income
and net worth. Household gross income in 1998 ranged from $8,839 to $188,440
per year, with a median of $45,115. Projected 1999 income ranged from $19,
615 to $194,000 per year, with a median of $52,276. In some cases, the
client had graduated from college in 1998 and started working full-time.
Household net worth on 12/31/97 ranged from -$52,181 to $1,246,343, with
a median level of $37,731. Household net worth on 12/31/98 ranged from
-$26,100 to $1,555,402, with a median level of $49,152. Only a minority
of the client households were similar to typical financial planner clients.
Retirement
Planning
Table 1 shows the distribution of planned
retirement ages. Four household heads were retired and the median planned
retirement age for the rest was 61. Students asked clients what their desired
level of spending was in terms of today’s dollars, and the median level
was $47,640, compared to median projected 1999 spending of $29,000. The
desired retirement spending was used as a basis for estimating retirement
adequacy. Students attempted to obtain the Social Security PEBES for their
clients, but estimates from the Life Cycle Savings program (Hanna, Fan,
& Chang, 1995) were probably more reasonable for younger clients because
they took into account projected real income increases. Students also considered
other defined benefit pensions expected, although there were few such pensions
other than for clients who worked under a state pension plans. Estimated
initial aftertax defined benefit pensions ranged from zero (Social Security
retirement before 62) to $155,000 (professional athlete), with a median
of $15,000. Students calculated the gap between desired retirement spending
and pension income. There were complications on the procedures, as, for
instance, those retiring before age 62 and couples retiring in different
years had different gaps for different periods. In such cases, appropriate
multi-step present value calculations were used.
Each student used an approach similar
to the method described in Anderson, Xiao and Garman (1997, p. 373) and
also to the method described by Ho, Perdue, & Robinson (1998, p. 355).
Based on a portfolio projection with mean historical returns, 29% of the
households were adequately prepared for retirement, and based on a worst
case projection, 18% were adequately prepared. It would be difficult for
some of the clients to meet their goals with conservative investments,
but many were willing to accept the volatility of stock funds. The clients
who were least likely to have an adequate retirement based on plausible
changes in behavior were middle-aged-divorced women in low wage jobs.
For clients who were already retired,
a different worksheet was used based on the discussion in Ho, Perdue, &
Robinson (1998, p. 410). The goal was to assess the likelihood of maintaining
the current real spending level based on the client’s pensions and investment
portfolio. All four of the retired client households seemed likely to be
able to maintain their spending level because they did not have to rely
on investment income for much of their spending.
Estate
Planning
Only about 21% of the clients had wills.
Given state intestacy laws, lack of a will might not be a problem for many
of the younger clients, and even many of the older clients. In any case,
students were instructed to describe possible asset transfers to their
clients. Only five of the clients had potential federal estate tax liability
if the head or head and spouse died in the next few years. In these cases,
students were instructed to give some basic advice, and to recommend that
the client seek the advice of experienced estate planning professionals.
Value of
the Plans to Clients
At the end of each final oral presentation
we asked the student to assess the value of the plan to the client. In
many cases, students had trouble articulating the value of the plan, but
others recognized some obvious benefits. For instance, for clients eligible
for a 401(k) plan with an employer match, simply being encouraged to take
advantage of the “free money” represented by the match was an immediate
benefit. Some clients had never thought about retirement, many had little
idea where their money was going, and for many, the main goal was getting
a big refund check for their federal income taxes each year. For some clients,
the student recommended reducing the amount of federal income tax withheld
and using the increase in takehome pay to pay down high interest credit
card balances.
There were some clients with very conservative
retirement portfolios and decades until retirement, and there were others
close to retirement with everything in stock funds. In each type of case,
the student was encouraged to educate the client, pointing out the historical
record based on Ibbotson data. There were a few clients who were very knowledgeable
about family finances, investing, etc., and students concluded that the
clients had gained little from their plan.
References
American Bankruptcy Institute (1999, March
1). Bankruptcies break another record in 1998. [WWW document]. URL http://www.abiworld.org/release/98calendaryearfilings.html
Anderson, J. G., Xiao, J.J., & Garman,
E. T. (1997). Retirement planning mathematics. In E. T. Garman & J.
J. Xiao (eds.) The Mathematics
of Personal Finance. (pp. 364-383). Houston, TX: Dame Publications.
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of Economic Education, 30
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of the Association for Financial Counseling and Planning Education, pp.
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Teaching & Case Abstracts, 3
(11). [WWW document]. URL www.ssrn.com/update/fen/fenissues/fincaseVol3No11.html
Certified Financial Planner Board of Standards
(1999a). Job knowledge requirements of the Certified Financial Planner
Licensee: Topics, importance, values and target cognitive level. [WWW document].
URL: http://www.cfpboard.org/earncfp/topics.html
Certified Financial Planner Board of Standards
(1999b). What you should know about financial planning. [WWW document].
URL www.cfpboard.org/consumer/aboutfpbrocframeset.html
Chen, P. & Hanna, S. (1996). Retirement
accounts: High returns with safety, Proceedings of the Association for
Financial Counseling and Planning Education, 107-116.
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to enhance teaching and learning in undergraduate economics. Journal of
Economic Education, 30 (1), 33-42. [Also available as a WWW document].
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Hanna, S. (1997). Financial statements
and budgeting. In E. T. Garman & J. J. Xiao (eds.) The Mathematics
of Personal Finance. (pp. 118-139). Houston, TX: Dame Publications.
Hanna, S., Fan, X.J., & Chang, Y.
R. (1995). Optimal life cycle savings, Financial Counseling and Planning,
6, 1-15. [Also available as a WWW document]. URL http://hec.osu.edu/people/shanna/hanna95.htm
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in support of school reform: Lessons in the search for alternative measures.
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(1998). Personal financial planning. North York, Ontario, Canada: Captus
Press.
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Mason, J. (1985). Majoring in family financial
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Association for Financial Counseling and Planning Education, pp. 3-4.
Mason, J. (1986). Quality control for
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(1999). Retirement planning in the 21st century: A think tank sponsored
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before the U.S. Senate Committee on Finance. [available as a WWW document].
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Table 1
Selected Demographics of Client Households
| Marital status | N |
| Single | 49 |
| Married | 37 |
| Divorced | 13 |
| Number of clients with children <
22 |
|
| None | 70 |
| 1 or more | 29 |
| Value | |
| Age of head (or husband for
couples) |
|
| Minimum | 21 |
| Median | 32 |
| Maximum | 76 |
| Planned retirement age | |
| Already retired, N= | 4 |
| Values below are for the 96 household
heads not yet retired) |
Value |
| Minimum | 50 |
| Median | 61 |
| Maximum | 70 |
Table
2
Distribution of Household Income, 1998
and Projected 1999, and Net Worth, 12/31/97 and 12/31/98
| Gross
Household Income |
1998 | 1999 |
| Mean | 51,126 | 61,141 |
| Minimum | 8,839 | 19,615 |
| Median | 45,115 | 52,276 |
| Maximum | 188,440 | 194,000 |
| Net
Worth |
12/31/97 | 12/31/98 |
| Mean | 111,572 | 133,791 |
| Minimum | -52,181 | -26,100 |
| Median | 37,731 | 49,152 |
| Maximum | 1,246,343 | 1,555,402 |
Appendix
1
Client
Agreement
I, ________________, am a student in Family
Resource Management 660 at The Ohio State University.
The purpose of the course is to create a comprehensive financial plan for
an actual client household after having gathered all of the necessary information.
I would like to work with you as a client
household. I am learning about financial planning, but I do not represent
myself as a financial planner. If you agree to help me for the class, I
will interview you and ask you for financial information, including copies
of W2 forms and other information related to income taxes. I will destroy
all copies of this information after I have completed a comprehensive financial
plan and given you a copy. If I save a copy of your financial plan, I will
delete any identifying information about your family. I will reveal your
name to my instructor, Dr. Sherman Hanna (292-4584) and my group leader,
but not to other students in the class. Dr. Hanna will destroy any written
records of your identity. I will report to a group in the class on my analyses
of your financial situation and goals using a pseudonym. I will provide
you with an integrative financial report by June 10, 1999. You should not
make any important financial decisions based on that report or on anything
I suggest without consulting qualified financial professionals.
In signing this form, you are indicating
that you are aware of the limitations in the information to be provided
to you, and will not hold me or my group leader or my instructor or The
Ohio State University accountable for any losses that might occur because
of actions you take based on the information I provide.
Name of client:
(for married couple, type both names:)
Telephone number: Address: Signatures:
Appendix 2
Information
Needed From Client for Weekly Assignments and Comprehensive Financial Plan
1. Income sources for 1998 and 1999. Copies
of 1998 W2 and similar forms (e.g., perhaps 1099 form or profit and loss
statements from a family business) for each adult. Copies of recent paystubs
may also be used. Projection of total household income for 1999
2. All information necessary for estimating
net worth on Dec. 31, 1997 and Dec. 31, 1998. Savings account balances,
mutual funds, retirement funds, loan balances, etc.
3. Retirement accounts and contribution
amounts (include employer matching) for each adult in 1998 and currently.
4. 401(k) and any other retirement account
choices available from the employer of each result. (Should obtain detailed
printed information about characteristics of each plan, plus any employer
match for contributions, even if client does not currently contribute.)
5. All benefits available from the employer
of each adult, including health and life insurance and availability of
a Flexible Spending Account for each earner.
6. Copy of federal and state income tax
returns for 1998.
7. Projected child care expenses, if any,
of family in 1999.
8. 1998 medical expenses, or projected
1999 medical expenses, not covered by medical insurance.
9 Complete information on any defined
benefit pensions.
10. Total estimated expenses for 1998
and estimate for 1999. Whenever possible verify 1998 expenses with receipts
or account registers.
Appendix 3
List of Weekly Assignments
1. Personal data for case: goals, future
2. Projection
of future income, pensions, and goals of clients
3. Life cycle savings and spending
4. Financial statements: balance sheets
for 12/31/97; 12/31/98; Income/Expense Statement for 1998; Projected Income/Expense
Statement for 1999; Reconciliation of 1998 Net Worth Change and 1998 Surplus
5. Income Tax: estimation of 1998 federal
and state marginal tax rate; projection of 1999 federal income tax; projection
of marginal tax rate in retirement
6. Risk management: disability, life,
health, property, liability insurance evaluation
7. Investments: analysis of portfolio
and mutual funds, other investment assets, diversification.
8. Retirement planning
9. Estate planning: What would happen
to assets if client died today; federal and state estate taxes due if client
died today; maximum theoretical federal estate tax liability during lifetime
based on net worth projection
10. Draft of plan
11. Oral presentation to class, with handouts
More information about the course can be found on the course web page,
at: http://hec.osu.edu/people/shanna/660
1. 1
Contact author: Sherman Hanna, 1787 Neil Avenue, Columbus, OH 43210. Email:
hanna.1@osu.edu.
Phone: 614-292-4584.