How I Overcame a Big Financial Planning Pitfall
This time we hear from Leon LaBrecque, managing partner of LJPR Financial Advisors in Troy, Mich. He recalls a lesson early in his career that taught him to build plans based on longer life expectancies.
Very early in my career I worked with an accounting firm that had installed one of the first financial planning software programs. The firm needed a young whiz kid to work with the software and I volunteered to be that whiz kid.
This was before modems, which meant I had to enter the data via a terminal hooked up to the mini-computer and then send the data off. Then I would get the plan back, print it and bind it for presentation to the client. I spent almost 30 hours doing something I can do in just 15 minutes today. At the time, I thought it was great.
I was one of the few people at the firm who knew how to compute a life expectancy based on a probability table, and I was intimately familiar with how the actuarial math of the program worked. But that knowledge didn’t keep me from getting egg on my face with a client.
The second client I presented with a financial plan created with the program was an engineer. He had asked the firm to put together a comprehensive financial plan for him. I had run one plan for the partners before this and they thought it was great. They had bragged to this client that I was a young, smart CPA attorney who would run the plan for him using the new software.
I put the plan together in a beautiful brown binder all set up with color tabs. The client was very impressed. We went over the inputs, which he liked a lot. Then we started getting into the outputs, which included pages and pages of spreadsheets, which thrilled both of us.
But 20 minutes into the meeting he stopped me and said, “This data is based on life expectancy, right?” I said yes. He then asked, “Do you know how these work?” I said, “Yeah, I know how these work. I can actually calculate them myself.” He said, “Okay so do you know what it means that my life expectancy is 81?” I gleefully explained that it meant that 50% of people will be dead before 81 and 50% die after they turn 81.
Then he looked at me and said, “That means there’s a 50% probability that this plan is no good.”
I was stopped in my tracks. I took the plan, folded it up, and threw it in the shredder bin. I told him I would redo the plan and get back to him. I realized I had put too much faith in the planning ability of the program and hadn’t thought about the real-life impact of the numbers, which is what the client brought to light.
I went back and revised all the data based on two standard deviations, which put him at age 95. When I met with him with the new plan I thanked him for his insight and told him that he had helped me get a handle on using the program. I told him I had created a new plan based on an age expectancy that 95% of the population wouldn’t reach. I asked him if that was good enough and he said, “Yup, that’s good enough for me.”
This experience has had a long-lasting impact on me. I give talks all over the country about financial planning. One of the topics I address is the risk of living a really long time. Today, I always plan based on longevity risk, and it’s part of our firm’s culture now. We say we’re going to plan for the worst and hope for the best — the worst being you live to 98 or 99, and the best being you live to your life expectancy and die a wonderful death and are able to enjoy yourself up to the last second. I tell clients that if our planning is perfect, they’ll run out of money and life at exactly the same time.
I had to learn that lesson the hard way, but I never again ignored the realities of the math.