A BETTER WAY TO BUILD

A BETTER WAY TO BUILD

Ever seen a “Goodyear” house? Most Goodyear houses are at least 100 years old, and are typically found in farm country. Although they may feature a variety of styles and building materials, the identifying characteristic of a Goodyear house is an obvious addition – a different roofline, a change in elevation, new material for the foundation or siding, and a mix of architectural styles are all telltale signs. This is because a Goodyear house is one where the farmer “had a good year,” and decided to use his profits to expand or upgrade the residence. Farming being a notoriously unpredictable enterprise, additions were sporadic and the scope of the project was often limited by the size of the profit.

As you might imagine, this irregular approach to home improvement produces some funky configurations. Second-story bedrooms might be side-by-side, yet only accessible by different stairways. A bathroom ends up next to the kitchen (instead of close to the sleeping quarters) because the budget constraints keep all the plumbing in one area. A living room is finished with top-grade materials, while the porch attached to it is sparsely framed and covered. And a vintage Goodyear building often has one stairway that ends at a wall – it was just easier to leave it in place. Over time, the house gets bigger, but still looks incomplete.

Besides its quirks, a Goodyear house is quite likely to be inefficient; it may be hard to heat and cool, prone to structural problems, and expensive to maintain. No architect would ever use a Goodyear house as a template for a new home.

The Inefficiencies of Goodyear Financial Planning

Many Americans construct their personal financial programs similar to the Goodyear building method; when times are good, they add something – an investment account, a life insurance policy, a rental property, etc. There isn’t always a rhyme or reason to these decisions, and over time these “Goodyear households” acquire many financial products, but the end results are often out-of-sync and financially inefficient.

For both a Goodyear house and Goodyear financial planning, the biggest problem is the lack of an over-arching set of objectives that guide decisions, and make it possible for new additions to integrate with existing assets. Given the often-sporadic nature of these new additions (both for a Goodyear house and a Goodyear financial plan), it is understandable that continuity is sometimes lost. Financial decisions are often made in a one-step-back-to-take-two-steps-forward environment, where a new addition often requires the destruction or discarding of previous work.

However, there is another issue at play as well: a tendency by institutions, advisors and consumers to compartmentalize each financial objective. This makes it difficult to construct holistic financial programs that deliver optimal results. Instead, an infinite variety of products and plans are presented as stand alone items.

Staying with the house analogy, these financial planning processes are similar to designing a dream house room-by-room, with no regard for the overall structure. On one sheet, you lay out the perfect master bedroom, and use another to detail the ideal bathroom. There’s a separate page for the living room, kitchen, den, patio, etc. In theory, the end result of combining these disparate spaces would be the perfect home – because every room is exactly as you want it. But how functional could a house be if it were built this way? It would be a hodge-podge. Adjoining walls might be different lengths, doorways wouldn’t match up, extra materials would be required, and the exterior view could be less-than-pleasing. In order to work, the individual rooms have to be framed within a cohesive larger structure.

Consider all of the “rooms” in a typical financial life.

Here’s a partial list:

• Borrowing Saving
• Insurance Health Care
• Real Estate Transportation
• Retirement Leisure
• Educational Funding Estate Planning
• Liability & Risk Management Taxation

Those are quite a few rooms – and most of us probably have several more. When it comes time for a particular room to be added or updated, the tendency is to compartmentalize, to focus on that one room, and neglect how it might fit with other parts of our financial house.

Take the topic of retirement. Most of the discussions about how to provide for retirement quickly narrow to plan selection, then narrow again to whether your employer provides a tax-favored plan (such as a 401(k)), or you will establish a personal account (IRA) with similar features. In this compartmentalized context, it’s easy to make apples-to-apples distinctions about contribution limits, investment options, withdrawal privileges and loan restrictions. But should this be the extent of the evaluation?

Since every decision to allocate funds toward one objective means other options must be forgone, it would also be wise to ask, “How will participation in a qualified retirement plan affect the other financial areas of my life?” For example, what will happen to your taxes, your estate plans, your ability to borrow, or your enjoyment of life? You may have evaluated retirement plans, but have you evaluated them in light of the larger objectives for your finances? If not, your compartmentalized decision about a retirement plan may result in a funky, ill-fitting addition to your financial structure.

Developing a Comprehensive Plan

A comprehensive financial plan is more than a longer, more detailed list of mathematical projections. Although numbers matter, a comprehensive financial plan is also about developing a philosophy toward wealth and how to attain it.

It accounts for your values and priorities. It provides context for evaluating and using financial instruments. It is also flexible and anticipates change; adding new pieces shouldn’t require the destruction or loss of existing structures.

This discussion, originally built around an analogy about a Goodyear house, is abstract, theoretical. So here’s a real-world financial evaluation to illustrate the necessity of a comprehensive approach, one that considers priorities as well as investment performance.

Suppose you are considering two possible options to improve your financial condition. Both options project significant long-term benefits, but in different configurations. Assuming the projections are accurate, which future outcome would you choose?

a. $1,500,000 in accumulation held in a tax qualified retirement account

or…

b. $1,000,000 in cash values in a life insurance policy with a $2,000,000 benefit.

This evaluation is not apples-to-apples; it’s not even apples-to-oranges. The programs have different tax treatment, investment risk, and contribution limits. Yet depending on one’s financial perspective, you could make the argument that each option can provide both insurance and retirement benefits. And even though the choices have numerical values, some of the very prominent benefits in each program are subjective. Any decision for one option will certainly have ripple effects in other areas, such as estate planning and taxation. Further, financial limitations may make it impossible to implement both options; you may have to choose one or the other. If you don’t have a comprehensive plan for guidance, you can’t make a good decision.

Who is Your Financial Architect?

Home improvement can be a do-it-yourself project. But Goodyear houses across America are evidence that D-I-Y results are often less than stellar. It’s no different with financial decisions: to maximize the results from your wealth-building transactions, most Americans need some expert assistance. Specifically, you need someone who can help you see the big picture. Many people in the financial services field are technically proficient in their area of expertise, whether it’s insurance, investments, taxes, legal documents, etc. But from among these professionals, you must find someone who also can provide a big-picture perspective, to give you ideas on how to integrate these diverse financial issues and help to construct programs that promote your financial well-being.

Sometimes analogies are a stretch; the comparisons don’t work. But the Goodyear house analogy is pretty spot-on. A well-designed building usually has an architect. It almost certainly has a written set of plans. In larger building projects, these plans will include future phases of construction. These are essentials to achieving a good outcome, and homes built without competent planning will probably not last, not look good, and waste materials. The same can be said for financial plans. Haphazard, compartmentalized financial decision making does not produce good results.

You may have a variety of financial assets, some of them very sophisticated and profitable. But here’s a simple 3-question checklist to see if you are building a solid financial house:

 1. Do you have a financial architect?

 2. Do you have a comprehensive financial plan?

 3. Does it allow for future additions or changes?