When considering whether to use professional guidance in designing and implementing your financial plan, one factor in the equation should be planning for the possibility of cognitive decline on the part of the person responsible for making financial decisions.
With retirement, it is important to consider how declining cognitive skills associated with aging will make it increasingly difficult to self-manage your investment and withdrawal decisions. For households where one person handles money matters, surviving household members will be especially vulnerable to mistakes when they outlive the family financial manager. Developing a strong relationship with a trusted financial planner can help with both of these matters.
In terms of cognitive decline, research1 using financial literacy tests over time to older populations has shown that financial literacy tends to decline by about 1% per year after age 60, but that financial confidence in one’s own abilities remains the same.
Other research2 has revealed reduced numeracy with age. It becomes harder to perform basic arithmetic calculations and understand the nature of risk, not to mention answering questions such as which number is smaller: 1/100 or 1/1000.
Declining abilities to do financial calculations and other types of cognitive impairment make it increasingly difficult to manage a complex investment and withdrawal strategy as you age.
It is important to plan ahead and make binding decisions before cognitive impairment sets in. Examples of these binding decisions include working with a trusted financial planning firm that can be on the lookout for cognitive impairment and help arrange for necessary additional help or using an income annuity (which has been called “dementia insurance”) to lock in an income stream and reduce the need for portfolio management skills.
Since confidence in your financial skills does not decline with age, plan for these possibilities ahead of time.
Can a financial advisor be cost effective? Ultimately, that depends on your answers to a series of important questions:
~ Do you have the time, energy, interest, knowledge, and desire to implement all of these decisions on your own? Do you enjoy financial planning?
~ Will you overcome the inertia of inaction to put together all the various parts needed to create and implement an effective and
coherent overall plan?
~ Will you continue to periodically update your plan?
~ Have you determined how to make sure your planning will be maintained properly if other family members need to take control of it?
~ Are you working with a comprehensive financial planner who does more than just manage investment portfolios and is capable of implementing good financial planning decisions?
If you have the time, energy, knowledge, emotional detachment, and desire to do your financial planning on your own, then you may make an excellent advisor. If your advisor is less than capable, then you might be better off saving yourself the fee or taking your business elsewhere. Otherwise, consider that both of these studies demonstrate how working with a financial advisor can lead to net positive outcomes and be cost effective, especially as you age. It doesn’t take much to improve your standard of living through better decision-making, even after accounting for any fee related to planning advice.
Concepts and excerpts from “Wade Pfau’s book “How Much Can I Spend in Retirement: A Guide to Investment-Based Retirement Income Strategies”
1 ”Old Age and the Decline in Financial Literacy” by Michael Finke, John Howe, and Sandra Huston, SSRN Working Paper, August 24, 2021.
2 “What is the Age of Reason?” by Sumit Agarwal, John C. Driscoll, Xavier Gabaix, and David Liabson, Center for Retirement Research at Boston College.