covid pivot: winning new high-value clients with: “trust, but verify.”
by anthony glomski and russ alan prince
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for the extremely wealthy, financial stress testing is quite common. just consider the following case.
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a super-rich individual (net worth = $500 million or more) asked us to examine a tax mitigation strategy he was using. he was quite proud of how ingenious it was and how well it worked. the complication was that some of his business dealings were under scrutiny, and he wanted to make sure his wealth planning would not cause any problems. as part of this tax strategy, he had done several things:
- he transferred some of his businesses to a trust for which he received units of beneficial interest. the business trust makes payments to him, thereby avoiding taxes. the business trust will also not have to pay future estate taxes.
- in another jurisdiction, he sold appreciated property to another trust in exchange for an annuity, which in turn sells the assets and reinvests the money. he claims recognition of the built-in gain over his life, and the trust is not included in the estate.
- he transferred his family home to yet another trust and received units that were claimed to be part of a taxable exchange, resulting in a stepped-up basis for the property. the trust is thus in the rental business and claims to rent the residence back to him. he does not pay rent because he is the caretaker of the property.
- he created a hierarchy of trusts owning other trusts. one trust on top, in effect, holds the trust units of 41 trusts, and this trust distributes the income from those trusts.
it became clear very quickly that what he and his advisors had created were many trusts, some dubious in nature, that held selected assets and income streams. one criminal mistake was that by vertically layering these trusts, there were arguably fraudulent expenses being charged to subsequent trusts, resulting in a decrease in taxable income. simultaneously, the approach resulted in the illusion of separation of control to protect the assets in the trusts.
creating abusive trusts and layering them the way he did can come in a wide variety of forms, with almost all of them being used for questionable, if not illegal, purposes. it is analogous to russian matryoshka dolls, where one doll is hidden within a similar doll. unless all the dolls get opened, you cannot find the only one that is not hollow.
in this case, the super-rich individual claimed he thought he was just being smart about his tax planning. some of what he did was certainly illegal, and even if he did not know it, the advisors who guided him and did the work most assuredly did – or should have. irrespective, he was on the hook for this planning. because of our stress testing, he completely redid all his wealth planning.
the logic of financial stress testing
the russians have this proverb: “doveryai, no proveryai.” translation: “trust, but verify.” president ronald reagan adopted the phrase when negotiating with the russians. it became his signature phrase and is an important lesson that has been heartily embraced by the super-rich.
specifically,
financial stress testing is a systematic way to evaluate whether the financial and other expertise a person or family uses will deliver expected results and ensure they are not missing any meaningful opportunities.
the rationale for financial stress testing is twofold:
- to avoid potentially destructive economic and legal situations
- to ensure they are benefiting from all possible opportunities
the burgeoning opportunity for accountants
financial stress testing is becoming more and more normative not only among the super-rich but also those considerably less wealthy. what the affluent all the way up to billionaires are very interested in is making sure they have not made any big mistakes in their planning and that they are not missing out on something worthwhile because they have been working with substandard advisors.
the reason it is such a great business opportunity is that so many wealthy people are getting bad advice. just think of all the so-called professionals solely focused on pitching their products or some wiz-bang tax strategy. think about all the tax “experts” who are anything but. also, consider all the professionals who are so concerned about their livelihoods that they will do and say almost anything to work with a wealthy client even though they know they are in over their heads. because of these “professionals,” financial stress testing regularly uncovers opportunities for smart accountants.
because stress testing can be so powerful, it makes sense for many accounting firms to make it an integral part of their deliverables. a large percentage of accounting firms have the tax expertise and relevant planning proficiencies to conduct financial stress tests. what matters, therefore, is being able to get the engagement.
it is unlikely that people want financial stress tests. more to the point, there is little chance they will ask you for one. what tends to happen is that you uncover the need for a financial stress test. this happens when you ask questions about their goals and concerns and what they are doing today to address them.
based on your questions, the affluent either:
- know what they are doing and are good with their planning
- do not know what they are doing
- or, most commonly, are unsure of what they are doing and if it will get them their desired results
financial stress testing is unnecessary in the first scenario. however, it is very appropriate in the other two. when they do not know or – more likely – are uncertain, you can say …
would you like me to see if what you’ve done will get you the results you want?
the bigger the issues you uncover, the more likely the affluent individual will ask you what that means. he or she will probably want to know what this entails and what it will cost. you will need to be able to briefly explain what would be involved to conduct the financial stress test and what it will cost. as far as costs are concerned, we recommend you specify a range, whether it is a project fee or an hourly rate.
conclusion
the appeal of financial stress testing is becoming evident to affluent individuals and families. it is a powerful way for them to ensure their planning gets them the outcomes they need and want. it is also how they can ensure they are not missing out.
by approaching financial stress testing as we described, you will probably be able to find a plethora of opportunities to deliver more value to clients and win over high-value prospects. financial stress testing is right in the wheelhouse of a large percentage of accountants. they just have to be aware of it and be able to determine opportunities based on adroit questioning.