Private Client Adviser Knowledge Base
Issue II
Welcome to Issue II of Dealers’ Groups periodical newsletter for IFAs and financial intermediaries. The aim of this publication is bring you news and insights into the big topics and debates in our industry, and this month we have some fascinating insights from some highly impressive authors on subjects including advanced customer segmentation, severity based insurance, dormant trusts, the banking crises and platform selection. If you have any comments or insights on any articles please do not hesitate to get in touch.
In the meantime, I look forward to seeing you at our conferences, and remember if you would like to contribute to our newsletter please email me anytime at dwigan@dealersgroup.co.uk and pitch me your idea.
Client Segmentation and Knowing Your Customer - Chris Pitt, Focus Solutions
Dormant Trusts - William Feeny, Kings Court Trust Corporation
Cutting through the marketing hype... - Freddie Findlater & Holly MacKay, The Platforum
Severity-based insurance - Kevin Carr, Director of Protection Development - PruProtect
Banking Crisis; Don't blame the Auditors - Richard Churchill, Partner, Shelley Stock Hunter LLP, Chartered Accountants.
Client Segmentation and Knowing Your Customer
Chris Pitt, Focus Solutions
Over the last few years, as UK regulator the Financial Services Authority has sought to improve the quality and consistency of investment advice given to the consumer, we have all become accustomed to the need to “know our customers”. As a result most wealth managers and IFAs will have deployed various systems and processes to capture and record the numerous items of data required to underpin their advice.
However, while this compliance-driven approach to client data capture may be “necessary” one might question whether it is “sufficient”, i.e. being used to its fullest extent to manage the profitability of existing client relationships and to identify the characteristics required of new, more profitable, clients.
With the FSA now seeking to fundamentally change the landscape for regulated investment business with its Retail Distribution Review, surely now is the time for wealth managers and IFAs to revisit the way they manage their clients.
The Pareto Principle
As with many things in life the Pareto principle applies: wealth managers and IFAs will probably find that 80 per cent of their profits are derived from just 20 per cent of their clients. But, which are the most profitable 20 per cent and how might that percentage be increased? The answer is, of course, for wealth managers and IFAs to gain a better insight into their current client base and to identify those characteristics that best describe the “20 per cent”. At Focus Solutions we recommend the following methodology:
- Identify revenue per client
- Establish costs per client
- Calculate profit per client
- Identify client characteristics
- Enhance existing client margins
- Identify revenue per client
When conducting this sort of client segmentation and profitability analysis it is important to consider both the “cost” and “revenue” sides of the argument, in order to avoid the presumption that high revenue clients are automatically the most profitable. This kind of analysis will start to tease out the characteristics that differentiate the profitable from the unprofitable.
Perhaps the most challenging aspect of this process is keeping an open mind and remaining objective in the analysis, as the characteristics that define the most profitable clients are sometimes surprising. For example, these characteristics could span a wide range of the more obvious parameters such as size of portfolio, geography and demography, but they could also include more subtle variables such as their needs, wants, aspirations, behaviours and attitudes.
The analysis might show that those with high-pressure jobs are most willing to “outsource” the management of their financial affairs, meaning that the most precious thing to them is their personal time and they will pay a premium price for a service that maximises this. Similarly, those clients that already use other professional advisors, such as accountants or solicitors, may have a general propensity to seek advice and hence, have a willingness to pay for professional financial advice.
Extending the analysis
Whatever this analysis reveals about the most profitable 20 per cent of clients it is important to then extend this analysis to look at the other 80 per cent. This will enable the identification of groups of clients that have similar requirements and allow the creation of new propositions and charging structures to meet these differing needs in order that the clients receive a more appropriate level of service and the wealth manager or IFA enjoys a better margin.
For example, there is likely to be a segment of clients that want (and are willing to pay for) a highly tailored and personalised service where there is a lot of regular contact and frequent formal reviews. This is likely to appeal to those with a strong propensity to make use of other forms of professional advice. Similarly, there will be the “outsourcers” - those seeking to save as much time as they can.
“Championing” client segments
To ensure the successful management of these segments it is a good idea to identify “champions” within your business to promote the development of propositions for each client segment; perhaps by selecting the relationship managers or advisors that most accurately understand, or are like, that group of clients. This is important because “people like people like them” and therefore they will be more inclined to develop deeper relationships with people with whom they can identify. Again, this should be based on the more subtle criteria such as needs, wants, aspirations, behaviours and attitudes that have been used to profile the customer base.
Kleinwort Benson is a firm believer that this approach to client segmentation and management is central to their ability to deliver great service to their clients and it now underpins the UK private bank’s business model.
However, this sort of analysis and operational deployment is, of course, only possible if organisations put in place a robust management information strategy which is itself underpinned by a suitably robust technology platform that supports the right sort of processes and can capture and analyse the necessary data. "Knowing your customer" is no longer about just ticking the compliance box but is key to delivering exceptional customer service and profitability to your firm.
(The article originally appeared in WealthBriefing’s technology site, WealthTechBriefing, on 3 August, 2009)
Dormant Trusts
William Feeny, Kings Court Trust Corporation
Dormant Trusts are a new product for Financial Advisers to consider when they are discussing Estate Planning with their clients. Dormant Trusts are sometimes called Pilot Trusts and occasionally Feeder Trusts or Spousal Bypass Trusts.
In essence, Dormant Trusts are normally discretionary Trusts set up during the lifetime of the testator which receive property on the death of a Testator via a specific legacy in a Will or from a Death in Service benefit, pension fund or life assurance policy. The key benefit is that assets from a Death in Service benefit or an insurance policy pass outside the estate and are not subject to Inheritance Tax (IHT), while assets passing through the estate can be held in separate trusts and are not related settlements. This means that each Dormant Trust has its own nil rate band allowance and is treated individually for the calculation of IHT on each 10th anniversary or on payout to the beneficiaries.
Dormant Trusts are very flexible and can be used to benefit the whole family. The benefits include
- Reducing IHT on a second death. Generally Death in Service benefits or Life policies are paid direct to the surviving spouse and pass outside the estate of the first spouse to die. However on the second spouse’s death they form part of their estate for IHT purposes. This can be avoided by nominating the benefit into a Trust outside the survivors estate. If the Dormant Trust is drafted with a power to loan monies to the survivor, the survivor will have the funds to invest or spend as they see fit, provided there is a letter of wishes and the Trustees follow the settlor’s wishes. As a loan has been created it will be a debt in the survivor’s estate and will therefore reduce the value of the estate for IHT purposes.
- The funds, while they are in the Trust, are protected from divorce claims, creditors, second marriages and financial abuse of or by the beneficiaries.
- By using multiple Dormant Trusts, you can create a separate Trust for each beneficiary (or group of beneficiaries) and reduce potential IHT liability by keeping the assets in each Trust under the nil rate band allowance.
- For unmarried couples, the nil rate band amount can be held in a Dormant Trust with the residue held for the cohabiter’s benefit for life. The two Trusts would not be related and funds would be available to any children during the cohabiter’s lifetime due to the nature of these Trusts.
- The assets in the Trust do not belong to any one beneficiary, and as long as no distributions have been made the funds are not subject to inheritance tax when one of the beneficiaries dies;
- You can regulate how the Trust is to operate, who will benefit and at what age.
As an example, consider a grandmother leaving £900,000 on trust for her three grandchildren at 30. Under current rules, the trust would pay ten-yearly IHT charges and on termination of the trust a final IHT exit charge. If the grandmother had created three Dormant Trusts and in her will left the Trustees of each £300,000, then each Trust would have its own nil rate band going forward and significantly reduce the overall IHT exposure.
This is how they work:
- Each Trust is constituted by pinning a £10 note to the document. The advantage of this is that as there is no income, there is no need for annual accounts or tax returns. No further reporting will be needed until the Trust receives the assets upon death;
- On the death of the Testator, the Trustees have real authority to dispose of assets and will be responsible for the administration and running of the Trust so it is important to consider a professional Trustee to act alongside any family Trustees;
- A ‘Letter of wishes’ is written for each Trust, setting out the testator’s guidelines for the Trustees on how the Trust will be operated. This might include instructions on whether beneficiaries are to be treated equally, who are the main beneficiaries and any concerns about the age at which funds can be made available or other risk factors such as marriage breakdowns, creditors or addictions;
- The Will should include a specific legacy to each Trust or in cases where a ‘Death-in-service’ benefit or pension fund is to be paid into the Trust then a nomination form should be registered with the testator’s employers. Where a Life Policy is to be paid to a Dormant Trust, it is essential to complete a nomination form and send it to the Insurance Company
- When the testator dies, the assets are paid into the Trust and the Trustees are responsible for managing those assets, administrating the Trust and paying monies to the beneficiaries.
- A number of Dormant Trusts are created so that the value of the assets that will ultimately be held in each Trust is below the IHT nil rate band (currently £325,000 for 2009/10);
- These Trusts must be created on different days but can be set up easily and can be done at the same time as the testator drafts their Will;
- The Trust documents can be stored with the testator’s Will until it is needed.
These versatile, simple and tax efficient Dormant Trusts should be part of every Estate Planners product portfolio and are well worth considering to help not only high net worth clients minimise IHT liability and protect family wealth but also clients with benefits arising on their death.
William Feeny is a Chartered Accountant and for the last 8 years, William has been a Director of Kings Court Trust Corporation plc, a market leader in supplying Probate and Estate Administration services to Intermediaries and Financial Advisers . See more about Kings Court at www.trustcorporation.com
Cutting through the marketing hype...
Freddie Findlater & Holly MacKay, The Platforum
Over the last few years we have seen growth in the wrap and platform market, both in the total quantity of players in the market and in the number of IFAs adopting a platform for their practice. As recently as two years ago the platform market stood at just 13 players across the B2B and B2C space. Today the market has swelled and there are currently 27 players with a “platform” or “wrap” offering and some 20 of these will be looking to target IFAs.
Platform adoption is a long and difficult process for IFAs who often have to spend a large amount of time and money looking at the available players and thus spending valuable time away from their clients. Advisers are often subjected to numerous platform “beauty parades” whereby they are bombarded with marketing noise about how ‘Platform X’ is truly the best platform on the market and can cater for every intricate need of an adviser and the adviser’s clients. The truth is there is no ‘one size fits all’ platform in the market to date. With a level of introspection, it should become clear to an IFA practice that they should not have to see every platform on the market as only a limited number of platforms or wraps are likely to be close to a correct fit for their business.
So how are IFAs expected to cut through the marketing noise and find a platform or platforms to partner with? One idea is to get external help (but we would say that wouldn’t we!) Informed consultants such as us who like to think they know the platforms inside-out can certainly help narrow down an IFA’s choice to an initial focused shortlist and subsequently, the final choice for which platform to adopt. At The Platforum this is something we have been heavily involved in this year and have worked with a number of IFA groups each in different stages of platform selection.
In addition to this you could gauge opinion from peers already on platforms – an invaluable source of unbiaised help and advice. Take this comment, for example:
“As a long user of PLATFORM X, I would highly recommend them, particularly for higher value or more sophisticated clients. Their range of investment options and tax wrappers is second to none, and the service (both locally and centrally) has been superb. My only reservation for anyone thinking of using them for the first time is on lower value portfolios. The charging structure is far from being the cheapest around”.
The comment above comes from our latest online service at The Platforum, “The IFA Platforum”, (www.theifaplatforum.com) which is made exclusively available for IFAs and allows them to post and read reviews and ratings on individual platforms in the market. Over the past few months we have had numerous calls and meetings with IFAs who are looking at platform selection and each one wants to know “what do my peers think of this platform?” and “how has their experience been since adoption?” Through this service IFAs are interacting with one another by posting and reading reviews such as the above, through discussion forums and also by voting in individual polls that capture opinions on core issues such as the validity of modelling tools or how an IFA practice has improved (if at all) through platform adoption.
Incidentally a current poll on the site suggests that 73% of advisers have noticed a dramatic improvement in their practices since they adopted a platform with 23% noting a marginal improvement and only 4% being left disappointed.
Of course IFAs run very different business models from one another so peer group opinion can only act as a guideline because one IFA’s experience of a platform may not be the same as another’s. Feedback, however, has been balanced offering things they like about their platform and things they don’t like.
So what does a service like this highlight for IFAs? On the surface it would seem that if an IFA firm successfully partners with a platform then the overall experience is generally good. However, it should be stressed again that platform selection is a huge decision for any IFA whether they are a one-man-band or a national firm: get it wrong and it could mean a lot of extra work looking at other solutions and taking yet more time away from clients.
If you feel yourself going around in circles or being bombarded with marketing noise when looking at platforms, get some help. If you decide platform adoption is the right thing for your clients, knowledge, opinion and guidance, from a fellow IFA practice or an independent group, could dramatically reduce the time and money spent on platform selection. Finally with the FSA announcing that they will quiz adviser firms about the suitability of moving clients onto platforms as part of its thematic review, intelligent and focused due diligence on platforms has never been more important.
Severity-based insurance
Kevin Carr, Director of Protection Development - PruProtect
With the help of a few like-minded people traditional critical illness cover (CIC) as we know it was founded by Dr Marius Barnard under the catchy moniker of dread disease insurance.
Since then the product has developed around the world and covers around 10m people in the UK. However, while the concept has arguably never been more worthwhile, sales have more than halved in recent years and the present format of the product may be losing touch with its audience.
The ‘critical illness’ brand has suffered. It has been dogged with stories of declined claims and rising premiums, and while some of the media coverage has been unfair, there is no smoke without fire. Much improvement has made has been in the area of non-disclosure, but not for claims that do not meet the definition, which is where the market now needs to improve most.
It not as simple as just being diagnosed with the right condition. For a claim to be paid the illness needs to be on the list of those covered – and it needs to be considered serious enough, otherwise nothing is paid at all. Traditional policies do not cover all areas of the body and cover ceases after a claim.
Several providers already recognise that some conditions, such as early stage cancers, where, for example, the removal of a breast is required (mastectomy), should warrant some level of pay out instead of nothing at all. From here on, the concept of paying multiple claims for subsequent and repeat events is clear. If a condition worsens, or if a new illness is diagnosed, further claims can be made. If cover can be re-instated following a partial payment, without subsequent exclusions, then even better.
Consumers are used to this concept as they would not expect to get a new car if the window screen cracks or a new house if the washing machine leaks. They also expect insurance to continue following a claim.
Dr. Barnard says the mistake our industry made in the 1980s was to design a product that pays out on the diagnosis of the condition instead of the severity. Taking loss of sight as one example, the market definition requires ‘permanent and irreversible’ loss of sight (in both eyes), which doesn’t recognise the impact of visual impairment, central blindness, partial loss of sight, tunnel vision or a detached retina.
Detection techniques and life expectancies will generally always improved and the reality is that many people are living long enough to suffer repeat and subsequent events. In the 1970s, only 3 in 10 newly diagnosed prostate cancer patients survived beyond five years, now it is 7 in 10, while 20% of men and 30% of women now suffer a second heart attack within 6 years. In fact, according to the British Heart Foundation, half of all heart attacks are repeat attacks.
Consumers are used to the concept of severity and even more used to the concept of multiple claims and ongoing insurance following a claim. In protection it means more claims are likely to be paid and while some payments may be lower to reflect the impact of the illness, the overall result is a better and fairer outcome for policyholders.
Kevin Carr, Director of Protection Development - PruProtect
Banking Crisis; Don't blame the Auditors
Richard Churchill, Partner - Shelley Stock Hunter LLP, Chartered Accountants.
Auditors have escaped the severe criticism reserved for bankers and other key City figures in the Treasury Committee’s latest report into the banking crisis, concluding “there is very little evidence that auditors failed to fulfil their duties as currently stipulated”. However, a by-product of this report will be evolution, hopefully not, revolution in auditing practices.
Audit quality is monitored by the Audit Inspection Unit and they recently reported that the quality of audit in the UK remained “fundamentally sound with no systematic weaknesses” and there is no reason to doubt their conclusion. A major overhaul of auditing standards is not what is needed, nor would it have prevented the banking crisis. A recklessly driven car is still more likely to crash whether it has been recently serviced or not.
Have we become too obsessed with systems and controls and moved away from getting to the bottom of the valuation and existence of assets and liabilities, could bank borrowers repay their loans? Banks are complex entities with many complex financial instruments and of course, it is easier and more cost-efficient to audit one system controlling one million transactions than a sample of one million transactions individually.
It must be remembered that an auditor’s responsibility is to report on the truth and fairness of the bank’s financial status, not to challenge the bank’s business strategies and practices. That is a job for the regulator, the Financial Services Authority (FSA).
Auditors are in a privileged position, able to access the financial information they wish, therefore there must be steps made to share this information with the regulators whether it be the FSA, or not. Additionally, the FSA must be proactive with this information. It was shocking to find out that under the supervision of the FSA, rather than the Bank of England, there was less contact with the auditors. Annual meetings between regulators, auditors and banks must be encouraged to formally recommence without the auditor worrying that he is breaching client confidentiality and to end the FSA’s piecemeal approach to gathering auditor knowledge.
Perhaps the most worrying conclusion of the Treasury Committee is that “trust in audit would be enhanced by a prohibition on audit firms conducting non-audit work for the same company”. This statement will surely lead to a review and strengthening of the independence rules. Audit and non-audit services for the Bank is the preserve of the Big Four. It must be remembered that any change in independence rules will not alter this. What will exist are reciprocal relationships between the Big Four for audit and non-audit services for a Bank and I do not think this would do anything to improve investor confidence. Specialists in banking exist infrequently outside of the Big Four, therefore a significant change in the firms providing the services to banks is unlikely to happen.
Any blanket ban prohibition on non-audit services should be strongly resisted by the profession. Many smaller owner managed companies rely heavily on their auditor to provide non-audit services due to their knowledge of the business and this does not mean that independence has been compromised. Independence is not the same as objectivity and the shareholders’ primary desire is that the audit report is objective.
But what about the audit reports themselves? It is surprising that given the uncertainty in 2008 that there was not a greater increase in modified audit reports, particularly with regard to going concern and liquidity. However, if banks had received qualified or modified audit reports, this would surely have undermined business confidence further and led to a run on that respective bank, ultimately, worsening the banking crisis. There is a lack of understanding from users of the accounts about audit reports resulting in any modifications having damaging effects, eg banks withdrawing facilities, suppliers reducing credit terms.
Often, auditors modify audit reports to reflect uncertainty, or a disagreement about a specific issue. This is not the signal, as is so often believed, that the end is nigh for that company. The answer is either better education of users of the accounts, a project the FRC is working on, or perhaps a greater range of audit reports available maybe incorporating a sliding scale to reflect the significance of any modification.
Were auditors to blame for the banking crisis, surely not! The profession needs to review the Treasury Committee’s Report closely and improve investor confidence in audit reports, independence and relationship with the FSA. A fundamental review of auditing standards is not required and using a well known phrase “don’t use a sledgehammer to crack a nut!”