BUDGET 2013 PUNISHES THE INNOVATION OF “10-8” INSURED LEVERAGING

Ernst & Young’s most recent research shows 88% of global survey respondents across a wide number of industries agreed that innovation was the one genuine differentiator and advantage they have over the competition.
— The Globe and Mail (Mar 22, 2013)

It’s Spring. One of the saddest songs is Flowers Are Red. It’s not just because Harry Chapin died early but because innovation gets punished. A child starting school gets forced into conformity. What a loss.

The 2013 federal budget punishes innovation in life insurance by wanting to remove the tax advantages of “10-8” insured leveraging strategies which were first introduced in the 1990s.

The Problem

Besides a tax-free death benefit, life insurance offers other advantages such as tax-sheltered growth (to learn why, see How Pink Floyd’s insights on mortality help you). Unfortunately, investing inside life insurance has consequences.

With term life, you can’t invest. With whole life, you can’t choose the investments (among the perils of whole life insurance). With universal life, you pick the investments but face two major drawbacks: limited choice and high investment expenses like mutual funds (see what are you doing about your high investment expenses?).

If only you could invest in the “real world” with options like ETFs, stock, bonds and real estate.

Leverage

Insured leveraging provides a solution:

1. Deposit cash into a universal life insurance policy (tax-sheltered growth)
2. Borrow against the savings (secure collateral that continues to earn tax-sheltered growth)
3. Invest the proceeds (investment flexibility)

This process allows tax-sheltered growth on the loan collateral, the flexibility of investing in the “real world” and deductions on the loan interest. If your investments earn more than the after-tax cost of the loan, you’re ahead.

There’s a risk. The gap between what you pay on the loan and earn on the collateral fluctuates. With “10-8 leveraging”, the gap is guaranteed at 2%.

Several insurers introduced “10-8” strategies (RBC Life, BMO Life, National Life, Industrial Alliance, Transamerica). Before becoming independent in 2009, I worked for two. The strategies were endorsed by leading accounting firms and sold by top advisors across Canada.

Flagship

Insurance products are essentially commodities (similar designs, similar prices, similar compensation). Strategies (packaged solutions to specific needs) offer a competitive advantage to the insurers. Since there are oodles of advisors, the ones who master new strategies have an edge too. Innovation brings rewards.

“10-8” strategies became the flagship offerings for the life insurance sector — much like the S-Class in automobiles (see Mercedes’ next flagship does the commuting for you in Wired, Dec 2012). Few advisors had the skills to sell “10-8” or suitable clients. Even so, the attraction of “10-8” opened conversations. There was demand for presentations that insurance advisors, accountants and clients could understand. Communication became the battleground for innovation.

CRA

Strategies which help you can hurt tax collections. The Canada Revenue Agency was unhappy about “10-8” strategies. This lead to legal challenges which ended in 2011:

During the court proceedings, the CRA was forced by the court to produce some documents of its own — material revealing that the CRA, apparently in conflict with some of its public statements, believes that 10/8 products probably conform with the formal requirements of the Income Tax Act, if not its spirit. — CRA rebuked for ‘fishing expedition’ (Investment Executive, Dec 2011)

The future of properly-implemented 10-8 strategies looked good, though Jamie Golombek warned, "We have to wait and see whether Finance issues a comment, announces legislation or just stays out of it." (Investment Executive, Dec 2011)

The 2013 Budget

Two days ago, the March 2013 federal budget proposed changes to eliminate the appeal of “10-8” leveraging and leveraged insured annuities. You’ll find the details in Investment Executive.

The Future

Vast resources were committed to “10-8 leveraging” prior to the introduction and ever since. I invested years and did countless presentations to advisors, accountants and clients. I prepared many proposals too.

When innovation gets punished, there’s less innovation in the future. We all lose. We soon see flowers as red and leaves as green. To quote Harry Chapin:

There’s no need to see flowers any other way
Than the way they always have been seen.

Links

• Test your life insurance literacy
• Where does your insurance advisor get advice?
• The lure of “exclusive” financial strategies
• The pros and cons of financial leveraging
• How to leverage your philanthropic giving
• Key changes for 10-8s and leveraged annuities (Investment Executive, Mar 21, 2013)
• What small business should know about the 2013 federal budget (The Globe and Mail, Feb 22, 2013)
• Party’s over for tax-advantaged investing (Advisor.ca, Mar 21, 2013)
• What to do about the insurance turmoil
• Secret 7: The best tax sheltering in Canada
• Five signs you may have bad insurance (Thicken My Wallet, Jul 2009)
• image courtesy of Jane Sawyer

Podcast 212

direct download | Internet Archive page | iTunes

PS Do you have a fave Harry Chapin song?

ACTUARY INVESTS IN HIMSELF: BEYOND THE GLOBE AND MAIL INTERVIEW

Welcome new readers (and hello to regulars).

Maybe you found me from The Globe and Mail article actuary invests in himself, which Larry Macdonald wrote in the Me And My Money feature. Thanks for dropping by.

Surprised

I was pleasantly surprised to get published. Someone interviewed me in 2008 but my answers were too boring to print (see how an actuary invests).

Larry MacDonald writes Me and My Money, blogs and tweets. He asked a list of standard questions about investing. As I answered, I realized that my biggest investment was in a nonfinancial asset: me.

Dare I give unconventional investment advice?

I did. Larry asked probing questions for clarification and wrote an article that’s much better than my raw answers. I hope you'll see the merit of improving your skills to increase your earning potential and employability.

Why You?

The financial sector is messed up and remains the least trusted in the world (Edelman 2012 Trust Barometer). We keep seeing why

In the two months post-IPO, Facebook has dropped to half the price and now admits to some 83 million fake accounts (Irish Independent). The Libor scandal has cost Barclays $451 million for interest rate manipulations (Bloomberg). HSBC is facing $2 billion in penalties for money laundering ($700 million) and mis-selling financial products ($1.3 billion) (The Guardian). In Canada, mutual funds have high investment expenses.

We have concerns but can’t do much about them. Keep investing but also look at what Stephen Covey calls your circle of influence.


When you invest in yourself, you've got complete control. You can learn for free online. How can you possibly lose when you’re improving your skills and apply them where others can see?

An Example

Opportunity prefers the prepared.

In my case, blogging made a huge difference in finding newer and bigger revenue streams. Actuaries aren’t trained to communicate but I decided to learn. That lead to speaking opportunities (see YouTube), media attention and clients. Getting nominated for a 2011 Business Excellence Award from the Toronto Board of Trade doesn’t hurt either.

All this arose from investing in myself. Your mileage may vary.

My Story

I’ve worked exclusively in the world of life and health insurance. I designed products (10 years) and then helped advisors sell them (5 years). I saw --- maybe you do too --- that advisors vary immensely in

• their skill to do the work 
• their will to put your interests first

Who was protecting you? How could you spot a great advisor?

I thought advisors could  demonstrate their skill and commitment to serving you by blogging regularly. To show them how, I started Riscario Insider in Feb 2007 when blogging was relatively novel in the financial sector. Years have passed. Where is your advisor’s blog?
 
Readers started asking me to review and fix their life and health insurance coverage. That’s the sole focus of Taxevity, launched in 2009.

Selected Posts

You may like the most-read posts of last year. Here are some from this year:

1. The word advisors imply but dare not say
2. The lure of “exclusive” financial strategies
3. How to spot biased referrals
4. The new prescription for trust
5. Looking beyond TD Bank and the Rothstein Ponzi scam
6. The perils of multilevel marketing and whole life insurance
7. The new list of best/worst jobs
8. Three powerful protectors against corporate misconduct
9. Keeping promises when no one’s watching
10. Why insurance advisors also sell investments
11. Why advisors become advisors
12. What to do about the recent insurance turmoil
13. How to repay a nonfinancial debt
14. When your advisor is on vacation
15. How your brain works against you

Other Resources

If you like what's here, you’ll find @riscario on Twitter and the podcast on iTunes. You can also subscribe to the free newsletter.

If you're interested in marketing, check out the Marketing Actuary blog and @mActuary. The current post is bad business lessons from the Olympics.

If you care about trust, follow @trustandyou --- all trust, all the time. You'll find more about me on LinkedIn and at promodsharma.com.

Finally, if you're looking for an independent review of your life and health protection, join others and visit Taxevity.

Podcast 180

direct download | Internet Archive page | iTunes

PS Investing in yourself is also a risk-free form of leverage.

HOW TO LEVERAGE YOUR PHILANTHROPIC GIFTS

When it comes to giving, you've got many ways. Some involve tax receipts and others are pure gifts. Last time, we looked at donation guidelines for billionaires from Warren Buffett, Bill Gates and Melinda Gates.

We don't have quite as much money to give, which makes the use of effective strategies more important.

There will be certain people who have been successful and if you can show them how their money might be leveraged, that really appeals to them. The leverage aspect is important. --- Warren Buffett

Leveraging lets you do more with less.

Conventional Ways To Give

The approaches here are simplified and focus on money. They are meant for people with a giving heart who are willing to bear some cost. Otherwise the donation is not a genuine gift. If you're looking solely for tax advantages, you may not be satisfied. Though, when it comes to giving, do the reasons matter?

In Canada (and probably other countries), your dollar goes farther when you

• give to registered charities, which usually gives tax credits or tax deductions
• give money to poorer countries
• use matching gifts: your employer or some other donor may match your gifts
• gift public shares: you don't pay tax on the capital gains

An Overlooked Way

Life insurance provides an exceptional form of leverage: a small premium provides a large death benefit. Did you think of insurance in those terms before?

Suppose you want to donate $100,000 to a charity. Giving cash or equivalents may not be possible. An alternative is to buy a $100,000 life insurance policy on yourself and donate the death benefit to the charity. Your small premiums are usually tax deductible but you forfeit the big tax savings from the death benefit.

There are three drawbacks for the charity:

1. your gift doesn't help with current needs
2. if you stop paying the premiums, you create a dilemma: does the charity throw the insurance away or pay premiums with funds earmarked for pressing uses like repairing the roof?
3. the charity doesn't know when they'll receive the lump sum

In some ways, you're worth more to the charity dead than alive. The sooner you die, the more they benefit. How perverse.

Enhancements

There's another way if you have cash or the equivalent: donate the $100,000 now. The charity rejoices because you've eliminated all surprises and and let them work on current projects. You're happy because you're helping now, getting recognition now and getting tax savings now. You may even spur other donors to follow your lead. You no longer need to worry about investing the $100,000 or paying tax on the investment returns --- a nice bonus.

But you no longer have the $100,000.

Here's a way to get that back. Why not use the tax savings to offset the value of your gift with life insurance? The death benefit could be $100,000 or a larger amount if you want to replace the growth you could have earned if you donated at death. The tax savings may not be enough to pay the entire premium, but certainly offset the cost.

Here you control who receives the death benefit. Right now, you may want the proceeds to go to your family. When you're retired and they are settled, you may might want to donate the death benefit to a charity. That creates more tax savings, which leaves more of your estate intact.

Here Tomorrow?

Governments want our money too. If they're not satisfied with what they're collecting, they're bound to find ways to grab more from us. In their parlance, we're "taxpayers". The tax incentives that encourage charitable donations could easily be reduced or eliminated.

By donating now, you lock in today's tax advantages. The incentives could be enhanced, but how likely do you think that is --- especially if billionaires deplete tax coffers with hefty donations.

How horrible to plan and find the vagaries of the tax system work against you. Giving now eliminates those risks.

Other Ways

"… the giver must make a sacrifice, create an uneven exchange, … and do it all with the right spirit. To do anything less … doesn't rise to the magical level of the gift." --- Seth Godin, Gifts, misunderstood

Leverage reduces your sacrifice, which boosts the value of your gift. With conventional financial leveraging, you create tax deductions by borrowing to invest. That magnifies gains … and losses. Leveraging for charitable giving need not.

Links

Donation guidelines from Warren, Bill and Melinda

The three key questions for your charitable giving

Donating: do the reasons matter?

The four steps in wealth management

Give your greatest gift

The pros and cons of financial leveraging

Gifts misunderstood (Seth Godin)

My Philanthropic Pledge by Warren Buffett (June 16, 2010)

Should you leave it all to the children (Fortune, September 1986)

image courtesy of Andrew Javorsky (United States)

Podcast 73 (5:19)

direct download | Internet Archive page

PS Feel free to share other ideas

HOW TO FIND A MENTOR FOR FREE

If I have seen further, it is only by standing on the shoulders of giants.
--- Isaac Newton

We get further with help. That's true for Olympic athletes and us. A coach helps you build specific skills. A mentor helps you build a better you. A mentor is more of a psychologist than a trainer. You set the agenda, typically.

The Ideal Mentor
The ideal mentor is

• Free: giving back for what they've received, not taking from you
• Compatible: you won't always agree but must be able to talk
• Knowledgeable: have insights tailored to your situation. They are probably older but older doesn't always mean wiser.
• Proven success: they have achieved what you want to emulate (ideally, more than more money)

A coach can also help, but a coach may not have succeeded. A coach is more of a teacher than a doer. Each has a role. You can have more than one mentor and more than one coach.

Know how to listen, and you will profit even from those who talk badly.
--- Plutarch

Yes, you can learn from flawed people if you're careful to avoid contamination from their bad elements.

Are You Ready?
To warrant a mentor's time,

• be reasonable: Mentors have their own lives and issues. You can only ask for so much, so often.
• help others: this is an ideal way to give thanks for what you've received
• listen: before rejecting suggestions, reflect (which may take days or weeks or years)
• act: apply what you learn to show progress
• show you're worthy: how does investing in you payoff (not necessarily for the mentor; perhaps for your company, clients or society)

Can't Find One?
There are other ways to get mentored if you can't find a volunteer

• Read books (e.g., from the library)
• Read blogs for contemporary ideas, and participate by leaving comments
• Listen to audiobooks (classics and current)
• Attend group meetings (e.g., through Meetup but avoid the ones that are just selling)
• Hire a coach, ideally one you have gotten to know through their blog

A book that's new to you doesn't need to be new to the world. You don't need to read the latest ones. There's great value in classics and they're usually available from the library without a waiting list. You can get mentored by people who died. Autobiographies and biographies can help you get inside the head of another. Books written in previous decades or centuries will show you how little we've truly changed.

When You're Done

Mentors move on and pass away. You might outgrow them.

Over time, you'll learn principles. You'll see the world though a new lens. You'll anticipate what the mentor would say. You'll think in new ways. You'll start cutting your own trail through the wilderness. You'll be ready to mentor.

Links

• Are coaching and mentoring different? (coachingandmentoring.com)
• How Seth Godin sparks your flame of insight
• How to apply consistent persistent generosity (marketingactuary.com)
• image courtesy of Thomas Mørkeberg (Denmark)

Podcast Episode 57 (4:20)

direct download | Internet Archive page

PS Avoid the word "mentor" because you might intimidate the person you're asking for guidance. There's a feeling of commitment. Instead, start by asking questions.

The Gift of Networking

It isn't just what you know, and it isn't just who you know. It's actually who you know, who knows you, and what you do for a living.
--- Bob Burg

No cost. No pollution. No limits. Networking makes a perfect gift. As with gardening, you harvest what you plant and nurture.

Are you committed?

Our son wanted a pet chinchilla when he was three. We got him a Tamagotchi (a digital dog on a keychain). Like a real animal, this pet required food, cleaning, rest and attention. Too much work for him. The digital dog soon died of neglect. Lesson learned. No pet.

It's easy to start networking online

1. join: pick LinkedIn, Facebook or Twitter, your choice
2. lurk: see what others do so you'll blend in
3. participate: help your network now and into the future

The challenge is sticking with it.

Like an Elephant

Like an elephant, the Internet never forgets. Your online activity leaves a permanent trace. So you're wise to think of the implications of your messages

• don't say something that would offend you, a family member, a potential client or a potential employer
• don't send something unless you're in a proper frame of mind; it's too easy to misinterpret others and too easy to be misinterpreted

When You Mess up

Despite your best efforts, you'll make mistakes. Some people go out of their way to find ways to get offended. If you've established a history, you'll have credibility with the rest. They'll be more forgiving. Plus the volume of your activity will bury the inappropriate statements.

The Science of Giving

The currency of real networking is not greed but generosity.
--- Keith Ferrazzi, Never Eat Alone

Give for the sake of giving. Give to make the world better. Your generosity will change you forever. If that's not reward enough, give because your network will reciprocate if you need help. Is that hard to believe?

Dr. Robert Cialdini explains why reciprocity works:

It becomes possible for one individual to give resources to another without giving them away. What you get instead is a credit. When you need something, you can call on other members of the group who you have helped in the past and they are very willing — in fact, they are waiting — to help because the saddle of obligation weighs heavy on us.

We want to repay our debts. We want to give back to others who have given to us.
--- Dr. Robert Cialdini

Caution: Build Then Invite

How would you feel if you visited a new store with empty shelves? Build your destination before opening the doors. On Twitter, this means having several tweets. On LinkedIn or Facebook, have a reasonably complete profile with your photo and the basics about you. Be sure to add the details later. You'll now make a stronger impression when it matters most: the first time.

Now find out who else you may know on the network. This is easy. Just upload your contacts and inform suitable ones. If they don't respond, be patient. You gain nothing by pestering them or feeling offended.

The best way to network is to start. Now. You don't need to wait for spring.

Final Post of 2009

The best to you and yours during the holidays.
May 2010 give you what you yen!

Links

• Universal principle of influence #1: Reciprocity
• Jerry Seinfeld's productivity secret
• definition of yen: miss, long for
• image courtesy of Henk L | Holland

Podcast Episode 48 (4:46)

direct download | Internet Archive page

The Three Ways to Make Money (Without Winning a Lottery)

You can be young without money, but you can’t be old without it.

--- Tennessee Williams

There's more to life than money but money is an important part of life. How can you make more?

Here are the three ways

1. be efficient (catch more fish)
2. be effective (catch bigger fish)
3. be creative (keep more of each fish)

We'll explore each.

Be Efficient

A rich man is nothing but a poor man with money.

--- WC Fields

Do more of what you're already doing and you'll get more of what you're already getting. Picture an assembly line.

You can work more hours. Your rewards won't grow in exact proportion but will improve until you're not getting enough sleep or spending enough time with your family. If you're on salary, you can still work longer but won't get much for it. Would you get better returns by investing the extra time in improving yourself?

You can also do more with less. Maybe you can reduce your costs by using more technology. Picture Wal-Mart.

Be Effective

Money can't buy happiness, but neither can poverty.
--- Leo Rosten

You can specialize. You target specific markets and discard what doesn't fit since those are distractions. Your costs may increase but your revenue goes up even more. If you're after a particular kind of fish, you must return other fish, no matter how they tempt you.

Think of Ghostbusters. Who you gonna call when only the best will do?

When you invest in yourself, you multiply your financial rewards when you push through the dip and apply the 10,000 hour rule.

Each of the approaches above has merits. One is not better than the other. Each works alone or together.

Be Creative

Money frees you from doing things you dislike. Since I dislike doing nearly everything, money is handy.

--- Groucho Marx

Keep more of each fish. Reduce wastage. Can you keep more of each dollar you earn? Financial literacy and tax planning helps. You can't change the tax rates but maybe you can increase your tax deductions to achieve the same result.

Links

• Three reasons financial literacy eludes us
• Three steps to keeping financially solvent
• What happens when you carry $1,000 cash for 30 days?
• The four steps in wealth management
• The pros and cons of financial leveraging

Podcast Episode 47 (3:12)

direct download | Internet Archive page

10-8 Leveraging: Are Tax Audits on the Way?

Did they get you to trade

your heroes for ghosts?

Hot ashes for trees?

Hot air for a cool breeze?

--- Pink Floyd, Wish You Were Here

Tax advice and income tax strategies. That's #1 on the list of what the wealthy demand from their trusted financial advisors. You're looking for more aggressive recommendations. That doesn't mean you'll blindly act on every idea. You'll weigh the risks and rewards.

But how can you decide what you want until you know what's available?

Fight or Flight?

Cold comfort for change?

Did you exchange a walk-on part in the war for a lead role in a cage?

--- Pink Floyd, Wish You Were Here

Flight: If you're very risk averse, that's fine. You can hide in the shadows by simply paying more tax than necessary. Even then, the taxman may still seek you out: to thank you for being such a profitable customer.

Fight: Successful tax planning leaves more of what you earn with you --- where it belongs. There's more risk, though. You could get audited. That scares some. Others simply factor that possibility into their risk/reward calculus.

CRA Audits of 10-8 Leveraging (or 10/8, 8/10 and 8-10)?

"The Canada Revenue Agency has recently become aware of these loan arrangements and we are reviewing them to ensure they comply with the Income Tax Act." --- Rebecca Merrett, Communications Manager

Since early December 2008, there's been concern about potential audits of 10-8 insured leveraging strategies by the Canada Revenue Agency (CRA). These strategies --- the last major innovation in insured tax planning --- turbocharge the perennial top 5 insured strategies by adding the advantages of financial leveraging while reducing the risks. And creating tax deductions.

Overview

In brief, you put cash into a special universal life policy. This creates collateral. You borrow at 10% and invest in suitable investments. This makes the loan interest tax-deductible, which drops your after-tax loan cost to 5%-6% (depending on your tax rate). What happens to your collateral? As a reward for borrowing, your collateral grows at 8% in a tax-sheltered environment. My American Express card rebates 0.5% for borrowing at 10.99% (current rate, conditions apply). Other lenders give points or other incentives.

You can invest with a line of credit secured against your house, but with 10-8 leveraging

• your loan rate is 10% (meaning larger deductions than borrowing at bank prime rates)
• your collateral grows at 8% tax sheltered (house prices can drop)
• you get life insurance

What Might Concern CRA?

CRA looks for abuse of the tax system. And they look for revenue. Since tax deductions decrease tax revenue, CRA may have concerns. Here are the three most likely areas:

• Is there a reasonable expectation of profit from the investments made?
• Is 10% a reasonable loan rate? (Dell's current flyer shows rates of 9.99% to 28.99%)
• Does the General Anti-Avoidance Rule (GAAR) apply? (A somewhat arbitrary "smell test")

You can find out more via the links at the bottom of this post.

Noise

There's plenty of noise about what CRA may do.

Running over the same old ground.

What have you found?

The same old fears.

--- Pink Floyd, Wish You Were Here

Those who oppose or don't have access to 10-8 strategies are spreading fear. Those who never understood 10-8, have moved to the sidelines --- where they belong. Those who did their due diligence at the outset remain in the game unfazed.

Time To Panic?

That's your call. Do consider the following facts:

• when uncertain, insurers get (expensive) independent outside tax opinions before developing new strategies
• 10-8 leveraging has been around for most of this decade
• most major insurers offer 10-8 strategies: BMO [bought AIG], Industrial Alliance, RBC, Sun, Transamerica
• there are no known challenges from CRA
• major accounting firms have reviewed and approved 10-8 strategies for their clients
• no insurer has discontinued their 10-8 strategies
• no major distributor has suspended the marketing of 10-8 strategies

The Worst Case

Suppose CRA finds fault with 10-8 leveraging. What happens? You can expect insurers to defend their positions and accounting firms to defend their clients. The courts would ultimately decide.

In the worst case, the loan interest would not be tax deductible. You would have borrowed at 10% to earn 8% in a tax-sheltered environment. That's not the worst thing in the world. You can unwind the leveraging by repaying the loans by selling the investments made with the borrowed money. You're then left with a "normal" universal life insurance policy. That's not so bad either.

Independent Opinion

Before embarking on any tax strategy, you know enough to get independent advice from professionals with relevant experience. Right? Note the work "relevant". Skills vary. Areas of expertise vary. So do levels of competence, but this is harder to spot unless you're an insider.

I'm biased. The wealthy want aggressive tax strategies to deal with their tax burdens. I was glad to help as the product actuary for one of the first insurers to offer 10-8 leveraging in Canada. Today as a marketing actuary, I spend most of my time helping advisors bring 10-8 leveraging to their clients.

There's fog today but won't the sun rise tomorrow? Won't the wind blow through the trees? Won't hot air give way to a cool breeze? As the old fears disappear. Wish you were here.

Links

• Your Trusted Financial Advisor: What You Like/Dislike
• Surviving An Audit: Two Lies and Three Tips
• The Pros and Cons of Financial Leveraging
• "10-8" Leveraging: Creating Tax Deductions
• "10-8" Leveraging: Turbocharging the Top 5 Insured Strategies
• CRA Comments on a "10/8" Insurance Structure (TaxGen.ca, Dec 3, 2008)
• 10/8 Strategies on CRA Radar (Advisor.ca, Jan 14, 2009)
• Taxes and "10/8" insurance loans (Investment Executive, Feb 2009)
• CRA Review of 10/8 Insurance Programs (Advisor.ca, Feb 23, 2009)
• Court clears '10-8' plan (Financial Post, Nov 12, 2011) new

Podcast

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Surviving An Audit: Two Lies and Three Tips

The Two Lies of Auditing

1. Auditor (shaking hands) : I'm here to help.

2. Me (faking a smile): I'm glad to see you.

--- my first encounter with an auditor (1988)

Who wants to get audited? That's not many hands. Getting audited is a hassle. It doesn't matter whether this happens to you personally or to your business. Audit's take time and money. And raise your blood pressure. Much like going through airline security even after removing your shoes and belt.

Then, there's fear of criticism (#2 on Napoleon Hill's list). We're decent, honest people making our way through life as best we can. We don't want to be told we've made mistakes. We're not back in school. We don't want to get graded. We don't want to find that we may have been deceiving ourselves.

There's a bright side, though. We can't fix what we don't know is broken. A fresh look from an outside perspective can help us improve.

Three Tips

I've dealt with three types of auditors over the years --- internal, external, governmental --- and survived. Here are three tips:

1. Be nice
   
2. Be brief
3. Be clear
   

The same points work with people in general.

Be Nice

Auditors are people and people are generally nice. They're doing their jobs too. They've got too much to do and too little time. Just like you. Be nice to them. Treat them the way you'd want to be treated. Better still, treat them the way they want to be treated. Best of all, being nice is free. But you may need to smile when you'd rather not.

Be Brief

Some people love talking. That's a problem for time management and audits. You can inadvertently make statements that lead to unnecessary scrutiny.

When we went to the US for Valentine's Day, the customs agent asked if we had any food. Having learned from a prior experience, I said we had snacks. He asked if we had any fruit. My wife, Sharmila, said we had two bananas and three pears. He confiscated the pears (!?!) and let us go. I could have mentioned our pet rabbit (considered food by some) and risked a full vehicle search.

Be Clear

Although we communicate from birth, our messages get misunderstood. Attempting to clarify can make matters worse. Putting your answers in writing helps. This takes more time but that's good because you think more. You can get the replies reviewed before you send them. You save the auditor time and create records for future reference.

A favourable audit gives us confidence by confirming what we hoped all along: we're okay. Until next time.

Links

• Truth and US Border Guards
• "10-8" Leveraging: Are tax audits on the way?

Podcast

download

Your Trusted Financial Advisor: What You Like/Dislike

Coming together is a beginning.
Keeping together is progress.
Working together is success.
— Henry Ford

As you move along your Financial TRAIL, you rely on advice from experts in risk, accounting, investments and law. The wealthy have 1-3 advisors and have known them for 5-10 years. One advisor is usually the most trusted. Typically, the accountant.

What do you the wealthy want from their most trusted financial advisor? This is what the research organization LIMRA found.

What You Want Advice About

The wealthy ask for help in these areas

1. Tax advice and income tax strategy (67%)
   
2. Retirement planning (63%)
   
3. Selecting securities (58%)
   
4. Financial planning (55%)
   
5. Asset management and allocation (49%)
   
6. Life insurance (48%)
   
7. Estate planning, leaving an inheritance (47%)
   
8. Funding children's education (34%)
9. Managing distribution of retirement funds (32%)
10. Use of loans, mortgage and credit (26%)

What You Like

Here's what the wealthy like about their trusted financial advisor

• Warm, personable, friendly
• The right level of detail
• Constructively challenges your ideas
• The right balance between broad general knowledge and deep knowledge in a specific financial area

This is good news. There are gender differences. Women prefer working with a generalist and men prefer specialists. While many things are done well, the wealth identified weaknesses too.

Areas For Improvement

The good things take care of themselves. We want to find all the negatives. — Wayne Huizenga

The wealthy want their trusted financial advisor to improve in the following areas

• Advise you proactively
• Interact with you more frequently
• Make aggressive recommendations
• Service you with a team of specialists

The demand for aggressive recommendations puzzles me since you primarily ask for tax advice and income tax strategy. Can this be right? When I ask, accountants say yes. Even in Alberta, the province with the lowest taxes, you are willing to take more risk to get more after-tax income.

We've looked at a technique earlier: "10-8" Insured Leveraging, which combines the tax advantages of life insurance, and borrowing to investment. Your accountant applies the resulting tax deductions for your benefit — which makes you like them even more. 

Links and Sources

• Financial Advisors and Institutions Serving The Affluent (LIMRA, 2003)
• The Financial TRAIL To Taming Your Financial Risks
  
• "10-8" Leveraging: Creating Tax Deductions
• Turbocharging The Top Five Insured Strategies
• How Pink Floyd's Insights On Mortality Help You

The Dread Of Going To A Bank For A Loan

You can turn your home into a bank machine with a home equity line of credit (HELOC). You can generally borrow up to 80% of the equity at prime (currently 4.75%). You skip the hassle of getting approval for loans. You then have instant access to money for investing or spending.

This flexibility is appealing if you have self-control. Otherwise, gorging at an all-you-can-borrow buffet, can cost you more than ordering off the menu.

Bank: "We can lend you $900,000." (meant as an employee benefit)

Employee: "No you can't." (meaning no desire for more debt)

That Was Then

I called the full-service bank which holds our home mortgage.  They were happy when we chose them and thanked us with a gift basket of coffee and a mug with their logo. Over the years, we've paid tens of thousands of dollars in interest. And they've become less friendly. To maintain preferred rates when we renewed our mortgage in 2003, we had to get:

• a bank card
• a full service bank account (fees waived for six months)
• an unsecured line of credit
• a credit card

For expediency, we did. We didn't use any of these services but now looked like better revenue streams. Last year, we got a letter from our personal banking representative who was to call to discuss additional services. She never followed up on this commitment, which was fine. We didn't want anything else. 

This is Now

To workers, I'm just another drone.
To Ma Bell, I'm just another phone.
I'm just another statistic on a sheet.
--- Bob Seger, Feel Like A Number

I figured the bank would welcome an opportunity to lend us even more money. I phoned their call centre to get a HELOC. While there was no charge for setting up a mortgage, there are fees of hundreds of dollars to establish a HELOC. I wanted them waived for four reasons

1. the bank already had our mortgage and knew about our property
   
2. we we had been a good profit source over the years
   
3. we were giving the bank an opportunity to lend us even more
   
4. we would only have one HELOC, shutting out competition
   

The call centre did not have the authority to waive fees. They arranged to have an authority in our home branch call me. No one did. When I called the phone centre later, they found no record of this commitment. I'd need to visit a branch personally. 

First Visit In Five Years

I went to the nearest branch, waited a while and then talked to a representative. Banking has changed. In the old days, you were a good customer if the bank had the potential to make money from you. Increasing your capacity to borrow made them happy. Now you're a good customer if you're already a revenue stream and have multiple products (which makes switching inconvenient). To start, you need a bank account --- each type has ongoing charges of some type. 

I asked that the HELOC setup charges to be waived. This question went unanswered as the representative constructed an example of how we could

• move our mortage there (just renewed at prime less 0.10%)
• buy an investment property
• invest: borrow at prime (4.75% tax deductible) and earn 7% (how can you lose?)

I listened patiently. By the time he finished, there was only $80,000 left. That was for future borrowing for emergencies !?!

No Gift Basket

I asked about setup fees again and finally got an answer. If I bought additional products (starting with a GIC with lousy rates), upgraded to credit card with fees and started using the services we had, the setup fees might be reduced by 50%. How could I refuse such a deal? Easily, since a HELOC is merely a "nice to have" item.

I thanked the rep, closed the old line of credit and cancelled the old credit card. Only the mortgage remains. That's fully open and can be easily moved. But may require a personal visit elsewhere. 

Links

• Right of Offset (Financial Consumer Agency of Canada); a reason to spread your business
  
• Say No To Unlimited Accounts (Canadian Capitalist)
• Reasons Why Your HELOC Can Be Your Emergency Fund (Quest For Four Pillars)

Getting Things Done: Three Big Lessons

Often times, the more limited your parameters, the more creative you'll become because you have to. — David Allen

We've looked at scheduling your priorities using an approach from the Seven Habits of Highly Effective People. We've looked at using a scanner to turn paper into searchable, electronic files. This time, we'll look at improving your workflow using ideas from Getting Things Done (GTD) by David Allen.

You can only feel good about what you're not doing when you know what you're not doing. — David Allen

Three Big Lessons
You'll find many similarities among different approaches to organizing your life. GTD gave me three new ideas

• capture everything (which validates my approach)
• get things out of your head and into a system you trust
• misfiling is fine if you follow a simple alphabetic system: your phone bill could be under Utilities, Phone, Telephone or Bell (the name of your phone company) but you can easily find the file

Your Brain's Brain

Your head's for having ideas, not for holding them. — David Allen

When do you remember that the batteries in your flashlight are dead? Probably when you need the flashlight, not earlier when you were standing in front of the batteries in your favourite store. Your mind doesn't have one.

If you can't get things out of your head, you burden your brain by having it keep track of too many things. You'll left with an uneasy feeling that you've forgotten something even if you haven't. With things on paper (for example), you can easily see what you need to do. You can then use your brain to set priorities.

Context
What you can do depends on where you are and what you have. If you need a computer to view an email attachment and you're not at yours, then don't worry about that task. Four factors help you pick the ideal task at a given moment.

1. context (e.g., you may need a phone, a file or a computer)
2. time available
3. physical energy available
4. mental energy available

Suppose you've got a conference call in 8 minutes and you returned to your desk from a lengthy, unscheduled meeting. Your time is limited and so is your mental energy. This may be time to refill your stapler or get a drink of water.

Five Steps
There are five steps to Getting Things Done

1. Collect: gather and
2. Process: decide on the goal (successful outcome) and the next action step
3. Organize: use lists that you can create and review quickly
4. Review: ideally weekly
5. Do

You can get more details from the links at the bottom. As you'll guess, the secret is implementation.

Lists

Planning brings the future into the present. — Brian Tracy

In Eat That Frog, Brian Tracy recommends that we work from lists. This lets us separate the vital few from the trivial many (in essence a 20/80 rule). Checking off completed items gives a sense of positive forward momentum.

Links

• David Allen official website
• Getting Things Done (Wikipedia)
• Getting Things Done (Colorado College)
• Getting Started With Getting Things Done (43 Folders)
• Saving Paper, Time and Space
• David Allen page (Spark Insight)
• Reach your goals with Pick Four from Zig Ziglar and Seth Godin
• Scheduling your priorities the Seven Habits way

Saving Paper, Time and Space

Where are the paperless offices and homes projected for years?

We're drowning in a sea of paper. If you're organized, the paper may be nicely organized in files. If you're like me, they are stacked on most flat surfaces. Can you find what you want when you want? Maybe. Can you find what you want from where you are? Unlikely unless you've stored files electronically.

Electronic records have five key advantages

1. searchable
2. save trees
3. save space
4. reduce clutter
5. easy to backup
   

The problem is creating the electronic records. I got a fancy flatbed scanner with a sheetfeeder years ago (HP ScanJet 6250). It got little use because it's too temperamental. Pages would jam. The process was slow. Organizing the resulting files became a chore. So the scanner has been sitting beside my desk for years doing little more than gathering dust.

The Perfect Scanner
I want a scanner with the following characteristics

• effortless to use
• scans both sides of the page at once
• scans directly to PDF, converting to searchable text along the way
• good for business cards too (I've got stacks and stacks)
• automatic file naming
  
• compact (ideally portable to allow use while travelling)

Luckily, technology has improved and prices have dropped.

After searching, I found the Fujitsu ScanSnap S300 for Windows (there's also a Mac version). This scanner is portable and can be powered from a USB cable (using two ports in total).

For ease of access, the scans are going to be stored on a computer and backed up to a shared drive on our home network. For extra redundancy, they'll be stored online (not sure where). Try doing that with paper.

In Action
The scanner arrived yesterday. It's well-constructed (feels solid), surprisingly compact and works extremely well. It's easy to move from one computer to another, which allows each of us to scan our own stuff. I've already scanned dozens of pages and fed the originals to the shredder. That's a good start.

Links

• Fujitsu Scansnap S300 Color Mobile Scanner (Amazon.com); 5 stars from 23 of 26 reviewers
• Fujitsu ScanSnap S300 Portable PDF Scanner (Mobile Mag)
• Going all digital with the Fujitsu ScanSnap S300 (Trevin Chow)
• Hands-on: Fujitsu ScanSnap S300 Mobile Scanner (CrunchGear)
• Fujitsu ScanSnap S300 Color Mobile Scanner (About.com)

"10-8" Leveraging: Turbocharging the Top 5 Insured Strategies

We've looked at the perennial top five insured strategies for tax planning. We've also seen how "10-8" Leveraging reduces the risks over conventional financial leveraging.

This time, we'll look at the interrelationships, combining

1. tax advantages of life insurance
2. tax advantages of borrowing to invest

Lower Costs or Higher Returns?
If you want life insurance primarily for the tax-free death benefit, you look for low cost. If you're an investor, you focus on higher returns.

With "10-8" Leveraging both become possible while you bypass the two drawbacks of investing in life insurance by investing externally --- the way you already do. You can use the tax deductions to

• reduce your cash outflow --- usually less than the cheapest products available, or
• increase your yield by reinvesting the tax savings

The Top 5 Strategies
As we saw, the top 5 strategies account for about 80% of the concepts the wealthy use.

Here is how "10-8" Leveraging helps active investors.

1. Legacy Bond: no effect (used by passive investors)
2. Insured Retirement Strategy: enhance returns
3. Estate Protection: reduce costs
4. Income Shelter: enhance returns
5. Insured Annuity: no effect (used by passive investors)

Users of the remaining strategies may also benefit.

Can you see the appeal that "10-8" Leveraging has for wealthy active investors who want tax deductions?

Links

• "10-8" Leveraging: Creating Tax Deductions
• "10-8" Leveraging: Are Tax Audits On The Way? (new)
• Tax Planning: The Top 5 Insured Strategies

"10-8" Leveraging: Creating Tax Deductions

Here's a special offer. For $10 you get an $8 gift certificate. Buy as many as you want.

No takers?

Okay. Give me $5.50 and I'll give you the $8 gift certificate. So you make $2.50 each time. How many do you want now?

This insurance strategy is generically called "10-8" leveraging and used by wealthy Canadians personally or through their private corporations. You get tax deductions while

• investing the way you normally do
• reducing the risks of leveraging through insurance
• increasing the size of your estate

For over 25 months, most of the requests I get have been about "10-8" leveraging. I've done dozens of seminars to attendees from across Canada, trained advisors, met clients, and learned how to make the concept simpler without being simplistic. The appeal is greatest in Alberta, where tax rates are lowest (which reduces the value of the tax deductions). Ontario gets more active each month. Let's explore.

Normal Financial Leveraging
With conventional leveraging, you pay interest and perhaps some of the principal. You face two unknowns:

1. market risk: what your investments earn
2. loan risk: what your loan costs (often fluctuates with the prime rate)

You can't eliminate the market risk but you can eliminate the loan risk with insurance.

"10-8" Leveraging
With insured leveraging, your investment loan costs 10% before tax savings. With a marginal tax rate of 45% (say), you get tax savings of 4.5%, which reduces the cost of the loan to 5.5% after tax savings. Here's the interesting part. Your collateral earns 8% tax-sheltered. So your after-tax cost is 5.5% less 8%, which is -2.5%. A negative cost is a gain. You pick up 2.5% from leveraging.

If you earned 7% before, now you earn 9.5% using the same investment dollars. What if your focus is protection instead of investment? Use the tax savings to reduce the cost of your life insurance below market rates.

The loan becomes a source of income.

What's more, the pretax loan cost of 2% (10% less 8%) is generally guaranteed for life. That's a big advantage over conventional borrowing. When the spread is guaranteed, you want to borrow at as high a loan rate as possible. If you could borrow at 20% , your collateral earns 18% tax-sheltered. Your tax savings double to 9%, giving an after-tax cost of 11%. And a 7% gain from leveraging.

Tax-sheltered Growth
How do you get tax-sheltered growth, using Pink Floyd's insights? By putting cash into universal life insurance policy --- if you like the limited investment choices.

How can you have both the benefits of investment flexibility and tax-sheltered growth? With "10-8" financial leveraging using a specially-constructed universal life insurance agreement.

10 - 8 = 2
There are two types of "10-8" leveraging: policy loans and external collateral loans. The 10% loan interest is paid as follows

• 2% at the beginning of the year to the insurer
• 8% at the end of the policy year to you (your reward for borrowing from yourself)

There's a fundamental difference in the level of tax deductions you can get.

• policy loans: pay 10% to deduct 10%
• external loans: pay 2% to deduct 10%

With external loans, you refinance the 8% at the end of the year by taking another loan. This increases your tax deductions, which is what you and your accountant want. As you'd expect, nearly everyone who qualifies picks this version when dealing with a knowledgeable advisor who has access to both types.

Benefits
Since your loan collateral earns 8% inside a tax-sheltered vehicle, you're getting a nice return. Since you actively invest outside of life insurance, you eliminate both drawbacks we discussed last time.

As you know, there are advantages and drawbacks to financial leveraging. Using insurance reduces the risk by guaranteeing a 2% loan cost before tax savings turn borrowing from yourself into a source of income for you. Using insurance also provides a larger estate than conventional investing. All the while, you're getting tax deductions.

Can you see the appeal of "10-8" leveraging?

Links

• The Pros and Cons of Financial Leveraging
• How Pink Floyd's Insights On Mortality Help You
• The Two Drawbacks of Investing in Life Insurance
• "10-8" Leveraging: Are Tax Audits On The Way? (new)
• "10-8" Leveraging: Turbocharging The Top 5 Insured Strategies (new)