As financial planning evolves from a practice into a science, there is growing recognition that its main subject matter – people – is a collection of few constants and many variables. Financial planning for lawyers or doctors differs from corporate executives to account for the many variables associated with each occupation.
Corporate executives represent a highly differentiated group, with distinct characteristics, needs and goals, making them ideal for a specialized approach. They also represent one of the largest segments of high-net-worth individuals. In a study conducted by Fidelity Investments, The Fidelity Millionaire Outlook Series, corporate executives accounted for 18% of all millionaire households, more than any other category.
Why corporate executives are different
In our recently published book, Personal Financial Planning for Executives and Entrepreneurs: the Path to Financial Peace of Mind, we noted several key characteristics of corporate executives, all of which are integral to the financial-planning process. While the following may not apply to all executives, there are eight key commonalities within this group:
- They are leaders who establish and hold themselves to higher goals.
- They are well paid.
- They tend to operate under formal employment contracts or arrangements.
- Their compensation is usually tied in large part to performance goals.
- They are likely to have meaningful equity interests in their employers.
- Their financial fortunes are disproportionately tied to those of their employers.
- They often are entitled to participate in complex benefit plans.
- They may be exposed to unique legal and other risks related to their positions.
Financial planning for these individuals must address not only the basic elements of planning applicable to all individuals, such as the need to have a will, but also those key distinctions.
Before addressing the distinct planning process for corporate executives, it is important to expand upon our first observation in the list. Corporate executives tend to be leaders with big goals, but how does that actually show up in the financial-planning process? To start, according to the Fidelity Investments study, approximately two-thirds of surveyed corporate executives preferred to work with third-party experts when planning for their financial futures, though approximately two-thirds also wanted to remain directly involved in the process. The same report revealed that corporate executives tended to worry more than others about almost all of the key areas of financial planning, such as managing their investments, estate and tax planning.
This says that corporate executives who work directly with a financial planner are likely to work best with someone who is prepared for intense, constant communication and reporting, and who may personally direct those efforts rather than delegating them. Those corporate executives who prefer to coordinate their own planning will still tend to hire third-party experts to address at least some of their objectives. So what are those objectives?
The five pillars of peace of mind
The ultimate goal of financial planning for most corporate executives is to achieve financial peace of mind for them and their families. To achieve this goal, it is necessary to focus on five main objectives. These “five pillars of peace of mind” are the keys to effective financial planning for corporate executives:
- Maximizing the rewards of working as an executive
- Achieving financial independence
- Planning for and minimizing taxes
- Planning for others
- Managing risk
Each of these pillars is a series of interdependent, interrelated considerations and actions that pervade the planning process. While each executive will have unique needs, the five pillars have many common themes.
Maximizing the rewards of working as an executive
The tendency is to focus a disproportionate amount of attention on the various equity incentives offered to a corporate executive, as they offer tremendous upside. Incorporating equity-based compensation into the financial plan from an investment, tax, estate and legal perspective is of course a critical element in maximizing the rewards of being a corporate executive. Yet, there are other important elements that cannot be overlooked.
The first pillar should also involve – if not actually start with – understanding, thoughtfully negotiating and capitalizing on all of the executive’s employment and ancillary agreements, including fixed and variable compensation, equity incentives, restrictive covenants, changes of control and other key considerations. Countless opportunities are lost because of a failure to focus on these basic matters; countless opportunities can be seized by paying proper attention to them.
The first pillar also involves a careful review and use of all relevant employer-provided benefits. Many executives lose sight of at least some of these benefits because they do not see them as sufficiently meaningful. Yet, over time, taking advantage of benefits such as flexible spending accounts make a considerable difference.
Achieving financial independence
Achieving “financial independence” must be distinguished from classic retirement planning in that it describes the state at which financial goals, including dependents, housing and education, are achieved and retirement becomes possible, even if not expected. Achieving financial independence is an objective that is not unique to corporate executives, but, in their case, the means of achieving such independence can be unique.
Naturally, investment planning and savings are at the center of this pillar, including a focus on building cash reserves while simultaneously establishing an investment strategy for capital growth and preservation. Corporate executives, however, are disproportionately exposed to the fortunes of their employers and industries. In addition to the fact that their earnings are tied to their employers, the fact that they might have deferred compensation, long-term incentives, and substantial equity-based holdings all tied to the performance and financial health of one company or industry requires substantial tailoring to the traditional investment-planning process. A failure to address this reality can be devastating.
Planning for and minimizing taxes
Tax planning is an excellent example of how the five pillars are interrelated, as it is part of each of the other pillars. While planning for and minimizing taxes should be a basic part of any financial plan, there are important areas of focus for corporate executives. Tax planning around equity incentives, deferred compensation and retirement plans is especially important, as well as optimizing deferral opportunities; maximizing certain deductions and credits; minimizing taxable ordinary income in favor of capital gain; planning for withholding, estimated, and employment taxes; utilizing tax-efficient debt; and, of course, incorporating tax considerations into the global investment plan.
Planning for others
Process of planning for others focuses on dependents, estate planning and philanthropic planning. Again, while these needs are universal, corporate executives frequently require a specialized approach, especially as it relates to their equity incentives, deferred compensation and retirement plans. Concepts such as asset titling, beneficiary designations, trust utilization, charitable trusts, donor-advised funds, and legacy planning are all areas of elevated focus.
Risk management for corporate executives takes many forms. It must include an assessment of all investment risks, including concentrated exposure to one’s employer’s equity. Yet, it also must involve a general insurance assessment, which, in addition to reviewing all the key types of insurance, also includes a careful review of directors and officers, umbrella and excess liability insurance. Risk management for corporate executives also should address the possibility of job loss, as well as the contractual and other implications of such a possibility. Finally, corporate executives have an extensive set of legal and securities-law obligations that they must address and incorporate as part of the risk-mitigation process.
Putting it all together, effective financial planning for corporate executives requires an understanding of their unique traits, circumstances, goals and objectives. It requires a specialized focus on the five pillars of peace of mind: maximizing the rewards of working as an executive, achieving financial independence, planning for and minimizing taxes, planning for others, and managing risk. For a more detailed discussion, I invite you to read Personal Financial Planning for Executives and Entrepreneurs.
Michael Nathanson, JD, LLM, is chairman and chief executive officer of The Colony Group, a fee-only registered investment advisor based in Boston, MA.
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