Having joined Advizr recently from positions as the head of sales teams at two other major financial technology firms, I’ve talked about planning software to advisors for almost two decades, and I’m amazed how far this branch of fintech has come. You would think that an industry full of financial planners would place great importance on software that can make their planning easier and and enhance the client relationship, but adoption of this software hasn’t always been the case among advisors. I remember a time when it didn’t even make the top 10 most utilized technologies in industry surveys. Now, it has quickly become one of the core applications for financial advisors and seems poised to achieve even greater utility.
Financial planning software has many exciting areas to talk about these days but I’d like to focus this post on the history of the terms “cash flow-based” and “goals-based” in regards to planning technology. The distinction between the details of these two design philosophies is valuable to help understand the future of planning software because in the history of this sibling rivalry, there were no restrictions in development; rather, the philosophies of the developers shaped the practical application of financial planning in technology.
Many people in our industry are familiar with this term as it was the initial (and only) design philosophy for financial planning software from the late 1960s to late 1990s. At first, the aim of planning software was simple: to model the sophistication and potential comprehensiveness of the financial planning process. Of course, this was easier said than done!
The term “cash flow-based” wasn’t widely used to describe the first iterations of financial planning software until a second category appeared in the mid 1990s that called itself "goal-based". In the pursuit of thoroughly modeling all the variables in financial planning, including all inflows and outflows of money throughout the entire life of the plan, the extensive details in plan data entry and client deliverables became stigmatized as being hard to learn, hard to use, time consuming, and hard to present to clients. Several of the first financial planning software vendors caught on too late that client engagement was an important reason to use this kind of software. In the race for comprehensive, analytical features, some developers forgot to think about the user experience for both the financial advisor and their client. This is where "goal-based" planning found a toehold in the industry.
Many financial planners came to realize a good portion of their clients only wanted an easy way to understand and trust the plan devised by the planner, or perhaps even just inspiration to move in the right direction! Other planners pointed out that a financial plan is built on so many assumptions, even ones controlled or input by the financial planner, the only guarantee in a plan is that many of the assumptions made will be wrong and the plan’s projections will often be far from reality. With the advent of "goal-based" software, vendors put the client’s goals front and center for both inputs and outputs, which simplified the planning process from the detail-heavy cash flow-based applications that dominated the market at that time.
Using this definition of “goal-based” and “cash flow-based”, in applications with a goal-based design philosophy, most inflows and outflows really only start at the client’s retirement, while cash flow-based software is concerned about the inflows and outflows of money throughout the entire life of the plan. Goal-based software usually compensated for this by assuming that money earned in the accumulation phase of their lives would be represented by additions to assets. In the 1990s, this was a novel approach that greatly simplified the inputs needed. With the advent of goal-based software came the most powerful word used to design fintech today: easy!
Advisors who migrated to goal-based systems learned to expect certain benefits that aimed to mitigate drawbacks of traditional cash flow-based applications, such as ease of use, a lower learning curve, and more expedient plan creation - which all lead to more engaged clients. Today, these are the most expected qualities of goal-based software by advisors despite their understanding of how assets are used or how cash flow is applied in either type of technology.
Under the Hood
There are several other key differences between these philosophies of design that remain relatively unnoticed by most advisors I speak with. The most notable are the growth and use of individual accounts. In several goal-based applications, a single rate of return and standard deviation is assigned for all asset growth for the purposes of easy use and understanding. If a client’s portfolio of $100k invested conservatively was entered in the plan along with their $100k invested aggressively, all of their assets would be projected to grow moderately. The capital market assumptions used to run a Monte Carlo simulation also used those moderate variables.
For some plans this process is adequate, but for the times where that’s not true, it can be an awkward conversation. The most common example is college planning. When modeling this goal in a client’s plan, advisors often want to show a college savings plan growing more conservatively than retirement assets earmarked for use much further in the future. This scenario is not usually possible in a goals-based software that doesn’t differentiate between recommended account and product types. Another potentially awkward conversation is around retirement distribution planning, which is requested by more and more advisors every year. It can be hard to talk to clients about distribution strategies unless you’re looking at characteristics of individual accounts, which most goal-based softwares don’t do.
The Next Generation of Financial Planning Software
If you can’t already tell, I’m a fan of a cash flow-based software. However, I haven’t always worshiped at that altar. In fact, I spent the first 14 years of my career talking about the benefits of "goal-based" over "cash flow-based," but I was also very cognitive of one simple fact: the largest advantage of goal-based software when it first came out was that cash flow-based competitors never adjusted their products to advisors’ expressed need for ease of use and client engagement. Even after goal-based software experienced years of success and dramatically increasing market share, cash flow-based providers still doubled down on analytics. I also knew that the only reason why the initial rounds of cash flow-based applications were difficult to use was simply because they were designed that way.
I believe that the next evolutionary step in financial planning software begins with erasing the noticeable differences between these two design philosophies. This is what we aim to do at Advizr: cash flow-based sophistication with the ease of use and client engagement of goals-based software. I propose that if you can take a cash flow-based software and design it with a goal-based attitude, this type of evolved planning software is exactly what you’ll get. Thus, I believe the terms "cash flow-based" and "goal-based" as defined above will start to fade from our industry jargon, as the need for two separate design philosophies disappears.
The Future of the Lingo
Some of you may have different definitions of “cash flow-based” and “goal-based” software that you’ve heard used around the industry. Usually, these other definitions have to do with whether or not the software takes into account a client’s realistic budget and works forward to solve for what goals they can realistically accomplish given their income and expenses (sometimes called “cash flow-based”), or if the budget is not required and the software solves for how much a client needs to save in order to reach a specific goal (sometimes called “goal-based”). In our next blog post, "Cash flow based or goal based? Where do we go from here?" by Advizr’s Director of Financial Planning, Rachel Sanborn, we’ll discuss these definitions in more depth and attempt to clarify the lingo for future use.