Deal-breakers
As a parent, one of the most frustrating things is to get your kids (1) to eat and (2) to hopefully eat something healthy. For my middle child, Judah, this can sometimes be a challenge. We have a normal rotation of meals because familiarity helps avoid resistance, but on “chicken bowl” night, there is often a Judah-daddy showdown. We go through this negotiation of how many pieces of broccoli will be in his bowl. I can often advocate for three pieces, but four pieces is always a deal-breaker.
In 2011, the late great David Stern became the deal-breaker poster child. The then-NBA commissioner put the veto on a trade that would’ve sent Chris Paul, in the prime of his career, to join Kobe Bryant on the Los Angeles Lakers. At the time, the NBA had an ownership interest in the New Orleans Hornets, so Stern was straddling this potential owner/commissioner conflict of interest when he put the kibosh on the deal. A trade that really would’ve changed the landscape of the league.
Growing up, one of my favorite evening traditions was watching Seinfeld with my parents. Jerry was rumored to be making $1mm per episode, and it felt like every household was tuned in to watch a show about nothing. The show highlighted Mr. Seinfeld’s dating life and how each relationship fell short based on some deal-breaker quirk; terms like “man hands” and “the close-talker” were added to our vocabulary.
So, whether it be Judah, Jerry, or Mr. Stern, it seems that there is always this invisible line that just can’t be crossed, and this line represents a deal-breaker. The question I would like to address today is whether something could be incredibly important, but not a deal-breaker. To unpack this further, let’s dive right into some common finance-related deal-breakers: taxes and fees.
Taxes
I know you know this, but it’s worth stating the obvious that people hate paying taxes. This incredible distaste for taxes makes a lot of tax-related conversations hard to approach. For many investors, taxes are a deal-breaker.
I can’t tell you how many conversations I’ve had where people are in full agreement with our approach to investing, planning, etc., but the deal-breaker becomes the associated tax implications with making a change.
What you pay in taxes is an incredibly important number to monitor, strategize, plan for, and avoid in all legal forms. BUT can taxes be an incredibly important consideration without being a deal-breaker? I would argue so. Many of the conversations around taxes revolve around a capital gain that exists but has yet to be realized. When it comes to gains, we must always categorize them as unrealized and realized. A realized gain means that a security was sold at a profit, and the gain is represented by the difference between the cost and the sale price, which creates a tax liability in the year it is realized. An unrealized gain is one that can be seen on your statement – the market value less the purchase price – but no sale has occurred to realize that tax liability.
A sizable unrealized gain can be the most paralyzing reality for an investor. That disgust with taxes makes some investors feel stuck in the mud. The pain of even considering a tax liability can often be greater than the other collateral damage caused by a do-nothing approach.
Here’s my advice: just don’t let the conversation of realizing a gain be a non-starter, don’t let it be a deal-breaker. Operate with a posture of consideration and lay out all the options available to you. Be open to not only considering the implications of paying a tax, but also the other considerations (opportunity cost, risk, etc.) that relate to doing nothing. One of the greatest tools at your disposal when it comes to financial planning is options. That concept of optionality means that for any potential problem or financial hurdle, you have multiple potential solutions to consider.
Even just thinking out loud, when I am planning through a capital gain realization I will consider: the tax impact relative to the value of the portfolio, the benefits to stretching the liability over multiple tax years, the offsetting potential with tax loss harvesting, the potential for an exchange fund, the costs/benefits of deferring until a step up in basis, if the power of substitution could play a role, how this asset could fulfill an current charitable desire, the impacts of gifting this asset irrevocably, the consideration of an opportunity zone investment etc. etc. etc. I am not creating this laundry list to confuse or flex intelligence, but rather to express the vast number of options and considerations that exist.
Stubbornness is one of the most unattractive qualities, so keep a short deal-breaker list and keep open doors for dialogue, rather than shutting doors to opportunity.
Fees
This is an intimidating topic to broach because my livelihood depends on it, so I will submit my bias upfront.
Much like taxes, fees can often be a deal-breaker. Fees to advisors, fees to an attorney, fees within a mutual fund, and any possible fee-related topics are often sensitive subjects.
I want you to know that fees matter; they actually matter a lot. Fees are a direct headwind on performance, and if not managed wisely, they can be… costly. With as much emphasis as I expressed that, I also believe investors can get tunnel vision regarding fees. I think the saying goes, “missing the forest for the trees.” Forever and always, fees must be considered within the context of the greater picture.
Don’t let fees be a deal-breaker; rather, let fees be a conversation starter. What you want to gather from that conversation is what exactly you are paying for, and to conclude that you are deriving some form of value, not a superfluous cost. In our industry, fees became the black sheep because of some bad actors. Brokers churning accounts and mutual funds charging excessive fees for index-like products created this disgust, and rightfully so.
I can use myself as an example. There are a few investments that I personally own, and relative to other investments, they are by all definitions expensive – I pay a management fee and performance fee on these investments I am referencing. Am I doing this ignorantly? No. Am I just charitably inclined towards these investment managers? Of course not. I value the exposure to these particular areas of the market, I pay for the expertise involved in managing that exposure, and I am regularly measuring the net-of-cost outcomes being generated. I keep my eyes open for alternative options, and I keep my due diligence cap tightly secured.
Your investment manager, your financial advisor, your attorney, etc., have the burden of proof on them; they need to provide value and be able to easily express that value. Sometimes this will be clearly quantifiable in a well-thought-out tax strategy, and other times it is going to be more mushy, like the hand holding during tough markets or the security/peace one feels knowing that someone else is at the helm.
Don’t let fees be a deal-breaker; rather, let fees be a priority topic to be addressed.
As a Mule
As I referenced earlier, stubbornness is one of the most unattractive qualities. It’s up there with poor hygiene and bad tippers. Sure, I chose to talk about two taboo personal finance topics, but hopefully you gathered the underlying message of the importance of openness, consideration, and the value of options.
One of the best ways to fight stubbornness and shorten your deal-breaker list is to have a go-to replacement for “no!” Some people like to make lists – pros and cons or costs and benefits – while other people might just like to think out loud and talk it through. Whether it is a conversation or a pen and paper list, just have a plan to side-step those visceral responses we are all prone to.
I’ll end with this visual. Financial planning is one of those rare crafts where there is a maze you have to navigate – ’tis the season to imagine that hay bale or cornfield maze – but this maze has multiple paths that lead to the finish line. Stubbornness often lives in a world where only one path exists, and that is simply not the reality in the world of financial planning. So, zoom out, take advantage of that eagle’s eye view perspective and get your bearings for what viable paths are available to you.
Until next week, friends…
