Cash-flow forecasting has become, in recent years, a significant tool in the modern Financial Planner’s service proposition. Technology has been a big driver of this with cash-flow forecasting tools available which can be utilised in front of a client on mobile devices with various scenarios played out. At The Timebank, we have seen cash-flow forecasting being used in an increasing number of Defined Benefit Pension Transfer cases as evidence of suitability and sustainability of income for clients. This is great on a number of levels in terms of matching recommendations to client circumstances and demonstrating a holistic financial planning approach, however, the message to the client needs to be clear and what we see are the assumptions used by firms are widely variable, particularly in terms of growth rates, and sometimes high in the number of projections produced with differing underlying growth rates which can be confusing for clients. The cash-flow forecasts often provide different results and conclusions than the TVC or the critical yield figures provided, and the amount of information being provided to an average client is bound to cause some perplexity.
FCA rules do not disallow the use of cash-flow forecasts, or other projections provided the FCA Handbook is adhered to with regards to projections. Firms must use growth assumptions that are no less conservative than the mandated assumptions and, where other assumptions are used in addition, these must be realistic and supported by objective data. Charges must be accounted for and all relevant projections should be explained clearly to the client.
The objective of the rules is to ensure that clients are given a fair and accurate indication of how their finances might look in future so that they can make an informed decision as to whether to transfer or not. Facing the client with different outcomes from different projections, especially without adequate explanation, hinders an informed decision and could result in a future complaint. Ideally, firms should ensure that they use consistent assumptions which means the same growth rates as assumed in the KFI of the recommended products.
There are two areas which require thought around how your firm uses cash-flow forecasting:
- are the assumptions realistic and compliant?
- how the results are presented to the client and how well does the client understand it?
It is widely known that the FCA has voiced concerns about the use of cash-flow forecasting, especially with regards to the underlying assumptions and how well the client understands the results. This view is easy to understand when a client can be faced with 5, 10, 15 or more different graphs, based on optimistic and unrealistic assumptions, which are not viewer-friendly or easy to understand and when there is no clear explanation from the adviser.
The first issue can be easily managed by using the growth and charges figures from the KFI. Resolving the second issue is less straightforward. In many cases, it will be best to simply use the cash-flow forecasts in the background to the advice as support for the recommendation made but not presented in detail, or at all, with the client.
If the output is to be presented to the client, advisers should ensure that the cash-flow forecast is explained clearly to the client, that conversation is well documented on the file and that the client is not faced with more charts, information and scenarios than is really going to help the client to make an informed decision.