Financial Choices

FOR MUCH OF THE seventeenth and eighteenth centuries, European monarchs used a financial instrument known as a tontine to help finance their governments.

Tontines were first developed in the 1650s by an Italian government worker named Lorenzo Tonti and were similar to annuities: In exchange for a single, lump-sum purchase, tontines offered guaranteed payments for life. But tontines also offered some unique features.

Unlike an annuity, where payments end with the death of the owner, tontine holders had the option of tying the payments to another person. A parent, for example, could name their son or daughter on a tontine, thus extending the payments over a much longer period.

In the 1750s, however, a Swiss banker named Jacob Beaumont had a realization: While the owners of tontines typically named their children, a quirk in the rules permitted a tontine owner to name any individual. To Beaumont, this presented an opportunity: Why not name the youngest possible person, thus extending the stream of payments even further? 

In his home town of Geneva, Beaumont identified ideal candidates for this role: young children who came from well-heeled backgrounds and were thus likely to have access to good healthcare. He then began loading up on tontines tied to the very long life expectancies of these children.

The strategy worked exactly as expected and delivered Beaumont enormous profits. Other investors then piled in, mimicking Beaumont’s strategy, which, for a time, offered a virtually no-lose opportunity for profit. This went on until the French government, in frustration, discontinued its tontine program.

When it comes to financial decisions, it’s the rare situation that’s as obvious as the one that Beaumont identified. Instead, most financial decisions entail some amount of uncertainty and are subject to judgment. Some choices, though, are closer than others to being obvious decisions. Here are six that I see frequently. 

1. Certain Social Security claiming decisions are without question. For example, if you’re married and plan to claim the spousal benefit, it’s important to know that this benefit hits a maximum at full retirement age (FRA), which is now age 67 for most people. Unlike workers’ own benefits, which can continue to increase all the way to age 70, spousal benefits are subject to a different rule, so there’s no benefit for anyone to wait beyond FRA.
2. You may be familiar with umbrella insurance. This provides additional liability coverage on top of auto and homeowner’s (or renter’s) insurance. Because it covers low-likelihood situations, such as someone slipping and falling on your front walk, umbrella coverage is extremely cost effective—sometimes as low as a few hundred dollars per year. I see it as an obvious benefit because the situations it covers, however unlikely, are also the ones that could be the most expensive. And because it would be the insurance company that would face exposure, insurers provide legal defense, at their expense, if there is ever a claim. How much coverage should you have? I generally recommend between $1 million and $5 million, but the key point is that almost any coverage is better than none.
3. In choosing an asset allocation for your portfolio, I think it’s best to avoid rules of thumb, because everyone is different. At the same time, a recommendation that I see as universal is to avoid extremes. I wouldn’t get too close to 100% bonds because of the corrosive impact of inflation. And I don’t like getting too close to 100% stocks because of the volatility and risk of loss. That’s always been my view, but recent research can help investors narrow the range further. William Bengen, creator of the “4% rule,” published a book last year in which, for the first time, he looked at the question of portfolio longevity through the lens of asset allocation. What he found was that portfolios with stock allocations between 45% and 75% offered the highest sustainable withdrawal rates over multiple decades.

1. If you’ve recently retired, you may be considering a Roth conversion, whereby you’d move dollars from your pre-tax IRA to a Roth IRA. This is a popular strategy, but the catch is that a tax must be paid when a conversion is completed, and your tax bracket can increase as you convert more. Convert too much, and you can negate the benefit of a conversion. For that reason, it isn’t always obvious whether a conversion is advisable. There is one situation, though, where a conversion offers an almost obvious benefit: If your income, even with a conversion, would be in one of the two lowest tax brackets (10% or 12%), then it’s unlikely you’d ever find yourself in a lower bracket than that in the future. In that case, especially because of special deductions provided by the new tax rules, I’d view it as an almost obvious choice to proceed with a conversion up to the top of the 12% bracket.

1. Looking to make charitable gifts? Because the standard deduction is now so high, fewer taxpayers are able to itemize deductions, and that can limit the tax benefit of donations. But there’s still a way to gain a tax benefit: If you have appreciated stocks in a taxable account, you can donate them to a donor-advised fund. That would allow you to sidestep the capital gains tax that would otherwise be due if you sold those stocks. Many donor-advised funds have no minimums, making this an easy choice, in my view.
2. If you believe your estate will top the estate tax threshold (about $15 million per person at the federal level, but much lower in certain states), then I would be sure to use the annual exclusion (currently $19,000 per donor and per recipient) to make incremental gifts to your heirs. That's because this annual exclusion is in addition to the lifetime exclusion and doesn’t carry over from year to year.

Note that these gifts don't have to be made in cash if the recipients aren't yet in a position to receive them. As alternatives, you could make contributions to a 529 account or to a trust for their benefit, and these contributions would count toward the annual exclusion. Adam M. Grossman is the founder of Mayport, a fixed-fee wealth management firm. Sign up for Adam's Daily Ideas email, follow him on X @AdamMGrossman and check out his earlier articles.

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